You asked, we answered.
The first step to building a house is to find out how much you can afford to borrow – and to arrange for the necessary finance. If you’ve been through this before, you’ll know exactly how this works – if not, there’s a little more to it than just asking the bank for the precise cost of the house you’re looking for.
So we put your questions to Graeme – a client of ours, who is currently building a duplex; being a mortgage broker himself we thought who better to ask and Kris another broker to gain some insight.
I’m looking at building a home what should my first step be?
Graeme – There are a number of steps you should take, and you can take these simultaneously. Essentially you should start establishing your team and getting all your property “ducks” lined up. So, I’d organise meetings with:
- Your Mortgage Broker
- A draftsman who works/has experience in your area
- Your builder
- Give your Council Planning department a call to research what can and can’t be done
- Your Accountant and Financial Planner
- Your Conveyancer
Kris – The first step should always be to consult your bank or mortgage broker to determine borrowing power, minimum deposit and the best way to structure the lending. Using a mortgage broker will naturally offer a wider scope of options and in most cases help you achieve a better rate and lending terms.
What is the biggest obstacle you see homeowners navigating when trying to build?
Graeme – By far and away it is “Misinformation”. In other words – following what others do or being sold in on a dodgy project by a property spruiker.
I’m a massive believer in that the most successful investors (yes – even mum and dad investors!) are the ones that surround themselves with the best team of experts to help them with their project.
As a starting point you need a great Mortgage Broker to help you navigate through the home loan maze and provide you with a wide range of choices.
You will also need a Conveyancer to help you with all the Legal documents that come with Building Contracts and all the other legal matters involved.
It is always recommended too to have an Accountant and Financial Planner to give you their advice about your strategy.
And, you may consider having a Property expert such as a Buyers Advocate (or similar) to help you with your property search.
Kris – In my experience the biggest obstacle to new home builders is the cash flow implications of having to pay your existing mortgage or rent plus the repayments of the construction loan while the property is being built. Although, this can often be mitigated by choosing the right construction loan.
What documents will the bank require prior to approving my construction loan?
Brownhill Homes – Apart from standard documents such as payslips, last 3-6 months savings, your most recent tax return, and your deposit size, you’ll need to provide your bank with the following:
1. A Building Contract
- They will be looking at the stage payments (shown in a question below).
- Trying to get approved for a construction loan when building is like walking backwards: you need to provide the bank with a contract before you can be approved for finance.
So what happens if we cannot obtain finance even after we have signed a contract? This is a great question and one I would always recommend speaking with your Builder about prior to signing the contract. In most instances there should be an allowance in the standard MBA/HIA contracts noting subject to finance approvals.
2. Building Plans
- This is to give the banks valuer an idea of the size of property your building.
- This gives the bank an idea on the quality of materials, fixtures and fittings involved in the build.
- The quality of the build can have a huge impact on the final valuation and, ultimately, your borrowing power
4. Quotes for additional works
This is one of the most over looked areas of construction finance. If there is anything not included in your Building Contract the banks will want to see approx. costs to complete works. These may include such things as:
- Swimming Pools
If you provide quotes, you can borrow to finance these additional costs. If you don’t, you’ll likely need to fund these costs yourself.
Note some lenders will not release money for the additional works until the main house is completed.
What’s the difference between a construction loan and a mortgage?
Graeme – Put simply – a construction loan is a home loan that is used when you build a brand-new residential property or make structural renovations to your existing home.
A construction loan is the same as a regular home loan, other than it is provided in increments – known as “Progress Draws”.
For example, if your Building Contract is $500k… and you are borrowing the full $500k… then the bank will drawdown/provide the funds to you in increments in line with the stages the property is built.
EG: your Progress Drawdown schedule might typically look like this:
- Deposit – 5% ($25,000)
- Slab/Base – 15% ($75,000)
- Frame – 20% ($100,000)
- Lockup – 20% ($100,000)
- Fit-out/Fixing – 30% ($150,000)
- Completion – 10% ($50,000)
- TOTAL – $500,000
Based on the above scenario when do I start making repayments on this loan?
Home loan repayments for construction loans are made in increments that mirror the progress of your build.
Using the example above – you will make repayments on $25,000 after the Deposit is paid… then your total repayments will be based on a $100,000 loan after the Slab is completed (Deposit of $25,000 plus $75,000 Slab)… then your repayments will be based on a $200,000 loan after the Frame is completed… and so on.
How is construction loan interest calculated?
Graeme – Interest is generally calculated daily but charged monthly in arrears. The interest is calculated on the full loan amount – less any funds you may have in redraw or an offset facility.
This is one of the important questions you need to understand prior to signing any home loan contract.
Kris – With most construction loans, interest is accrued on a daily bases and charged monthly. If the loan is interest only during construction phase, the monthly repayments would represent the interest accrued strictly on the loan balance for that month.
