Building your own home is exciting — but financing it can feel confusing. Construction financing works differently from a regular mortgage: instead of getting your loan in one lump sum, your bank releases funds in stages as your home is built.
In this guide, we’ll break down exactly how the process works, what to expect at each stage, and how to avoid costly mistakes during your build.
Let’s dive in.
Table of Contents
What Is Construction Financing?
Buying a finished house and building a property are two completely different things. Construction financing is used for basic renovation, to construct a home from scratch or to do substantial renovations.
It is a specialised lending option for individuals who are renovating or building a house, as it facilitates them in successfully completing the entire construction process.
Construction financing is a home loan with a construction facility where the bank will pay the builder in smaller instalments, called progress payments while building the house.
Why Is Construction Financing Complicated?
It is not easy to build a house. In fact, it is a very complex process that involves multiple stakeholders.
The following are the key stakeholders involved in the construction of a home:
- Solicitors
- Contractors
- Builders
- Lenders
- Quantity Surveyor
- Accountants
- The Council
So many parties are involved in the process, which can be quite challenging sometimes.
For example, one expert may not be able to understand the field of the other party, which can lead to errors and complications.
A large number of financial institutions and mortgage brokers are not familiar with construction at all. This can lead to problems such as g approval of incorrect loan amounts and delay in loan disbursement due to constantly changing requirements.
Construction Financing Step-by-Step Process
Building your dream home can feel overwhelming. But once you understand the process, it becomes much easier to manage. Here’s how construction financing works, step by step.
Step 1: Pre-Approval and Budget Planning
Start by working out your total costs. Include the land price, build cost, and a 5–10% buffer for unexpected expenses. Your mortgage broker or lender will then check your income, savings, and credit history to confirm how much you can borrow.
Step 2: Valuation and Loan Approval
Once you apply, the bank orders a valuation. This valuation estimates your home’s final value once construction is complete. The bank uses this “as-completed” value to decide your loan amount and loan-to-value ratio (LVR).
Step 3: Construction Begins and First Drawdown
After loan approval, construction can start. You’ll make your first drawdown — usually the deposit and base stage — to pay your builder. At this stage, you’re only paying interest on the funds already released, not the full loan.
Step 4: Ongoing Inspections and Progress Payments
As the build progresses, your builder sends invoices for each completed stage. Your lender may send an independent valuer to confirm the work is finished before releasing the next payment. This protects you and ensures funds are used correctly.
Step 5: Final Valuation and Conversion to Home Loan
When construction is complete, your lender performs a final inspection. After approval, your loan converts to a regular home loan, and repayments shift from interest-only to principal and interest. You now move from building your home to living in it — congratulations!
What Construction Loan Documents Do I Need?
As with a regular home loan, you will need your latest payslips, a few months’ savings statements and other supporting documents—but you will need a few extra things to get a construction home loan. These are:
- Building Contract. The building contract contains things like the construction stages, progress payment schedule, how long the build time is and the price to construct your new home. Here is an example of a full Queensland HIA Building Contract. The good news is that in Queensland, you do not need to sign the building contract to get your finance approved!
- Building Plans. Before your home loan is approved, you do not need council-approved building plans, but building plans will give the valuer an idea of the property layout and size.
- Specifications. The building specifications give the bank, and valuer, an idea of the types of finishes you will be using in the house and the quality of materials for items like benchtops and appliances. This can make a big difference in the final valuation of the property.
- Extra Quotes. Extra quotes can be anything from solar panels to a pool and even additional landscaping. It is worth giving these to the bank’s valuer so they can determine if these will improve the overall property’s value.
How Does Construction Financing Work?
Construction financing is different from a regular home loan. For traditional financing, a person receives a lump sum loan at the settlement date. Whereas in construction financing, a person receives progress payments from the financial institution at various stages of construction.
What are the stages of construction?
There are typically five progress payments at different stages, including:
- Slabs poured
- Frame up
- Completion of brickwork
- Lock up
- Practical completion
What does a standard HIA progress payment schedule involve?
Banks will often say your builder isn’t following the standard HIA Progress Payment Schedule, which means the builder has changed the amounts you need to pay at the different stages of the construction.
Typically the builders will want to get paid more upfront, but the banks want to spread the payments throughout the construction to spread your risk.
