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developer construction faqs
Yes, of course, we all have to start somewhere. As with any development project do your research and be realistic. The well worn quote “By failing to prepare, you are preparing to fail” is as relevant in anything we do. What is the GDV (Gross Development Value) of your development project. Confirm market values of similar projects and/or similar properties on the market because the lender most definitely will. Create or download an Excel spreadsheet for costs, this confirms to the lender your commitment to covering all bases. When assessing a new development project presentation of information is key.
The percentage profit is arguably the most important metric along with managing cash flow. A lender will look towards a detailed and well ordered presentation, going the extra mile and fine tuning the detail ticks a number of boxes. Ultimately you have to put yourself in the shop window and advertise yourself. Property development finance lenders like to see a minimum of a 7.5% contingency fee so working on 10% is an ideal rule of thumb. Read our blog post ‘Tips on how to present your Property Finance Application Successfully’. Once you have your first project behind you this affords you credibility, experience and leverage for your next project, not forgetting capital for further investment.
Remember by using the ground breaking seamless InstaQuote development loan software you are already at an advantage. The majority of development lenders report 1 development loan enquiry in 25 completes (4%). The quotation software is currently achieving success rates of 98% loan application approval rate. Any lenders that aren’t compatible with your application are filtered out when you hit submit. Rest assured the large and comprehensive panel of development lenders want to lend. More construction FAQs…..
Identify the site for your project and establish with your local authority the viability of any proposed development, be it large, medium sized or a single dwelling. As much as we may question the inconsistencies of local authority planning you need them onside. Is your proposal in an AONB (Area of Outstanding Natural Beauty), a World Heritage Site or Green belt?
You may well be entirely familiar with the area but prior to committing to your project search the local planning register for any recent new builds or similar developments and gauge the level of response. What was the outcome of any similar development, did it receive numerous complaints and if so were they ‘animated’ or ‘heated’ or ‘combatant’. Was the similar development refused at first and succeeded on appeal. Take the time to confirm the responses of Highways and how any responses may affect your development, forewarned is forearmed.
Arrange a meeting with a member of the planning department and qualify whether your application is likely to receive support. Costs vary for pre planning advice so confirm costs with your local authority beforehand. Pre application advice will help you to understand the nuances and vagaries of not only your local planning authority but also how their planning framework affects your proposal. You will have to commit to and make available plans but any amendments by your architect would be proportionate costs. A design and Access statement would also be well received. If your development is a sizeable project what scale of contributions will be required from you (Section 106, Community Infrastructure Levy).
You may well be considering a plot with planning already in place, this is an ideal scenario. Irrespective that if the vendor has already sought planning on their plot they have maximised their return. If your planning proposal is likely to appear fraught and protracted consider an option agreement with the vendor. An option agreement buys you time. As and when you have an existing and/or accepted planning application then apply for development finance. Some lenders will not lend without a successful planning application, this is where a ‘level’ or ‘degree’ of own funds need to be available.
A development loan and a bridging loan are similar in many respects and are often confused. Both types of loan are secured and facilitate the purchase and (typically) development of residential and commercial property. Both types of loan are short term and have similar loan periods of anywhere between 6 to 18 months. However property development finance is a more specialist, bespoke facility.
Bridging finance can be used for a number of options but more often than not when deadlines are in place. Instances would be purchasing a property at auction when the usual period between exchange and completion is 28 days. However some auction houses can vary. Also having purchased a property but yet to sell an existing property (Chain Break Finance). A standard mortgage can not be granted because the property is not habitable. Bridging loans can also be used for business expansion, probate (executors loan) and VAT. VAT bridging covers the cost of asset acquisition. A bridging loan will typically be available in one up front lump sum payment. Interest payments on a bridging loan are more often than not rolled up and paid together with the capital on redemption along with any other associated fees..
Development Finance lenders look to offer development loans upwards to 70% GDV (Gross Development Value) 100% with additional security. Therefore your development finance loan will be expressed as a % of a forward figure. A bridging loan will be calculated on LTV (loan to value), the bridging loan lender funding upwards to around 75% LTV (100% with additional security) the balance by the borrower. Development finance will be paid in instalments (drawdown) corresponding to the stage/s of the property development. Those payments made once the work has been signed off by a surveyor. Releasing staged payments ensures the development funding is commensurate with the work carried out and further preserves a positive cash flow.
Commercial mortgage lenders do not publish their interest rates in the same way as main stream mortgage lenders. The reason being is that each loan is a bespoke offer tailored to the development project. A main stream mortgage lender will have a tranche of funds (say £50 million) that they will lend at a fixed/discount/tracker rate for 3 years. The high street lender will look to lend to a maximum of 80% with fairly strict criteria such as a minimal credit score, employed last 12 months, minimum income etc. Therefore the underwriting risk criteria is pre-defined and applies to a wide demographic.
In turn development loan rates, being bespoke by nature, will largely rely on and be reflected by risk. In simple terms the lower the risk your development project is then the lower the rate. Current rates ( March 2022) are from 4% upwards to 9.5%. Further examples are products at 9% but will lend to 80% max LTGDV (Loan to Gross Development Value). Alternatively the 4.5% rate offers max LTGDV of only 60%. So while the 4.5% may seem attractive the 9% offers an additional 20% LTGDV. The more beneficial Development loan rates will be reflected by your own resources and cash at hand. Some interest rates can reach upwards to 21% on a joint venture (JV) profit share.
