Property Development Finance is a type of short-term loan used to fund the purchase and/or build costs associated with residential, commercial or mixed-use property development.
Property Development Finance is a fairly broad category of funding that encompasses term loans, mortgages, bridging loans and even personal loans.
What can Property Development Finance be used for?
Property Development Finance can be used for the large-scale funding of significant building or renovation works and is likely the most appropriate form of funding for ground-up developments i.e building a property from scratch.
Property development finance can be used for:
- Property conversions
- Ground up developments (to fund both the purchase of the land and the build costs).
What are the advantages of using Property Development Finance?
Development finance enables developers to raise the required capital to turn their building ideas into a commercial reality. Once the project has been completed and sold or refinanced, the development loan is repaid.
By leveraging development finance, property developers can:
- Take on larger projects than would not otherwise be financially possible, thus increasing potential profits.
- Take on more projects simultaneously by not having to wait for an existing project to sell before moving onto the next deal.
- Increase the Return on Investment (ROI) while investing less personal capital. Although there will be a higher cost of finance, the actual rate of return on the amount personally invested will be higher.
By leveraging property development finance, developers can secure the funds required to get a project underway as well as take on more lucrative deals that may not have been possible without finance.
Even if the developer can personally fund the project, there are still clear advantages to using development finance for at least a proportion of the costs.
Understanding the Capital Stack in Property Development Finance
The Capital Stack represents the total capital used to fund a property development and consists of Common Equity, Preferred Equity, Mezzanine and Senior Debt finance.
Each level of the stack comes with different risks for the lender/investor and therefore different costs associated.
It is important for property developers to understand how the capital stack works as this can minimise the developers’ equity investment and maximise the returns.
What is the Property Development Finance criteria?
The property development finance criteria varies based on the lender, the scope of the project and the developers previous experience.
Essentially, lenders will assess the level of risk involved and whether or not the project is likely to be successfully completed and the loan repaid.
Lenders will typically make their decision based on:
- The size of the loan - The maximum loan to value based on GDV (gross development value or LTGDV) is typically 70% to 75%
- The developers’ experience - has the developer carried out a project like this in the past?
- The developers’ balance sheet - does the developer have a strong enough financial foundation demonstrated in an assets & liabilities statement to cover any cost overruns
- The project feasibility - are there any concerns regarding the project?
- The type of security offered - is the site or building(s) suitable to be used as security?
- The exit strategy of the project - how will the loan be repaid?
- The location of the development - are there any concerns about the area and will it affect the success of the project?
- Planning permission - is planning in place and will it be difficult to obtain?
What do you need to apply for Property Development Finance?
Every lender is different and until a good reputation and strong track record is built with the lender, they will require lots of information about the developer and the project.
This includes, but is not limited to:
- Fact Find Form
- Personal ID
- Proof of income
- Bank statements
- Company structure details
- Details regarding the purpose the funding
- Information on the property
- Details on how you plan to repay the loan
- Property Portfolio Schedule
- SALIE (Statement of Assets, Liabilities, Income and Expenditure)
- Evidence of any previous development experience
- Full details of the professional team involved
- Details of the site and the desired project goal
- Details of the planning consent including any restrictions, Section 106 or Community Infrastructure Levy requirements
- Project drawings and plans
- A full breakdown of the development costs
- The gross development end value of the project
- A clear exit strategy
- A timeline schedule of the necessary work and build stages
- A timeline for release of required funds
- Financial accounts
Most importantly, the developer will need to pre-empt and address any of the lenders potential concerns and be thorough in the information provided.
Additionally, not only is it crucial to provide the relevant information, it also needs to be presented in a comprehensive and organised manner. This will allow the application to be processed faster and more efficiently.
How much can you borrow with Property Development Finance?
Each lender has their own parameters that determine the maximum amount that can be lent and every deal is assessed individually.
The funding must be structured in a way to ensure there is enough cash available to complete the project.
One way in which development finance is usually structured and marketed is for developers to borrow 70% of the site acquisition cost and 100% of the build cost - provided the loan amount does not exceed 70% of the GDV (gross development value or LTGDV).
The amount of funding provided will be determined by a professional RICS redbook valuation report. This is based on three key figures:
- The current value of the development
- The build costs
- The gross development value (GDV) - the value of the completed development.
How is Property Development Finance paid out?
The property development finance payments are usually made in stages throughout the project. An initial payment is made to secure the site, followed by a drawdown of funds as the project progresses.
The schedule of payments is agreed in the loan schedule and an IMS (Independent Monitoring Surveyor) is appointed by the lender to carry out site inspections at each stage of the development. The IMS has the responsibility to report whether the project is on track to the lender before the next tranche of funds is provided.
In order to ensure adequate cash flow throughout the development, it is crucial that developers accurately calculate the cost of the build as well as the build schedule.
What are the terms for Property Development Finance?
While some lenders are flexible, the majority of property development loans are for a period of up to 24 months, but this is dependent on the size of the scheme.
A refurbishment loan may only be required for 6 months, whereas a ground-up development may require 24 months.
The term of the loan also covers the time required to purchase the property, develop it and subsequently sell or refinance it in order to repay the loan.
How is Property Development Finance repaid?
Once the development is complete, the developer can repay the loan by selling the property or refinancing on to a (long) term loan if they choose to keep the property to rent out.
Developers can also use Development Exit Finance to repay the Development Loan before the project has sold. This allows them to further leverage finance to move onto the next development without waiting for the current one to sell.
Your property may be repossessed if you do not keep up repayments on the finance secured against it.