With this being the case, the banks will want you to follow the standard HIA Progress Payment Schedule, which has payments split like this:
- Deposit: 5%
- Base 15%
- Frame 20%
- Enclosed 25%
- Fixing 20%
- Practical Completion 15%
Using an independent valuer
Some financial institutions or banks hire an independent valuer who verifies whether the work has been completed to the standard. The next payment is released only when the valuer provides verification of the work. This can be an effective measure to evaluate the progress of work.
Determining the loan value
In addition to the loan application, banks need a copy of a tender or building contract as well as the construction plans.
The valuer will then assesses what the value of the property will be after completion and also calculates the estimated loan value.
The loan value represents the lower of the two:
- On completion value, or
- Land price plus construction cost
Additional documents required from the builder
Once the builder starts receiving the progress payment after loan approval, he needs to provide the following documents:
- The final plan approved by the council
- Insurance plan
- Drawdown schedule
How Does A Bank Pay The Builder Directly?
You can ask your bank to send progress payments to the builder. For example, once you receive an invoice from a builder:
- Complete the drawdown request form and sign it.
- The form and invoice are sent to the construction department of your bank.
- The bank may need a valuation to verify the completed work.
- Your lender releases further payment to your builder within five business days.
The same process is repeated at every stage of construction.
Payment mechanism
The progress payments are also called drawdowns. A person is liable to pay interest on the drawdown amount. For example, you get a loan approval for $300,000. However, you only draw $50,000 at the beginning. This means you are only required to pay the interest due on the drawdown amount until you draw an additional amount.
At the construction time, the borrower only pays the interest as loan repayment. This provides comfort by reducing financial burden during a stressful period.
You have 2 options for paying the loan:
- principal and interest, or
- you can continue to keep it as interest only.
Which option you choose depends on the lender and financing option you avail.
Knowing the mechanism of construction financing and how it works is very important. It allows you to prepare a good plan and have all the documents ready, along with a good estimate of the overall cost.
Example Scenario: How A $400,000 Build Is Financed
Here’s a simple example to show how progress payments and interest work in real life.
Total Construction Loan: $400,000
Interest Rate (for example): 6.00% p.a.
Loan Type: Interest-only during construction
Stage | % of Total Loan | Amount Drawn | Cumulative Drawn | Notes |
Deposit | 5% | $20,000 | $20,000 | Paid upfront to start work |
Base | 15% | $60,000 | $80,000 | Foundation and slab poured |
Frame | 20% | $80,000 | $160,000 | Framing complete |
Enclosed | 25% | $100,000 | $260,000 | Roof and walls installed |
Fixing | 20% | $80,000 | $340,000 | Interior fittings added |
Completion | 15% | $60,000 | $400,000 | Final touches done |
You only pay interest on the amount drawn. For example, after the first stage, you pay interest on $80,000 — not the full $400,000. This keeps repayments low while your home is being built.
Once your home is complete, your loan converts to a standard principal and interest mortgage. Your repayments then include both the loan balance and interest — just like a normal home loan.
Expert Tip: If you’re unsure how much interest you’ll pay during each stage, ask your broker for a personalised projection.
Can All Banks Do Building Loans?
While most of the major banks can do building loans and construction finance, not all smaller lenders and online banks can offer it.
This is because these banks view construction finance as very time-consuming and riskier than a regular home loan.
After settlement, the lender needs a team to process progress payments and ensure the builder completes the work.
If the bank is slow at processing progress payments, your builder can get frustrated and delay things. So, you want to work with a bank that is good at the construction process and can make payments quickly.
Right now, smaller online lenders like UBank and ING Direct do not allow building and renovation loans.
Managing Risks & Common Construction Finance Pitfalls
Understanding common risks helps you avoid costly setbacks and keeps your project on track. With good preparation, you can keep your build on schedule and within budget.
1. Cost Overruns
Prices can rise unexpectedly due to material shortages or design changes. Always set aside a 5–10% contingency fund to cover any increase. Review quotes regularly and lock in contracts early to avoid last-minute price spikes.
2. Delays in Payments
If your lender takes too long to process progress payments, your builder may stop work. Choose a lender or broker familiar with construction finance to keep things running smoothly. Stay in touch with your broker at each stage so payments are approved without delay.
