A construction loan for an extension works differently to a standard home loan because you're not borrowing the full amount upfront.
Instead, the loan releases funds in stages as your builder completes specific milestones. You only pay interest on what's been drawn down, not the total approved loan amount. That matters when your extension runs for four or five months and you're still living in the house while the work happens.
Why Extensions Need Construction Finance
You can't use a regular home loan to fund an extension because builders don't wait until the end of the project to get paid.
They work on a progress payment schedule that releases funds at set stages, such as slab down, frame up, lockup, and practical completion. A construction loan matches that schedule. The lender holds the full loan amount and releases portions as each stage is verified, usually through a progress inspection arranged by the lender or a third-party valuer.
Consider someone in Hillarys adding a second storey to a single-level home near Hillarys Beach. The builder quotes a fixed price building contract and provides a progress payment finance schedule with five draw stages. The lender approves the loan amount based on the contract and the existing property value, then disburses funds after inspecting each completed stage. The borrower pays interest only on the drawn amount during construction, switching to principal and interest repayments once the extension is finished and the loan converts.
How the Progressive Drawdown Actually Works
The lender releases funds based on a construction draw schedule agreed at settlement.
Most lenders use four to six stages, each tied to a physical milestone like base stage, frame stage, or lockup. Before releasing each payment, the lender arranges a progress inspection to confirm the stage is complete and the work matches the council plans. There's usually a Progressive Drawing Fee charged per inspection, typically between $200 and $400 depending on the lender. Some lenders bundle this into the loan, others require payment upfront.
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You'll need council approval before any lender will consider the loan application. That includes a development application for the extension and signed-off plans from a registered builder. Lenders won't release funds without seeing that the builder is licensed and insured, and that the contract is a fixed price contract rather than a cost plus contract. The latter introduces too much uncertainty around the final loan amount.
What Hillarys Borrowers Need to Provide
Lenders ask for the building contract, council approval, and proof that you can cover the deposit portion before construction starts.
Most construction loans require a 20% deposit, though some lenders will go lower if you're already living in the property and have equity. The deposit usually comes from existing equity in the home rather than cash savings, which works well for extensions. You'll also need to show that you can service the loan during construction, when you're paying interest on the drawn portion plus rent or your existing mortgage if you're refinancing.
In our experience, the biggest delay happens when borrowers don't realise they need final council approval before settlement. A development application alone won't cut it. The lender wants to see that all conditions have been cleared and that the builder can commence building within a set period from the Disclosure Date, usually within six months.
Interest Costs During the Build
You only pay interest on the amount drawn down, not the full loan amount.
That's the main advantage of construction finance over borrowing the full sum upfront. If your extension costs $150,000 and the first draw is $30,000 for the base stage, you're only paying interest on $30,000 until the next stage is completed. Most lenders offer interest-only repayment options during construction, switching to principal and interest once the loan converts to a standard home loan after practical completion.
The construction loan interest rate is usually slightly higher than a standard variable rate, typically between 0.1% and 0.3% higher depending on the lender. Some lenders offer a construction to permanent loan that starts as a construction facility and automatically converts to their standard variable or fixed rate once the build is done. Others require you to refinance into a new product after completion, which adds another round of paperwork.
Paying Sub-Contractors Directly
Some lenders will pay sub-contractors directly if the builder requests it, but most release funds to the builder's account.
If you're managing the project yourself as an owner builder, you'll need a lender that offers owner builder finance. Those loans come with tighter conditions because the lender has no registered builder to fall back on if the project stalls. You'll need to show detailed quotes from plumbers, electricians, and other trades, and the lender will verify each invoice before releasing the next payment.
That's not common for extensions in Hillarys, where most borrowers use a registered builder with a fixed price building contract. But if you're doing some of the work yourself or coordinating trades, it's worth knowing that owner builder options exist and that a mortgage broker in Hillarys can access Construction Loan options from banks and lenders across Australia, not just the major banks.
When the Loan Converts
Once the builder reaches practical completion, the loan converts from a construction facility to a standard home loan.
The lender arranges a final inspection to confirm the work is finished, then switches the loan to principal and interest repayments based on the total drawn amount. If you've been on interest-only repayments during the build, your repayment amount will jump once the loan converts. That's worth budgeting for, especially if the build runs longer than expected and you've been paying interest-only for six months instead of four.
If you're planning to add to your home and want to understand how the funding works in practice, call one of our team or book an appointment at a time that works for you.
Frequently Asked Questions
How does a construction loan release funds for an extension?
A construction loan releases funds in stages as the builder completes specific milestones, such as slab down, frame up, and lockup. The lender arranges a progress inspection at each stage to verify the work is complete before releasing the next payment.
Do I pay interest on the full loan amount during construction?
No, you only pay interest on the amount drawn down at each stage, not the total approved loan. Most lenders offer interest-only repayment options during construction, switching to principal and interest once the extension is finished.
What approvals do I need before applying for a construction loan?
You need final council approval, not just a development application. The lender also requires a fixed price building contract from a registered builder and signed-off council plans before they'll consider the loan application.
What is a Progressive Drawing Fee?
A Progressive Drawing Fee is charged by the lender for each progress inspection during the build, typically between $200 and $400 per inspection. Some lenders bundle this fee into the loan, while others require payment upfront.
When does a construction loan convert to a standard home loan?
The loan converts once the builder reaches practical completion and the lender arranges a final inspection to confirm the work is finished. At that point, the loan switches to principal and interest repayments based on the total drawn amount.