Is this different to development finance?
Graeme – Yes – there are differences. A residential construction loan is primary for the building/construction of residential property, whereas Development finance is more in the ‘commercial’ space – meaning it is designed for housing estates, office block conversions, commercial offices and the like.
Kris – Yes, development finance is typically used for the construction of multi dwelling building projects. Funding can extend to both residential, commercial or mixed use properties. In most cases, a condition of the approval is that a percentage of the properties/units must be sold prior to the beginning of construction; these are called pre-sales. Interest and repayments are often capitalised so that the loan can be paid back from the sale of properties being developed.
When building what % do I need before I can start construction?
Graeme – no specific figure – as this will depend on what equity you have to begin with. You may already have existing equity in your property that you can leverage… or savings in the bank… so it really is a “case by case” matter.
Kris – Most lenders will require you to have a minimum of 5% saved prior to construction. However, depending on how much equity you have in the land/site or in another property – you may not need to have any deposit and the lender may be able to fund 100% of the construction.
What does Gross realised value mean?
Graeme – Gross Realised Value (GRV) refers to the end value of the project. Lenders will review both the costs of any project and the GRV, with some lenders only lending a percentage limit against the GRV.
Kris – Gross realised value or ‘GRV’ refers to the projects on completion or end value after the project is complete. Some lenders will consider the GRV when approving a loan and some will only consider a percentage of the GRV and instead rely on the cost of the project.
Are there benefits of building a new property as an investment?
Graeme – Absolutely. Many investors benefit from Taxation or depreciation benefits that reduce the amount of tax they pay (including Negative Gearing) … there are also benefits where a property increases in value over time (Capital Growth) … as well as building a property portfolio to help fund their retirement.
Of course, everyone’s situation is different – that is why it is important to get your own independent financial and legal advice before proceeding with any investment strategy. Don’t rely on what “The Joneses” tell you what they did at the BBQ – do your research and follow your own path.
Kris – There are many benefits of building a property as an investment such as being able to depreciate the cost of construction for tax purposes, builders warranty which mitigates any maintenance and repair costs and brand new properties will usually have stronger rental yields.
I am looking to buy off the plan, are there any benefits of doing so?
Graeme – There are numerous. The main ones that are widely known are the Stamp Duty concessions (ie: Stamp Duty discounts) you get when purchasing off the plan… as well as the Depreciation benefits that come with purchasing a new property (speak with your Accountant about how these may help you).
Sometimes too you can purchase a property in 2019 that is valued at $700k – and as an example – by the time the property is finished in 2021– property prices may have gone up – and by completion it is now worth $800k – so you can get immediate Capital Growth in this regard.
However – it can work in reverse too – property prices can and do go down as well – which is why it is always best to do your research before any purchase.
Be sure to have a buffer of cash, so you can settle even if the final valuation is on the low side and you aren’t able to access the full amount you need from your lender. It’s also important to note that failure to settle means you lose your 10% deposit.
Kris – Buying off the plan can be a great way to save on stamp duty and enjoy potential capital growth between purchase and completion of the property without the need to make any repayment in the meantime. Of course there are also risks to consider which can often be mitigated by getting the right advise.
I would like to subdivide my property, what should I be mindful of?
Graeme – By far and away the main thing to be aware of is whether your property even has the potential to be subdivided.
To check this – you should speak with your Council’s Planning department – as well as engage the services of an experienced Draftsmen who works in and is familiar with your suburb and the Subdivision requirements within it.
What are the 3 biggest mistakes you seen when homeowners are looking at knocking down and building?
- Not having all your finances set up BEFORE knocking down your house so you know there will be sufficient funds for you to complete your new project
- Not having a pre-approval in plan
- Not being surrounded by a great team of people with experience and know-how to help you understand the full process and full costings
What are the pro’s of building vs buying an existing?
Both options have merit – but in the case of building – the benefits can include:
- Designing the exact house that you want – not being stuck with a floor plan or design of an established property that you’re not 100% happy with
- Nothing beats having a brand-new house – they’re fresh – new – look great – are modern – you can have all the very latest and greatest gizmos that are on the market – and are fun to build!
- If it is an investment – there may be Stamp Duty concessions applicable when you purchase the land or Depreciation schedules from the build that can potentially reduce your tax bill
- Ultimately though the main benefit is you get a house that you want – right down to the taps in the bath and all the other fixtures and fittings – you get to choose every aspect of your house, which is awesome fun.
Thank you Graeme & Kris – Needing help with your loan:
Graeme Vimpani – Owner and Director of AlphaLoan Mortgage Group.
Phone: 0411 886 310
Kris Faife – Loan Market
Phone: 0425 119 881
Have questions regarding your build? Send them through to firstname.lastname@example.org