3. Builder Insolvency
If your builder goes out of business mid-project, your loan can stall. Protect yourself by checking their licence, insurance, and track record before signing any contract. Also confirm they’re covered under your state’s home-building compensation scheme for extra security.
4. Low Valuation Results
Sometimes the valuer’s estimate comes in lower than expected.If that happens, discuss a review with your broker or provide more evidence of comparable builds. Keep detailed plans, specifications, and quotes ready — these help support a higher valuation if needed.
5. Permit and Approval Delays
Council or planning delays can affect your timeline and extend interest costs. Apply for all approvals early and keep your lender informed of any updates. Schedule follow-ups with your builder and council so approvals don’t quietly stall your progress.
Pro Tip: Work with a construction loan broker who handles construction loans regularly. They can anticipate lender issues before they become problems. Having an expert on your side saves you time, stress, and unnecessary costs.
Construction Finance FAQs
Can I use equity from another property as my deposit?
Yes, you can use the equity in your existing property as a deposit for your construction loan. This approach reduces your upfront cash requirement and leverages your current asset to finance the new build. However, ensure you have sufficient equity and consult with your lender to understand the terms and conditions.
How is interest charged on a construction loan?
Interest on a construction loan is typically charged only on the funds you have drawn down, not on the total approved amount. This means you pay interest progressively as the construction progresses, helping manage cash flow during the build. Some lenders may offer interest-only repayments during the construction phase, which can further ease financial pressure.
What happens if my builder goes over budget?
If your builder exceeds the agreed budget, you are generally responsible for covering the additional costs. To mitigate this risk, it’s advisable to include a contingency fund of around 10–15% of the total project cost. This buffer can help absorb unexpected expenses and keep your project on track.
Do you pay a mortgage while the house is being built?
Yes, during the construction phase, you will make interest-only payments on the drawn-down portion of your construction loan. Once the build is complete, the loan typically converts to a standard home loan, and principal and interest repayments commence.
How do construction loans work?
Construction loans provide funding in stages, known as progress payments, aligned with specific milestones in the building process. You only pay interest on the funds that have been drawn down, not the entire loan amount. This structure helps manage cash flow and ensures funds are available as needed throughout the construction.
Can you get a loan to build your own house?
Yes, you can obtain a construction loan to build your own house. Lenders typically require a detailed building contract, plans, and a realistic budget. If you plan to act as your own builder, known as an owner-builder, additional requirements may apply, including demonstrating your capability to manage the project.
How to finance a home extension in Australia?
Financing a home extension can be achieved through a construction loan, a personal loan, or refinancing your existing mortgage. The choice depends on the scope of the extension, your current equity, and financial situation. Consulting with a mortgage broker can help determine the best option for your circumstances.
Difference between construction loan and home loan
The primary difference lies in the disbursement of funds:
- Construction Loan: Funds are released in stages as construction progresses, and interest is paid only on the drawn-down amount.
- Home Loan: Funds are provided as a lump sum at settlement, and interest is paid on the full loan amount from the outset.
Do construction loans have higher interest rates?
Yes, construction loans often have higher interest rates compared to standard home loans. This reflects the increased risk associated with lending for a property that is not yet built. However, the rates can vary depending on the lender and your financial profile.
Which bank has the best construction loan?
Interest rates for construction loans in Australia as of October 2025 range from approximately 5.34% to 5.68%. The best loan for you depends on factors such as your financial situation, the loan amount, and the specific terms offered by each lender. It’s advisable to compare offers from various banks and consider consulting with a mortgage broker to find the most suitable option.
Speak To Home Loan Experts
If you would like to chat about getting a home loan, we’d be delighted to help you out. Speak with one of our experienced mortgage brokers to walk through the next steps with you.
At Hunter Galloway, we help home buyers get ahead in this competitive market. We give you the actual strategies that have helped other home buyers like you secure a property when there have been 5 other offers on the table! Enquire online or give us a call at 1300 088 065.
Unlike other mortgage brokers who are just one-person operations, we have an entire team of experts dedicated to helping make your home loan journey as simple as possible.
If you want to get started, please give us a call on 1300 088 065 or book a free assessment online to see how we can help.
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