Following the crash of 2008-2009 many banks got their fingers badly burned but this was mainly of their own doing. While the last recession within the UK is, in the main, identified as late 2008 to early 2009 the actual catalyst had begun in 2007. The French bank BNP Paribas took the decision to freeze hedge fund assets heavily exposed to the US sub-prime mortgage market. Shortly thereafter Northern Rock began haemorrhaging money. Queues snaked from all of Northern Rock’s 80 branches in September 2007 signalling the first run on a bank since the 1860s. Amongst it’s products Northern Rock offered 125% loans to first time buyers, 95% secured on the property and 30% by way of unsecured borrowing. This example and scenario exceptionally high risk and exacerbated by the crash in property values (negative equity) post recession.
When the banks started to slowly return to the markets lessons had been learned. This though coupled with an over zealous pre-occupation towards a client’s profile, that being an over reliance on your credit history. The automated qualifying approach only got worse post 2009. Very few individuals and companies fit the high street lenders criteria and more often than not the computer will be saying no. High street banks also had rigid inflexible criteria together with protracted processing and little incentive. The ‘alternative lenders’ saw this opportunity and have become the go to route of development funding. This shift in momentum has come about in a relatively short space of time, why have the specialist lenders and challenger banks become so prominent in such a short space of time:
Lender Transparency – Products are straightforward, no frills and above all transparent. Aspiring property developers no longer have to jump through hoops to the whims of high street bank underwriters.
Compatibility – Development Loans aren’t a one size fits all and the alternative lender is motivated to offer products on your terms. These funding options are also not weighted down by the fees and penalties associated with high street banks. What has also prevailed since 2009 is a deep mistrust of high street banks especially RBS.
Comprehensive – Alternative lenders have broad appeal and consider individual and varied business plans and development projects on their merits with a can do proactive attitude.
Redemptions and Tie-ins – Some banks may well only consider certain products to existing clients. Furthermore they may well only consider lending conditional on transferring to their banking facilities. Alternative lenders offer standalone products without such conditions.
Underwriting – While the high street bank will be thumbing through 5 years of accounts alternative lenders and challenger banks will be focused on looking forward. Together with your business plan and immediate road map. This includes reputation, credibility and using softer data to assess risk.
LIBOR (London Inter Bank Offered Rate) ceased at the end of last year. This affected a number of LIBOR linked financial products. The end of LIBOR was brought about by the FCA following the 2012 scandal where banks colluded to fix LIBOR. Barclays was fined £290m for rigging LIBOR with other banks for additional profits. The rate varied and was determined by the length of time the bank/s borrowed the money (from other banks). Their costs were therefore fixed for a defined period and mortgages were priced higher with a corresponding profit. LIBOR had been around since the 80’s.
Estimates put LIBOR linked mortgages in the UK at around 200,000. The transition away is likely to be complicated and ongoing. An example of lenders who relied on LIBOR were Keystone (Aldermore Bank), Mortgage Trust (Paragon) and Pepper Money.
Establishing property development ROI is difficult, multi faceted and subjective on numerous levels. An easy answer would be to say a minimum of 15% but this is no more than an acknowledged generalisation. Return on Investment is, of course, the overriding metric in determining the viability of an investment. The variables that we need to factor in are:
- Developer profile
- Project complexity
- Level of investment
- Cash efficiency (S-Curve)
- Any inherent sales risk
- Prevailing market conditions
SME developers may well move from one project to the other with perhaps 2 to 3 developments per annum. While a larger developer may well have a number of ongoing developments and will have the comparative luxury to be able to offset development ROI as a mean average i.e. one development returns 12% while another returns 32%, a mean average of 22%.
However ROI typically comprises Net Operating Margin, Overheads and Capital Finance. Furthermore residual land value calculations are another key metric. Taking in to consideration economic cycles suggest ROI Net Margin targets are 20%>25% on Gross Development Value (GDV). Overheads can, of course, vary markedly from 5%>15% depending on complexity and size together with developer experience. ROI will vary for projects within London and city centres. Remember that having access to a level of your own capital will allow you some leverage over ROI.
Start Local: Sometimes the best opportunities are hidden in plain sight. You know your local area, you know the history of the area and you’ll be aware of the Local Authority planning Framework. Start scouring the area with free tools such as Google satellite and ordnance Survey mapping. Where are the most recent developments, what was the uptake and have all plots been reserved and/or are they slow to sell. If you’ve identified an area then check your local authority planning register to see the history of recent planning within the area. Where are the most affluent areas and where are schools with excellent OFSTED ratings.
Auctions: Auctions remain a go to choice for many property developers. However post Covid and with changes to permitted development land is now very much in demand. Don’t get involved in a bidding war, ultimately this affects GDV. Do your research and if possible physically visit the plot or property, why is it being auctioned? What’s the history of the property? Don’t be shy if the lot ticks the boxes approach the auctioneer pre auction and make an offer. It may well be that the owner or the mortgagee would welcome the certainty of a pre sale offer as opposed to leaving it to bidding.
Mapping Software: There are a small number of entities offering very good mapping software. These pull together Geospatial data to determine development opportunities. Some of these operate on a monthly service fee with others charging up to 2% success fee. Mapping software can help find viable and valuable off-market opportunities. While also offering details of the owner in order to connect.
Local Authority and Government owned land & Property: Local authorities and government are not permitted to sell land or property off-market. Any disposal of government or local authority land, plots or buildings must be conducted with transparency. Register with the Estates/Property Services department at your local authority to receive notice of when opportunities become available. An interesting point is that local authorities own around 1.3 million acres of land in England.