Understanding Construction Loan Progress Payments
When building a home, banks do not release the full loan amount upfront. Instead, they use a system called construction loan progress payments (or ‘drawdowns’).
This approach protects both the lender and the borrower by ensuring that funds are only released as the build actually progresses, reducing the risk of money being spent before work is completed.
How it Works
- Milestones: Your contract is divided into stages (e.g., foundation, framing, lock-up, completion).
- Valuations: Before each payment, the bank may require a progress valuation to ensure the work matches the requested funds.
- Interest: You only pay interest on the amount of money actually drawn down, not the total loan facility.
Why Banks Use Progress Payments
Lenders use progress payment structures because they reduce risk for both parties. For the bank, releasing funds in stages aligned with physical progress on site means that the loan is always backed by a corresponding increase in property value. For the borrower, it means you are not paying interest on undrawn funds, which can significantly reduce the overall cost of financing a new build compared to a lump sum loan.
In New Zealand, most registered banks follow a similar approach to progress payments, although the exact milestones and documentation requirements can vary slightly between lenders. It is worth discussing these details with your bank or mortgage adviser before signing a fixed price building contract, so that your builder’s payment schedule and the bank’s drawdown schedule are compatible from the outset.
Typical Build Stages and Drawdowns
While every build is different, most residential construction projects in New Zealand are broken into a series of recognised stages. These often include:
- Foundation: Site preparation, excavation and the pouring of concrete footings or slab.
- Framing: Erecting the timber or steel frame that forms the skeleton of the house.
- Lock-up: Installation of windows, doors, external cladding and roofing, so the building is weather-tight.
- Fixing: Internal linings, cabinetry, fixtures and fittings are installed.
- Completion: Final inspections, code compliance certification and handover of the finished home.
Each of these stages usually triggers a separate progress payment, which the builder invoices and the bank reviews before releasing funds. The bank wants to see evidence, often in the form of a registered valuer’s report or site inspection, that the work claimed has actually been completed to the expected standard.
Interest Costs During Construction
One of the most valuable aspects of a construction loan structured with progress payments is how interest is calculated. Rather than charging interest on the full approved loan amount from day one, the bank only charges interest on the portion of funds that have actually been drawn down.
This means that in the early stages of a build, when only the foundation has been completed and a relatively small percentage of the total loan has been advanced, your interest costs will be comparatively low. As the build progresses through framing, lock-up and fixing, more of the loan is drawn down and interest costs increase accordingly.
It is important to budget for this gradual increase in interest payments, particularly if you are also paying rent or an existing mortgage while your new home is being built. Many borrowers underestimate how these holding costs can add up over a twelve month build programme.
Working with Your Builder and Bank
Coordinating between your builder’s payment claims and your bank’s progress valuation requirements is one of the most important parts of managing a construction loan. Delays can occur if the builder submits a payment claim before the bank’s valuer has had a chance to inspect the site, or if there is a mismatch between the stage descriptions used in the building contract and those used by the bank.
For more detail on how these drawdowns interact with the broader home loan approval process, see our guide to [how construction loans are approved in New Zealand](/guides/construction-loan-approval-nz).
Key Tips
- Ensure your builder’s payment schedule aligns with your bank’s requirements.
- Keep a contingency fund for variations or unexpected costs during the build.
- Ask your bank how long progress valuations typically take, so you can plan payment timing with your builder.
- Confirm in advance which costs, such as consent fees or retentions, are covered within each drawdown.
Common Pitfalls to Avoid
A number of issues can arise during the progress payment process if borrowers are not well prepared. These include underestimating the total cost of the build, failing to allow for rising material costs, and not keeping enough contingency funds available for unexpected variations.
Another common pitfall is assuming that the bank will automatically release funds as soon as a stage is complete. In reality, most banks require formal documentation, and processing times can range from a few days to a couple of weeks depending on the lender and the complexity of the build. Planning your cash flow around these realistic timeframes, rather than the fastest possible scenario, can help you avoid unnecessary stress.
Final Thoughts
Understanding how construction loan progress payments work can help you manage your budget more effectively throughout the building process. By aligning your builder’s payment schedule with your bank’s requirements, keeping a healthy contingency fund, and staying on top of interest costs as they increase with each drawdown, you can navigate the construction loan process with greater confidence.