Turn-key and progress payment contracts are the two different types of construction contracts available when you build a new home. In most cases, the building company will only offer one or the other, not both.
What are turn-key and progress payment contracts?
Why have we chosen this topic? New builds are becoming very popular lately. The government is very keen to encourage the creation of new homes. So they’ve created some good incentives to get people building.
The big incentive is the ability to get a loan for a new build with as little as 10% deposit. This is a huge drawcard, especially for first home buyers. The national average for house prices went up by nearly 30% in 2021. With house prices so high, saving for a 20% deposit for your first home is a big challenge for most. Being able to get a new build property with a smaller deposit allows many first home buyers a chance to get a home much sooner than they otherwise would.
The government is also keen to encourage property investors to buy new builds rather than existing homes. In addition to lower deposit requirements, new builds are exempt from some investment property taxes.
What is a turn-key contract?
With a turn-key construction contract, you pay a deposit of 10% or so upfront. The balance is due once the build is completed.
Turn-key contracts are attractive to buyers as they’re nice and simple. You don’t have to go to the bank to draw down payments throughout the build, and therefore don’t have to pay interest until the build is completed and has been paid for in full.
What to be aware of with turn-key contracts
Turn-key contracts are generally a bit more expensive than progress payment contracts. This is to compensate the developer for taking on the financial burden of all costs during the build.
To get a turn-key contract you need an offer of finance from a lender. The offer is usually valid for a maximum of 1 year. Construction can take longer than this, in which case you would need to reapply for finance. There is a risk that at that time you no longer meet the current finance criteria for a renewed offer of finance. Using a broker minimises the risk of finance falling through as they can help you put your best application forward and then look into other lender options if needed.
When paying your deposit for a turn-key contract, make sure that the money is going to be held in a trust. This is to protect your money in case the developer goes bankrupt during the build.
Some developers require final payment on ‘practical completion’ rather than on the code compliance certificate (CCC) being issued. This is because they have completed all the work and it can take a couple of months for a CCC to be received, a long time for a developer to wait for payment. Some banks are wary of this as it creates a slight risk for the owner and therefore the bank, however some lenders are fine about it. Tell your mortgage broker early on if your contract has this requirement.
What is a progress payment construction contract?
Just as the name suggests, progress payment contracts require progress payments on completion of each stage of the build (e.g on completion of foundations).
To fund the build, you get mortgage approval upfront, with your deposit paid as part of the first instalment. You then draw down the funds as each payment becomes due. This is done by sending the invoice to the bank, who then pay the developer. You pay interest on any funds that have been released rather than on the full mortgage amount. Unlike turn-key contracts your finance won’t expire after a year as you are actively borrowing money during the build.
What to be aware of with progress payment contracts
While progress contracts are slightly cheaper than turn-key, you will be paying interest on building costs during the build so any savings may be negated the long run.
As you will be paying interest during the build but not yet being able to live there or rent it out to cover costs, you need to ensure you have budgeted for interest payments during the build. Keep in mind builds often take much longer than planned.
Do lenders prefer turn-key or progress payments?
In general, lenders prefer progress payment contracts as they provide security early on in the contract. But as with anything, it differs lender to lender, with policies changing all the time.
Working with a mortgage broker is key, as they will look across the lenders to find one whose policies suit both your financial situation and the terms of your building contract. If you’re looking for finance for a new build, or for any type of mortgage, get in touch! We’d love to help.