Construction Loans in Australia: How They Work and How Builders Are Paid

Enric Tarraso-Letang
2 days ago
4 min read

Building a home in Australia is usually financed through a construction loan, which operates very differently from a standard home loan.

Understanding how funds are released, how builders are paid, and how repayments work during construction can help you avoid delays, cash flow stress, and unexpected surprises.

This article explains the standard construction loan process used by most Australian lenders. While the principles are broadly consistent across the market, specific requirements may vary depending on the lender, loan product, and state regulations.

What is a construction loan?

A construction loan is a type of home loan designed to fund the build of a residential property. Unlike a traditional mortgage, the full loan amount is not paid upfront.

Instead, the lender releases funds progressively as the construction reaches agreed milestones. These staged releases are known as progress payments or drawdowns.

This structure ensures:

The lender only funds completed work
You only pay interest on money that has actually been used

What happens once the loan is approved?

Once your construction loan is formally approved and all initial conditions are met (land ownership, signed building contract, insurance, permits, etc.), the loan is set up but not fully drawn.

At this stage:

A construction loan account is established
Funds are approved and allocated for staged release
Construction can commence in line with the building contract

How progress payments work

Your building contract includes a Progress Payment Schedule, which outlines how much the builder is paid at each stage of construction.

While contracts differ, the most common stages are:

Deposit
Slab or foundations
Frame
Lock up (external doors and windows installed)
Fit out or internal finishes
Final or practical completion

When a stage is completed:

The builder issues a progress claim or invoice
You confirm the work has been completed
You authorise the lender to release the payment
The lender reviews the documents and may arrange an inspection
Funds are paid directly to the builder

In most cases, the money does not go through your personal account.

Documents usually required for each drawdown

Most Australian lenders require:

A signed progress payment request or drawdown form
A valid tax invoice from the builder (including ABN)
Confirmation the stage has been completed
A progress inspection or valuation at certain stages

Payments are not released until all required documents are received and approved.

Progress inspections and valuations

Lenders typically conduct progress inspections at key stages of the build to confirm:

The claimed work has been completed
The value of the work aligns with the requested payment

Some lenders inspect almost every stage, while others only inspect major milestones such as slab, lock up, and final completion. This depends on the lender’s internal policies.

How repayments work during construction

One of the most important features of a construction loan is how repayments are structured while the home is being built.

Interest only during construction (most common)

The majority of lenders apply interest only repayments during the construction phase.

This means:

You only pay interest on the portion of the loan that has been drawn
If your total loan is $600,000 but only $200,000 has been released, interest is charged only on $200,000
Repayments are lower while construction is ongoing

This structure is standard because:

The full loan amount has not yet been advanced
The property is not yet complete or occupied
It helps manage cash flow during the build

Principal and interest during construction

Some lenders allow or require principal and interest repayments during construction, although this is less common.

This may suit some borrowers who:

Want to reduce the loan balance earlier
Are comfortable with higher repayments during the build

However:

Repayments are higher before the home is finished
It can create unnecessary financial pressure

For this reason, interest only is the most widely used structure during construction, with the loan converting to principal and interest once the build is complete.

What happens when construction is finished?

When construction reaches practical completion:

The final progress payment is made
A final inspection or valuation may be completed
The construction loan converts to a standard home loan
Repayments usually switch to principal and interest over the agreed loan term

Cost overruns and variations

If construction costs exceed the approved budget:

Lenders generally do not automatically fund the excess
You are usually required to contribute additional funds
Any significant variations must be disclosed to the lender

Maintaining a contingency buffer is strongly recommended when building.

Construction loan vs standard home loan

Feature	Construction Loan	Standard Home Loan
Funds released	By stages	All at settlement
Builder payments	Progress payments	Not applicable
Repayments during build	Usually interest only	Principal and interest
Inspections	Required	Not required
Loan conversion	Converts after completion	No conversion

Important disclaimer

This information is general in nature and reflects standard construction loan practices in Australia. Loan structures, documentation requirements, inspection policies, and repayment options can vary between lenders, loan products, and states.

Always confirm specific requirements with your lender or mortgage broker before signing a building contract.

Final thoughts

A construction loan is designed to finance your build progressively and safely, not through a single upfront payment. Understanding how drawdowns, progress payments, inspections, and repayments work puts you in a much stronger position throughout the build.

If you are planning to build and want clarity on: