What is property development finance guide, Return on capital employed, ROCE advice, Building
What is property development finance, and how does it work?
12 May 2022
Taking on a large property development project is tricky and cash flow is often stretched to the limit. Understanding how you can finance these projects can increase your return on capital employed (ROCE), while protecting your cash flow.
Property development and conversion projects are funded through property development finance, a financial product that works in a unique way. They can be used to fund a number of types of projects including new housing developments for residential property, office block construction, and more extensive regeneration initiatives. Property development loans are not for smaller projects where improvements to the property or home construction are required, which would normally be funded using a mortgage or secured loan.
Different types of building work are covered under Property development finance
Development finance is dictated by the scope and scale of the project. Gound-up development finance needs to be sought for new build projects, and it includes funds for construction and funds towards the purchase of the land. This finance will be approximately 70 to 80% of the build cost, leaving an amount to be found by the developer. Let us take a look at different types of building work that is included under development finance.
- Light redevelopment/refurbishment – Relatively light development work to the building, including aesthetic, non-major structural, internal re-working, and improvement to walls, ceilings, and floors. The financing here is usually short-term, and the building can be turned around in significantly shorter timeframes by auction finance or bridge finance.
- Heavy renovations is more expansive than just cosmetic changes to the building; major renovations include significant structural changes, such as expansions and relocating walls supporting the internal structure. In this instance, financing choices tend to be long-term financing for bridging or short-term commercial mortgage financing.
- Ground-up construction requires major plans and teams comprising architects, builders, and tradespeople. Ground-up development encompasses everything from land acquisition until completion. Finance needs to be spread over several months or even years. Then property finance will become more complicated, requiring a series of releases of investments until the finalization of the project.
What are the benefits of development finance?
Property development finance has a number of key benefits, which are broken down below:
- Instant access to money: Development finance is generally granted more quickly than a mortgage application.
- Low-interest rates: Experienced developers can secure development finance at relatively low interest rates. You might also pay lower rates if you are happy to offer a larger deposit. 16% per annum can be viewed as the realistic upper limit, whereas experienced developers borrowing £5million plus amount might have to pay as low as 5% per annum. Rates of 7-9% per annum are common.
- Short repayment period: Most development finance loans have a term between six to 24 months, so you would not have to worry about paying the debt for an extended period.
- You can fund large projects: Where suitable security is offered, large loans are often possible for borrowers without having to prove their income. This is because development finance is usually repaid through the sale of the finished development and has no monthly payments. This means that the developer’s income is less important.
- Available on a wide range of properties: getting a mortgage on a dilapidated property is very difficult. You can take the help of a property development loan. You can borrow the money under a development finance agreement, refurbish the property, and sell it at higher rates.
How can You apply for development finance?
Development finance differs from conventional mortgages. Typically, lenders determine the worth of the property before they provide a loan based on the value of the property and the borrower’s eligibility. In the case of a development loan, lenders evaluate the amount they expect to receive from the property when the development process is completed.
To be eligible for development financing, developers need to fill out an application that outlines the amount they paid for the property, the amount of development, professional charges, and the building timeframes. Based on the information provided, they will receive the terms of the lender, which must be agreed upon.
A poor credit score can negatively impact an application; therefore, applicants must ensure that they’ve checked their credit history before applying. It’s essential to keep in mind that the interest charged for the loan is discussed with the lender throughout the application process, which means it’s not always easy to determine the cost until the end of the application.
What paperwork do you need for a development finance loan?
Paperwork is a massive part of the application for securing a property development loan. As the loan is taken accounts for the property’s future value, more paperwork is required than other loans. Let us look at a list of documents needed for the proper sanction of the loan.
- Any planning restrictions if applied.
- The current value of property or price at which property was bought.
- The predicted value of the property at which it will be evaluated with evidence.
- Cost of building and renovation.
- Development schedule.
- Building regulation details.
- Planning permissions copy.
- Details of all the professionals involved in the project.
- Your portfolio or CV of experience in development projects.
Lenders want investors with an excellent rental yield when providing development finance. While applying for this type of finance, having both a short-term and long-term rebuild plan is essential. The type of property that you would be developing determine the finance options.
All successful property developers are good planners; getting the right finance is essential for the development process. Development finance can help finance significant construction projects, and they range from conversion projects to new construction.
The potential gains from these projects are enormous and draw a lot of investors. However, it’s highly recommended that anyone who is thinking about an investment of this size speak with a broker. They can help save thousands of pounds and assist you in applying.
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