Are you planning a large building or regeneration project? If you answered yes, you’ll need to make some important funding decisions. It is critical that you select the appropriate property development finance for your project.
This article will walk you through the steps of property development financing, covering the following topics:
A primer on property development financing
When might funding for a development project be required?
Various types of property development financing
How to Obtain Property Development Financing
Checklist for Applications
A primer on property development financing
Property development finance refers to the large-scale funding of large construction projects and/or large building renovation works. This could include new residential housing developments, office building construction, or larger-scale regeneration initiatives.
It is not used for smaller developments involving home renovations or property improvement. There are other types of bridging finance that can be used in this situation.
When might funding for a development project be required?
The size and scope of a project can influence the types of financing available. Large projects will require start-up development financing. This includes the purchase of the land as well as construction funds.
Property development finance will cover approximately 70-80% of the build cost, leaving the developer with a significant amount of funding to find.
If the developer owns a larger portfolio of properties, these can be used as security instead of having to finance the project with their own cash reserves.
Building Work Planning Suggestions
There are numerous financing options available, depending on the level of involvement in the property’s refurbishment or renovation. Among the various types of construction work are:
Light redevelopment/refurbishment – Inconspicuous work on the building, such as aesthetic, non-major structural, internal re-working, and improvements to walls, ceilings, and floors. The funding is typically short-term, and the property can be ‘turned-around’ in a short period of time using auction or bridging finance.
Heavy renovation entails major structural changes, such as extensions and the relocation of internal supporting walls, and is more extensive than merely cosmetic changes to the building. In this case, the most common financing options are longer-term bridging finance or short-term commercial mortgage finance.
Ground-up development entails everything from land purchase to completion and necessitates extensive planning and a team of builders, architects, and tradespeople. Finance will be required over many months or years, and property finance will become a more complex series of investment releases until the project is completed.
Various types of property development financing
Because finance options are tailored to the specific project, it can be difficult to know which to pursue. The following are the various types of property development financing available:
Commercial Lending
Used to assist you in purchasing properties such as offices, industrial units, and retail stores. A commercial mortgage can be used to purchase a property that is not a private residential property.
They are by far the simplest of the funding vehicles to comprehend, working in much the same way that a standard private mortgage spreads payments over a number of years to meet your needs.
Example of a Case Study:
A small bakery currently rents their space but has the option to purchase the building.
Instead of continuing to pay large amounts of rent that may be affected by rental increases, the bakery decides to buy it and replace the dead money paid in rent with the investment of purchasing a commercial property.
Most businesses may find it easier to obtain a commercial mortgage than a start-up, but this is not always the case, and it is often up to the lender to assess the levels of risk for each case on its own merit.
Finance via Auction
Primarily used by property buyers who purchase auctioned property.
Most auctions require bids to be paid within a specific time frame (up to 28 days). This type of finance excels at providing access to large amounts of money in a short period of time.
Example of a Case Study:
A buyer has purchased a property at a reduced price at an auction and must make full payment to the auction house within a few weeks.
They have already raised the required deposit for the day, and by using auction finance, they will be able to purchase the property quickly. They may have agreed on the level of funding required in advance or have it arranged later.
Bridge Financing
A short-term funding option that can effectively ‘bridge’ the gap between purchasing a property and obtaining more permanent financing for it.
These are typically short-term, lasting only a few months, but they provide funding quickly. They are also very useful when purchasing property and quickly refurbishing or developing the building (property flipping). They can function as a short-term mortgage between purchasing and selling a property at auction.
Example of a Case Study:
A property developer comes across an old warehouse that he plans to convert or refurbish. It does not require any major structural work, but it does require some internal remodeling.
Bridging finance is the preferred funding vehicle for projects that require only a few months between purchase and becoming a revenue-generating asset. Their lender contact can arrange financing for the purchase of the property as well as sufficient funding for renovations.
How to Obtain Property Development Financing
It pays to do your research before applying for property development financing. This includes ensuring that all plans and projections have been thoroughly thought out and that any potential barriers have been overcome.
Lenders base property finance loans on a project’s feasibility, so it’s critical to show that your project has the potential to generate income and profit.
If you have experience in property development, you should be able to demonstrate a solid track record; however, if you are new to the field, you may find that it precludes you from the largest property development projects, and lenders will view you with caution.
There are always exceptions, and a lack of knowledge can be compensated for with some accurate and well-researched projections based on criteria your lender will recognise.
How is buy-to-let lending determined?
You will frequently be required to demonstrate a certain minimum income before being considered by a buy-to-let lender. The actual income threshold will vary from lender to lender; some may be high, while others may be low; however, it is prudent to demonstrate a solid existing income to ensure you have access to the entire market.
If you own multiple properties (and thus multiple mortgages), you may find that the number of existing mortgages prevents you from requesting another informaticsims. You could look into portfolio finance at this point to streamline your property finance.
Lending is based on property yield
The ability of a property to generate income is critical to its success as an investment. The rental yield is the simplest way to calculate how much income a property can generate.
The yield is the rental return expressed as a percentage of the purchase price of the property. So, after you’ve bought, invested in, and renovated the property, your total cost will determine how much you borrow, but the final property yield calculation will determine which lenders will lend and what interest rates they will offer.
Why is GDV important?
Your Gross Development Value will be one of the pillars of your property development finance application (GDV). It allows your lender to determine whether your project is creditworthy. Many lenders may reject an application if the total construction costs exceed 75% of the project’s GDV or end value.
A worthwhile investment allows the lender to loan 65% of the GDV, even if this equates to 100% of the total build cost caseax.
Experience is important
Experience in property development cannot be overstated, and lenders prefer to see some prior involvement in a successful and profitable project, no matter how small. It is advantageous to have a good team of builders, planners, and architects on your side.
Checklist for Property Development Finance Applications
You will need figures and answers to a variety of project and financial questions from the finance provider. Before you apply, make sure you’ve considered everything.
– Purchase price – Total construction cost – Estimated end value (GDV)
– Plan for contingencies
– Complete costing breakdown
– Timelines that are specific (including expected or possible contingencies)
– Your ‘Property Development CV’ – Professional team breakdown (builders, planner, architect etc.)
– Planning approval (including restrictions)
– Building codes – Project yield potential
When it comes to lending property finance, lenders want solid investments with a high rental yield. When applying for property development finance, it is beneficial in both the short and long term to have a good rebuild plan, account for any setbacks, and have a clear idea of the end value of your property. The type of property development will determine the financing options. Please click here to get more details SME Housebuilders Finance.
