Construction loans explained: progress payments and how repayments work

Building a new home in 2026 is not the same as buying an existing one. You are not handing over a lump sum on settlement day. Instead, your lender releases money in stages as the house takes shape – slab, frame, lock-up, fit-out, completion. These staged payments are called progress draws, and how they work (and the traps that come with them) can make or break your budget.

This article covers the exact five-stage drawdown process, how interest-only payments work during construction, and the biggest cost blowout risks facing borrowers in 2026. We also include current APRA caps, RBA cash rate context, and the updated First Home Buyer Guarantee thresholds that kick in from July 2026.

What is a construction loan and how is it different?

A construction loan is a short-term credit facility designed to pay a builder in instalments as work progresses. Unlike a standard home loan where you borrow the full amount at once, a construction loan has a progress payment structure – the lender holds the total loan amount and releases portions after each stage is certified.

Key differences from a standard home loan:

· You pay interest only on the amount drawn down, not the full approved loan. This keeps monthly payments low during the build. · The loan converts to a standard principal-and-interest (P&I) home loan once construction is complete. · The lender requires a costed building contract, council-approved plans, and a fixed-price building agreement (usually) before approval. · The lender may send a valuer to inspect each stage before releasing funds – delays in inspection can push your settlement timetable.

In 2026, with the RBA cash rate at 4.35% and lowest variable rates hovering around 5.69% (for well-qualified borrowers), the interest-only phase is a meaningful cost advantage. On a $500,000 loan, the interest-only monthly payment during construction is roughly $2,370, compared to around $2,920 on a P&I basis.

The five-stage progress payment process

Most lenders in Australia follow a standard five-stage drawdown schedule. The percentages vary by lender and state, but the typical split looks like this:

1. Slab / foundation (15-20% of total loan)
   · Released after excavation, footings, and concrete slab are poured and inspected.
   · In some cases a smaller "deposit" stage (5-10%) is allowed for site clearing and permit fees – check with your lender.

2. Frame / roofing (20-25%)
   · Paid once the roof is on, walls are framed, and trusses are installed.
   · This is the first major chunk and typically takes 6-10 weeks after slab.

3. Lock-up (20-25%)
   · Doors, windows, external cladding, and roofing completed. The building is secure against weather.
   · Electrical rough-in and plumbing rough-in often happen during this stage – these are usually included in the lock-up draw.

4. Fixing / fit-out (20-25%)
   · Internal linings, cabinets, plumbing fixtures, electrical fit-off, painting, flooring.
   · This is where many cost overruns appear – changes to finishes and upgrades are tempting.

5. Completion / handover (10-15% final retention)
   · Final inspection, practical completion certificate, and minor defects rectified.
   · The lender holds back 5-10% as retention until you get the occupancy certificate and final inspection passes – this protects you against unfinished work.

Important: The lender will not release more than what the completed work is worth. If your builder underquotes and you need extra funds, you may need a variation or a separate loan top-up.

How repayments work during construction

During the build, you pay interest only on the amount drawn down to date. This means:

· Month 1: $0 drawn → $0 interest (unless you have a deposit stage draw).
· Month 3: $100,000 drawn → interest on $100,000 at, say, 5.69% p.a. = roughly $474 per month.
· Month 9: $400,000 drawn → interest on $400,000 = roughly $1,896 per month.

These payments are usually interest-only for the entire construction period (typically 12-18 months). At practical completion, the loan automatically switches to principal and interest repayments over the remaining loan term (usually 25-30 years).

Beware of the interest capitalisation trap: Some lenders let you add the interest charges to the loan balance instead of paying them monthly. This increases your total debt and means you pay interest on interest. Always opt to pay interest monthly if you can manage it.

APRA rules and how they affect your borrowing power in 2026

APRA's macroprudential measures remain in force. Since February 2026, Australian Prudential Regulation Authority (APRA) has imposed a 6x debt-to-income (DTI) cap on new lending. This means your total debts (including the construction loan) cannot exceed six times your gross annual income.

· If you earn $120,000 per year, your maximum total debt is $720,000 (6 x $120,000).
· This cap applies to all lenders, so your construction loan size is effectively limited even if property values are higher.

Additionally, APRA requires lenders to apply a 3% buffer on the interest rate when assessing your serviceability. With the lowest variable rate at ~5.69%, lenders assess you at 8.69% (5.69% + 3%). This can reduce your borrowing capacity by 20-30% compared to early 2024 rates.

Practical impact: A couple earning $180,000 combined might be assessed on a rate of 8.69% on the full loan amount (including future draws). Their borrowing capacity on a construction loan might be around $650,000-$700,000, not the $800,000 they might expect.

