Why construction loans just don't work
Why is it that everything seems to go wrong when you build a property? What can you do to prevent the headaches?
Blogger: Otto Dargan, director, homeloanexperts.com.au
Every bank manager and mortgage broker knows it. Construction loans are a pain in the neck!
Long after a loan has settled the file still seems to be sitting on our desks and in some cases the loan needs to be amended several times before the job is done. Ultimately that means stress and headaches for you as the borrower.
It doesn’t have to be this way! You just have to set it up properly at the beginning.
Some industries are simply broken
Have you called Telstra, Optus or Vodaphone recently? Didn’t have a great experience? Don’t blame them. Their industry is broken.
So is mine. I’d like to apologise on behalf of the finance industry. It’s a bit of a mess down here. And in case you haven’t noticed the building industry is in the same boat.
Now imagine trying to get two broken industries to work together. This is the source of the problem. Both construction and finance are very regulated and bureaucratic industries and the weird rules that they each have simply don’t work with the other’s requirements.
What always goes wrong
What can you expect when you decide to build? The most common issues we see are:
1. Variations: Changing the building contract during construction may require the bank to reapprove the loan (approx. 4 week delay).
2. Communication: The bank not telling the builder when they need a document or form. (approx. 1 week delay).
3. Loan structure: The mortgage broker not setting the loan up as a separate land loan and construction loan (approx. 4 week delay).
4. Running out of money: The borrower running out of money during construction. Typically due to poor planning or variations (can sink the entire project).
5. Cost plus contract / owner builder: The budget almost always blows out well beyond the borrowers expectations (can sink the entire project).
Let’s talk solutions
If you follow some simple rules then you can avoid most of these issues!
1. Don’t change the contract during construction unless you can pay for it out of your own money.
2. Keep following up your bank until they release the required funds to the builder.
3. If you are buying land and building then you should have two loans not one. If your mortgage broker sets up your loan as one loan account then ask them why.
4. Don’t run out of money! The bank will not come to your rescue if you don’t have the equity or income to support a larger loan.
5. Cost plus & owner builder construction are for experienced investors only. If you don’t know your stuff then just hire a contract builder.
Of course the best solution is to use a mortgage broker that knows what they are doing! And choose your builder carefully.
Great expectations
Expect to have some headaches and delays during the construction process. It’s just the way it is.
As a mortgage broker we will do all that we can to prevent these problems; however ultimately we can’t stop the banks from making mistakes. We’ll just help you to fix the problems as they arise.
