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Building or renovating? Choosing the right loan

Financing can be tricky – things you should know

Building or renovating is a great way to get the house you want. You have the freedom to add quality craftsmanship and the design features that you and your family value. Creative projects like these are both exciting and stressful.

Many new homeowners look at the benefits of purchasing a house and land package. Not only do you need the right loan features to save on interest and have greater control of your project, you need the right advice on how the loan is to be considered by your lender. The most common way to fund a construction or renovation is by choosing a ‘building loan’ or ‘construction loan’ to draw down funds progressively as you meet building milestones.

There are generally two scenarios when applying for finance.

Scenario 1

You have the option to purchase a parcel of land with agreed building plans. You enter into a single contract for their purchase that settles on completion of the house and we call this a house and land package. In this instance the builder is the owner of the land.

When the lender assesses this type of contract, the loan is calculated on the value at completion and is settled in a single transaction similar to a normal house purchase. Most lenders will require council stamped plans, a fixed price building contract and a certificate of currency of the builder’s insurance policy.

Scenario 2

You have the option to purchase a parcel of land and you may or may not have building plans available at that time. You enter into a contract for the purchase of the land and a separate construction contract for the building of the house. In this instance the vendor of the land may be different to the builder.

You will need two different types of funding: the first for the land purchase and the second as a construction loan. There will be separate settlements for each. In relation to the construction loan you will be required to draw down the loan in instalments to make progress payments as significant milestones in the construction are achieved.

Understanding progress payments

Typically, a build from start to finish encompasses anywhere from three to six significant stages. These stages could include pouring the foundations, erecting the framework, roofing, lock up, fitout and completion.

To commence the building process you will generally be required to pay an initial deposit and then as building progresses you will be required to make additional payments as each stage is completed. These additional payments are commonly referred to as progress payments. It is important to make these payments in order for the builder to progress with the following stage.

You will most likely be paying the progress payments with funds drawn against your construction loan. Accordingly over time the amount owed under your construction loan will grow together with the interest payments associated with the loan.

Budgeting for the associated costs of building a home

When it comes to choosing finance to build or renovate your new home, there are a number of associated costs to consider. You will need to factor in stamp duty (on the mortgages AND on the transfer of the property or land), legal costs, insurance, surveys and searches, inspections, council rates and how progress payments are to be made. Other costs you may incur are rent and moving costs (if you have to rent while your new home is being built) and landscaping expenses after the building is complete if they were not included in your contract.

Your state stamp duty office can provide information on how much stamp duty you have to pay, how it is calculated and if you are entitled to a rebate, exemption or deferred payment. Better still, we are always happy to provide this information for you – simply call the office.

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Important note: Scenario 1 is long term off the plan so usually carries far more risk than scenario 2 as banks will usually only approve finance for six months. If the project takes longer and there are changes to your financial position in the meantime, you may not be able to settle the finance. In this event, you could lose between 10-30% or more of the project cost so make sure you discuss this risk and its management with us and your solicitor.

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