First Home Buyer Guarantee: updated thresholds from July 2026

The First Home Buyer Guarantee (FHBG) – administered by Housing Australia – allows eligible first home buyers to purchase with a 5% deposit and no Lender's Mortgage Insurance (LMI). From July 2026, the price caps are:

· Sydney: $1.5 million
· Melbourne: $950,000
· Brisbane: $1 million
· Perth: $850,000
· All other capital cities and regional centres: $800,000 (Newcastle, Geelong, Gold Coast, etc.)

Note: These caps apply to the property value, not the construction cost. If you build a new home under FHBG, the cap is the estimated value of the completed property (land + house). You must have a fixed-price building contract and the land must be titled.

The FHBG has no income cap in 2026 – this was removed in February 2025. So even high earners can access the 5% deposit scheme, but they still must meet the DTI cap and serviceability tests.

Traps that blow out construction budgets in 2026

Building costs have stabilised compared to the 2021-2023 spike, but several traps remain:

1. Fixed-price contract loopholes
Many builders offer a "fixed price" that excludes site costs (rock removal, retaining walls, driveway, fencing). These can add $20,000-$50,000. Ensure your building contract is fixed price with provisional sums minimised – or budget a 10% contingency.

2. Progress payment delays
If a lender fails to inspect a stage within 5-7 days, the builder may pause work. This can push your project into the wet season (November to March in coastal areas) or cause resourcing delays. Ask your lender about their average inspection turnaround time.

3. Interest cost blowouts from extended build times
If your build runs over schedule (common with material shortages or trade availability), you pay interest-only for longer. On a $500,000 loan at 5.69%, every extra month costs roughly $2,370 in interest. A 4-month delay adds nearly $10,000 in interest.

4. Variations and upgrades
Your bank's approved loan is based on the original contract. Any variations (different tiles, bigger windows, upgraded kitchen) must be pre-approved or funded from your own pocket. If you use the builder's trade credit, the lender may not finance those extras.

5. LMI if you borrow more than 80% LVR
Even with the FHBG, if you buy land first and then build, the total loan-to-value ratio (LVR) is based on the land value + construction cost vs the completed property's valuation. If your LVR exceeds 80%, you may need LMI unless you qualify for the FHBG or have a guarantor.

FAQ: Construction loans in 2026

1. Can I get a construction loan with a 5% deposit?
Yes, if you use the First Home Buyer Guarantee (FHBG) and meet the price caps (Sydney $1.5M, Brisbane $1M, etc.). You need a 5% deposit of the total project cost (land + construction). For non-FHBG applicants, lenders typically require a 10-20% deposit.

2. What happens if the builder goes bankrupt during construction?
If the builder enters liquidation mid-build, the lender may stop further draws. You will need to find a new builder, and the lender will re-assess based on the incomplete structure. Having home warranty insurance (mandatory in most states) can help cover defects.

3. How long does it take to get a construction loan approved?
Typically 4-6 weeks, longer if your building plans are complex or the lender requires full council approved plans. Pre-approval can be done in 1-2 weeks if you have a complete building contract and land title.

4. Can I use a construction loan for renovations?
Yes, but only for major renovations that require structural changes and council approval. Cosmetic renovations (painting, new kitchen) are generally not eligible. A "construction loan for renovations" works similarly – progress payments based on completion stages.

5. What happens if property values drop during construction?
Your loan is based on the completed property value assessed at the start. If values fall, the lender might require a higher deposit or refuse further draws. However, most lenders accept the original valuation if the contract is fixed-price and you aren't over-capitalising.

Sources

· Australian Prudential Regulation Authority (APRA) – "Macroprudential Policy Framework: DTI Cap 2026"
· Reserve Bank of Australia – "Cash Rate Target: July 2026"
· Housing Australia – "First Home Buyer Guarantee Price Caps from 1 July 2026"
· State Revenue Office NSW – "First Home Buyer Assistance Scheme 2026-27"
· Master Builders Association – "Construction Cost Index Q2 2026"

Next steps

If you are planning a build in 2026, use our construction loan repayment calculator to see how interest-only payments change over the build timeline. Compare different loan scenarios and check your borrowing capacity against the DTI cap.

CTA: Use the construction loan calculator →

Want to see how construction loans compare with other types of financing during the building phase? Read our related guides:

· Investment loans in 2026: tax advantages and borrowing strategies
· Low doc loans for self-employed builders in 2026
· Bridging finance: buying before you sell your existing home

Start your construction loan application today – speak to a mortgage broker who understands progress payment structures.

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