How does cost plus construction work?

A construction or building loan is usually based upon a fixed price contract. It can be land purchased with the intent to build, or property purchased with the intent to renovate or knock down and rebuild.

Cost plus contracts do not have a fixed price. This is normally because the builder cannot accurately determine the cost of construction so offering a fixed price would be a significant risk for them.

This is a problem for the bank! They cannot be sure that you have the funds to complete the project. The last thing that the bank wants is to be left with a half finished house as security for a large home loan.

If you are considering borrowing money to purchase property and to finance construction we can help. Some of our brokers specialise in cost plus construction loans, and can determine which lender is willing to assess your application.

To find out more, you can contact us on 1300 889 743, or you can enquire online and our brokers will contact you.

Why is the cost of construction difficult to determine?

The cost and scope of a project may not be able to be determined at the time of the mortgage contract. Whilst existing land and property have their own market value, a future building project can be difficult to price in advance.

Many builders will also not set a fixed price for a construction contract, as materials and labour costs can vary dramatically over time.

This can be due to any of the following reasons:

• A construction project may take longer than estimated. For example, bad weather can delay work.
• Material costs such as commodities and other building materials change in price quite often.
• Labour costs may change per individual or labour requirements may change during the life of the project.

How do the builders get paid?

With a cost plus construction contract, the bank pays the builders directly in a process known as a construction drawdown or progress payment request.

Here the stages of construction are first set using the industry standard.

For example, they could be as follows:

• Foundations
• Frame
• External lining
• Lockup / internal lining
• Practical completion

Once builders complete a stage, they will send you an invoice. You then fill in and send a drawdown request to the bank. Here you are basically drawing down on your loan so the bank can pay the builder.

Every time progress has been made and the builder is asking for payment, this process must be repeated again.

There are few lenders who offer this type of product as an increase in costs can negatively affect a bank’s security position. Therefore at the completion of each construction stage, progress inspectors may be sent to the building site prior to the builders receiving payment.

This may require builders to wait up to five days for a payment once a drawdown request is received. Therefore it is in your best interest to submit these as fast as possible.

What documents will I need to apply?

For the fixed price part of the contract, that is the land and /or building, you will need all the normal documents associated with a loan.

Among the other things that you will need to prepare for a home loan application, you will need a proof of income, identification and documents outlining equity and debt you have within Australia.

For construction loans, you will also need the following:

• Fully completed Construction Loan / Owner Builder Cost Estimate – these are usually forms that the banks provide for you to fill out.
• Evidence of funds to complete construction.
• You must have your building plans and specifications approved by the appropriate council. If they have not been approved, you must have the completed plans you have submitted, or intend to submit to the council.

These forms are only the bare minimum. As construction projects can vary greatly, it is possible that there will be more forms and information you will need to provide.

Can I get a no deposit, 100% construction loan?

No deposit construction loans are no longer available from banks and lenders in Australia. However, by using a guarantor loan, you may still be able to apply.

IMPORTANT: Most lenders do not allow loan increases on guarantor loans. Do not buy land assuming you will be approved for a no deposit cost plus construction mortgage.

There is a chance you will own the land, yet cannot build!

What conditions may lenders have?

Generally, you will not be approved for a loan if you intend to build for the purpose of immediate sale. One of our lenders also requires a fixed price building contract if the contract is less than $1 million.

Another lender is willing to assess owner builder applications for cost plus construction. This is at a maximum 75% of the property value (75% LVR).

Once you have been approved, you may be required to use all of your equity before progressive drawdown payments can be made from the loan. This includes your savings, and if applicable, your First Home Owners Grant (FHOG).

The banks will set a time frame within which construction must commence and another within which construction must be completed. Normally this will be six months and 24 months, respectively, from the date of the contract.

Approval of your loan, or any undrawn portions of the loan, may be withheld or withdrawn after this time.

Do I need a mortgage broker?

Cost plus construction contracts can be complicated and time consuming. Mortgage brokers not only know the guidelines and lending policies of the banks and lenders but they also mediate with them on your behalf.

This saves you doing a lot of your own research. It also means brokers deal with form submission and many of the other processes associated with applying for a mortgage.

Brokers can also help in other important ways. Because we know the lending policies, we will only apply to a lender most likely to approve your application.

This is important, as any declined loan application in Australia adds a black mark to your Australian credit file and each mark lowers your ability to borrow money!

Applying to individual banks dramatically increases the risk of being declined!

What if I am building my home myself?

Those who build their own homes are usually termed as owner builders. Lenders have different guidelines and policies for owner builders.

Apply for a cost plus construction loan today!

If you have a real estate and a construction project in mind, we can help! Call us on 1300 889 743 or enquire online and our brokers will contact you.