Building your dream home is an exciting journey, but it requires a solid financial plan to bring your vision to life. For many Kiwis, construction loans offer the flexibility and funding needed to turn their dream into a reality. In this article, we’ll explore how construction loans work, their risks, and how to get started.

What Are Construction or New Build Loans?

Construction loans – sometimes also referred to as new build loans – are short-term loans designed to finance the building of a home or significant renovations. Unlike traditional home loans, which provide a lump sum upfront, construction loans are disbursed in stages as the project progresses. These stages, called drawdowns, align with key milestones in the construction process, such as laying the foundation, completing the framing, or installing plumbing and electrical systems.

How Do Construction Loans Work?

To secure a construction loan, you’ll need to present detailed building plans, cost estimates, and a contract with a licensed builder. Lenders assess both your financial situation and the feasibility of your project before approving the loan amount and terms.

It’s important to note that construction loans often have higher interest rates than standard home loans because of the risks associated with unfinished properties. However, you’ll typically pay interest only on the amount you’ve drawn down, which helps manage costs during the build. Once construction is complete and the property has been signed off, most construction loans transition into standard home loans, offering more predictable repayment terms.

Benefits of Construction Loans

One of the key advantages of construction loans is flexibility. Funds are disbursed in stages, aligning perfectly with your construction timeline and ensuring you only borrow what you need at each step. This can give you greater control over your finances and the opportunity to design a home tailored to your specific needs and preferences. Building from scratch can also provide excellent value for money, especially in a competitive housing market.

Risks to Consider

However, there are also risks to be aware of. Cost overruns are a common challenge, often caused by rising material prices or unexpected delays. It’s wise to budget for contingencies and ensure you have extra savings to cover unforeseen expenses. Weather, labour shortages, or supply chain disruptions can also delay progress, potentially increasing costs. Another risk is the possibility of the completed property being valued differently than expected, which can affect refinancing options. Additionally, construction loans are subject to interest rate fluctuations, which might raise your overall costs during the build.

It is also important to be aware of PC Sums (Provisional Cost Sums or Prime Cost Sums) in fixed price contracts. PC Sums refer to allowances set aside in a building contract for specific items or work where the exact cost is not yet determined at the time of signing the contract.

PC Sums might include: 

1. Prime Cost (PC) Sums – Allocated for materials, fixtures, or fittings that haven’t been selected yet, such as taps, tiles, or kitchen cabinetry.
2. Provisional Sums – This is budget set aside for work where the scope or final cost is uncertain, like earthworks, drainage, or foundation costs.

These sums act as estimates, and if the actual cost exceeds the allowance, then you (the homeowner) will have to pay the difference.

How to Get Started

If you’re ready to get started:

1. Consult a financial adviser. Construction loans can be complex, and it’s easy to overlook critical details.
2. Secure Pre-Approval from your bank. This is an essential step prior to signing a fixed price contract. You will then know how much you can borrow for the build and have a set budget when arranging a fixed price contract with the build company.
3. Set a clear budget and outline your goals for the new home. Identify what’s essential and determine how much you can afford to spend.
4. Choose the right builder; work with a licensed and reputable professional who has a proven track record of delivering quality projects. Don’t hesitate to ask for references and confirm that they’re registered with relevant industry bodies. Check what is included in the fixed price contract and what else you might need to pay for.
5. Make sure to get your fixed price contract approved by the lender prior to signing.

At Threefold, our team of experienced advisers can help you navigate the process, understand the fine print, and find a loan that meets your needs. We’ll also guide you through the documentation process, ensuring you have everything required, from building plans to financial statements. Securing pre-approval is a smart move, giving you confidence in your budget and demonstrating to builders and suppliers that you’re ready to proceed.

Ready to build your dream home?

Building your dream home is a significant undertaking, but it’s also one of the most rewarding investments you can make. With the right planning, expert advice, and a reliable construction loan, you’ll be well on your way to creating a home that’s uniquely yours.

At Threefold, we understand that building your dream home is more than just a financial commitment – it’s a personal journey. Our advisers can help you understand your borrowing power, manage risks, and find the right construction loan for your unique circumstances. With our support, you’ll be one step closer to turning your dream home into a reality.

If you’re interested in having a chat about construction loans – or any other aspect of your lending – we’re here to help. And… if you book a complementary review with one of our mortgage, insurance or KiwiSaver advisers this month, you’ll go in the draw to win a month’s mortgage repayments on us (up to the value of $5,000). To book your review, click here.

The content of this article should not be taken as financial advice, or a recommendation of any financial product. These insights are based on current economic commentary, market pricing for interest rates, and our personal opinion. Threefold is not liable or responsible for any information, omissions, or errors present.