Smart ways to approach extensions with construction loans

When Construction Finance Works for Extensions

A construction loan for an extension releases funds progressively as the work is completed, which means you only pay interest on what's been drawn down at each stage. This differs from a standard home loan where you receive the full amount upfront.

Consider an Army member based in Victoria who wants to add a second storey to a suburban home. The build will cost $180,000 and take six months. Rather than accessing the full amount on day one, the lender releases funds after each milestone: slab down, frame up, lockup, fixing, and practical completion. During construction, you're typically making interest-only repayments on whatever has been drawn so far. Once the work is finished, the loan converts to a standard principal and interest home loan.

The progressive drawdown structure keeps your interest costs lower during the build because you're not paying interest on money sitting unused. It also protects you by ensuring the builder only receives payment as they meet agreed milestones, verified by the lender's building inspector.

How Council Approval Affects Your Application

Your construction loan application cannot be formally approved until council plans are finalised and stamped. Lenders need to see the approved plans, the cost breakdown, and confirmation that all relevant permits are in place before they'll issue an unconditional approval.

If you're still waiting on a development application or council approval, you can start the pre-approval process, but the lender won't release funds until the paperwork is complete. For extensions in Victoria, this includes a building permit from the Victorian Building Authority or your local council, depending on the scope of work. If the extension involves structural changes, plumbing, or electrical work, separate permits for plumbers and electricians may also be required.

Most lenders will also require you to commence building within a set period from the disclosure date, usually between three and six months. If the start date is delayed beyond that window, the lender may reassess the loan based on current interest rates and your financial position at that time.

Fixed Price Contracts and Cost Plus Arrangements

A fixed price building contract sets a total cost for the extension and breaks that cost into a progress payment schedule. This is the preferred structure for most lenders because it provides certainty and limits the risk of cost blowouts.

A cost plus contract, where you pay for materials and labour as they're incurred plus a margin for the builder, is harder to finance. Lenders view these as higher risk because the final cost is less predictable. If your registered builder is quoting on a cost plus basis, expect fewer lenders to consider the application, and those that do may apply stricter conditions or require a larger contingency buffer.

For ADF members, some lenders offer benefits that apply to construction finance as well as standard home loans, including reduced fees or access to no LMI loans for ADF members if you're borrowing above 80% of the property's value. If you're using the extension to increase the value of an investment property, the structure may also tie into investment loans for ADF members depending on how the loan is set up.

What the Progress Payment Schedule Looks Like

Most construction loans follow a five-stage drawdown, though the exact structure depends on the lender and the scope of work. A typical schedule for an extension might include:

• Base stage: 10% on signing the building contract
• Slab down or foundation complete: 15%
• Frame up: 25%
• Lockup: 25%
• Fixing: 15%
• Practical completion: 10%

The builder submits an invoice at each stage, the lender arranges a progress inspection to confirm the work has been completed to the required standard, and then releases the funds directly to the builder. Some lenders charge a progressive drawing fee for each inspection, usually between $200 and $400 per drawdown.

If the inspector identifies incomplete or substandard work, the lender will withhold the payment until the issues are rectified. This gives you leverage if the build isn't progressing as agreed.

Interest Costs During the Construction Phase

During the build, most lenders offer interest-only repayment options. You're charged interest on the amount drawn down so far, calculated daily and charged monthly. The interest rate for construction finance is often slightly higher than a standard variable rate, typically between 0.1% and 0.3% above the lender's advertised home loan rate.

As an example, if $90,000 has been drawn after three months and the construction loan interest rate is 6.5%, your monthly interest cost would be around $488. As more funds are released, that figure increases. Once the extension reaches practical completion, the loan converts to a standard home loan structure and you begin making principal and interest repayments based on the full loan amount.

Some lenders allow additional payments during the construction phase, which can reduce the balance and the interest you're charged. Others restrict extra repayments until the loan has converted.

How Owner Builder Finance Differs

If you're planning to act as an owner builder, expect a narrower pool of lenders. Most mainstream lenders require a licensed, registered builder to manage the project. Those that do offer owner builder finance typically require evidence of construction experience, a detailed project plan, and quotes from sub-contractors for each trade.

The loan amount is usually capped at a lower percentage of the property's end value, often 70% to 80%, meaning you'll need a larger deposit or more equity in the property. Progress inspections are more frequent, and the lender may insist on holding back a larger portion of each drawdown until they're satisfied the work has been completed by qualified tradespeople.

For most ADF members managing an extension alongside full-time service commitments, using a registered builder simplifies the process and opens up far more lender options.

Structuring the Loan Against Your Existing Home

If you already own the property and have equity built up, the construction loan is typically structured as a top-up or split loan against the existing mortgage. The lender assesses the property's current value, estimates the value after the extension is complete, and lends based on the post-construction figure.

In Victoria, this means you might own a home currently worth $650,000, plan a $150,000 extension that will lift the value to $750,000, and borrow up to 80% of $750,000, which is $600,000. If your existing loan is $400,000, the lender would approve a construction facility of $150,000 and an additional buffer for costs, then draw that down progressively as the work is completed.

This approach keeps your repayments manageable during construction because you're only paying interest on what's been released. It also means you're not refinancing your entire home loan unless you choose to. If you're considering a refinance at the same time to access a lower interest rate or consolidate other debts, home loan refinancing for ADF members may be structured to include the construction component.

Timing the Application with Your Posting Cycle

For ADF members in Victoria who may be posted interstate during or after the build, timing the construction loan application matters. Lenders assess your income and employment stability at the time of application, and a posting notice can complicate that assessment if it suggests a change in income or location before the build is complete.

If you know a posting is likely within the next 12 months, consider whether the extension will be completed before you relocate, or whether the property will be retained as an investment. If it's the latter, the lender will assess the loan based on rental income rather than your ADF salary, which changes the borrowing capacity and the interest rate structure. In that scenario, the loan may need to be structured as construction loans for ADF members from the outset with investment loan settings.

Call one of our team or book an appointment at a time that works for you. We'll assess your current equity position, confirm which lenders offer construction finance that aligns with your build timeline, and structure the loan so it converts cleanly once the extension is finished.

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