A commercial construction loan funds a build in stages, with each progress draw released as a build milestone is reached and verified by a quantity surveyor. Gearing is measured against total development cost and end value, not just a single loan-to-value ratio, and interest is commonly capitalised during the build period. Non-bank lenders can sometimes consider reduced or nil presale cover when the project feasibility and exit strategy are robust.
For local buyers, construction loans particularly when the deal does not fit standard bank policy boxes
Construction Loans Explained
A commercial facility for building operates differently to a standard mortgage. Rather than providing the full amount upfront, the lender funds the build through progress draws. These are released as defined stages of construction are completed, such as the base stage, frame stage, or lock-up stage. A quantity surveyor typically verifies these stages before funds are released. This system ensures the lender's exposure is always backed by tangible work completed. It also offers interest efficiency for the borrower, as interest only accrues on the balance that has been drawn down. A retention amount is often held back until practical completion to ensure all work is finalised. For developers looking for detailed information on these facilities, the parent guide on construction provides comprehensive coverage of the current lending landscape.
Dual Gearing Metrics: LTC and GRV
Lenders determine the size of a facility using two primary metrics rather than a simple valuation. The loan to total development cost (LTC) measures the debt against the budget required to finish the project. The loan to value ratio is calculated against the gross realisable value (GRV), which is the expected end value of the completed project. This dual approach allows a more accurate assessment of risk and feasibility. A facility that tracks both metrics provides a clearer picture of the project's health than a single snapshot figure. This is particularly important for complex commercial builds where the final value can differ significantly from the land and construction costs combined. Understanding the margin between cost and end value is crucial for approval.
Capitalising Interest Costs
Cash flow management is a critical component of any development project. To assist with this, interest is commonly capitalised within the facility during the construction period. Instead of making monthly repayments from cash reserves, the interest cost is added to the loan balance. This amount is then settled at the point of practical completion or refinance. Capitalising interest helps developers preserve their working capital for essential builder payments and site costs. While this increases the total debt load, it provides the liquidity necessary to keep the project moving forward without an external income stream servicing the debt during the build phase. This structure allows the borrower to focus resources on the physical delivery of the asset.
When Non-Bank Lenders Suit Better
Accessing funding often depends on the specific requirements of the lender. Major banks typically apply conservative policies regarding presale requirements and maximum leverage caps. When a project requires higher leverage or has lower presale numbers, non-bank lenders can often provide a solution. These lenders assess the deal on its merits, looking closely at the feasibility study and the exit strategy. They may consider reduced or nil presale cover if the takeout plan is solid, such as a refinancing to residual stock finance or a bulk sale. Pricing for this flexibility reflects the higher risk tolerance, but it allows developers to proceed with viable projects that do not fit the standard bank mould. The decision often comes down to whether the return on equity justifies the cost of capital.
Construction Finance versus Development Finance
It is important to distinguish between a construction loan and broader development finance. A construction loan is the senior facility specifically used to fund the build costs. In contrast, development finance is a wider strategy that may layer in mezzanine debt, preferred equity or stretched senior funding to increase total leverage across both land and build. Some projects only require a senior construction facility if they have strong presales and modest leverage. However, higher-leverage projects aiming to minimise equity contribution often require a layered capital stack. In these cases, the construction loan sits as the senior tranche, with additional capital structures sitting behind it to fund the land acquisition and initial costs.
- Determine project metrics. Calculate the total development cost (TDC) and gross realisable value (GRV) to establish initial feasibility.
- Secure the builder. Confirm a licensed builder and provide a detailed build program and cost schedule.
- Establish an exit. Define a clear takeout strategy, whether through presales, refinance or a bulk sale of the completed asset.
- Submit application. Present the feasibility report and supporting documents to the lender for assessment and approval.
| Lender Type | Presale Threshold | Leverage Approach |
|---|---|---|
| Major Bank | High threshold required | Conservative policy caps |
| Non-Bank Lender | Flexible or nil considered | Merit-based higher leverage |
Common questions
How are funds released during the build? Funds are released through progress draws as specific build milestones are reached. These stages are typically verified by a quantity surveyor to ensure the work is complete before capital is advanced. This aligns the lender's risk with the actual progress of the build on the ground.
What does capitalised interest mean? It means the interest cost is added to the loan balance rather than paid monthly. This preserves cash flow during the build, with the total interest cost usually paid out at practical completion or when the facility is refinanced.
What is the difference between LTC and LVR? LTC (Loan to Cost) measures the loan against the total development cost, while LVR (Loan to Value) measures it against the end value. Lenders use both to assess feasibility and risk, ensuring the project remains viable throughout the construction phase.
This guide covers the mechanics of commercial construction finance.