Q. My husband and I have been discussing our renovation plans for two years.  Over time our plans have evolved from just a minor cosmetic upgrade (redoing the bathroom and kitchen) to plans which now involve putting on a new storey.  We plan to fund the renovation by topping up on our home loan. Are there any implications from a lending perspective that we need to consider now that the renovation is getting bigger than Ben Hur?

A. Your situation is certainly not uncommon. Definitely there comes a tipping point when a minor renovation turns into a far bigger project, and brings with it the implication that any additional borrowings for the renovation will need to be approved by your lender as a construction loan. This assumes that it is the home you are renovating that your lender is using as the security for your home loan.

The reason being, the last thing the lender wants is a home that is half renovated. Running out of money half way through a renovation is not an unheard of situation.  A half completed house is the sort of property that is very difficult (verging on impossible) for your lender to sell.  A construction loan facility actually protects the lender (and also you) from the situation where there are not enough funds to complete the construction.

A construction loan has advantages and disadvantages. The disadvantage is that you generally have less flexibility once the building contract is agreed upon.  You must have a fixed price building contract from your builder as  lenders won’t accept a cost plus builder’s contract. This is because they want to avoid surprises. The total cost has to be known upfront. 

Construction loans can be more expensive primarily because each time the builder sends an invoice for payment (known as a drawdown), the lender will send a valuer to the property to confirm that the work that the builder has said he has done, has actually been completed. This comes at a cost which the borrower (you) will ultimately have to pay.

The upside of this however is that you can be confident that you’re not paying the builder for work that hasn’t been done.

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