A Guide to Property Development
This is a guide to buying and developing property. It considers all aspects of buying land or property to develop and then to sale or to hold as an investment. We hope you find it useful.
What is a Professional Property Developer?
A professional property developer earns their living from buying property or land and then refurbishing, converting, renovating or building that property or land and selling it for profit.
How to Make Profit from Developing Property.
It is important to identify opportunities. An example may be a property that has been owned for a long period of time and is now in probate, the property could be run down, dated and in need of refurbishment or renovation. Another example would be a property that you can clearly see has space in the garden for an additional property. This will of course come with calculated risk with regards to the planning. There are plenty of opportunities to buy property that need the core elements that constitute property development:
- New Build
Refurbishment & Renovation
Refurbishment is the entry point of property development. Refurbishment can be classed as light refurbishment or heavy refurbishment. A light refurbishment consists of decoration and new kitchens or bathrooms. A heavy refurbishment involves structural work, change of use for the property or involves work that needs planning.
Build & Conversion.
At the other end of the property development scale are new builds and conversions (e.g. from office to residential). This type of development is more complex but can also be more profitable.
Converting a property from a single unit residential use to a multiple unit for residential use (licensed HMO) sui-generis use as in the case of some student housing can see great rewards but also needs careful planning. In the case of an HMO you will need to assess whether the local council requires you to license the property.
Building a property has obvious profitability. One method to ascertain profit is the third, third, third calculation: land value, plus build cost x 30% increase = sale price. This figure isn’t true of all areas of the UK and will be affected by many factors including market demand for the type of property, as well as labour and material costs and several other external factors.
If you do not intend to sell then there are options to hold the property as an investment and to raise long term finance on the property.
Planning takes several forms. Firstly there is planning permission which will need to be gained from the local council for any building work that requires planning approval. Planning usually takes 6 weeks (at best) and will often require amendments which will take considerably longer.
Planning also takes another form, planning how you will buy the property, how you will fund it, how long the work will take, who will do the work, and planning for the unexpected are all equally as important.
When it comes to property development finance the lender will wish to see that you have thought of every aspect of the build. If you need to finance your property development you will need to demonstrate to the lender that:
- You can carry out the work and if not by your own hands, then by whom? Smaller projects such as light refurbishments can be completed by an applicant with little building experience. However, larger development projects will require experienced builders and contractors. For conversions and new builds the contractors and design team will need to provide collateral warranties.
- You have planned every detail and costed every phase. You will need to produce a full development appraisal including a schedule of works that includes the costings for materials and labour and the timescales. The lender will stress it against previous projects they have funded in that area to ensure your costings are accurate. They will also obtain professional valuations to confirm the value now and the value at the end of the project.
Property development has become very popular over the years, especially with TV shows such as grand designs and homes under the hammer, amongst others. Whilst there is the scope for large profits to be made, there are also many opportunities for mistakes to be made. Using a property development finance broker brings many benefits. A broker will work with their client to ensure that a comprehensive appraisal of the development and the developer is presented to the right lender.
When is the right time to buy?
The best time to buy property or land should probably follow these rules:
- Buy the right property – Buy a property that matches your current expertise/ability.
- Buy in the right location – Consider logistics for you and your professional team and consider demand for what you will have to offer for sale or to rent at the end of the project. It is no good buying a property to refurbish because it is cheap but 100 miles north of where you live. Buy in an area you know or have researched well and have easy access to.
- Buy at the right price –Buying a property at auction for an over inflated price is not a good start. Commit to your costings and allow for contingency or a drop-in market demand as you never know what is around the corner and bid within your pre-agreed limits. Auction finance is in a category of its own due to the time constraints. Other options are to source undervalue properties. These are harder to find but getting ‘pally’ with agents and property buyers is one way to get notification of opportunities before others do.
- Buy at the right time – Past performance of the property market is not a guarantee for the future. Timing may also involve your use for the property, for example, if you are planning to build student accommodation it should be ready to be let in time for the new term, when students are actively looking for accommodation. In the case of a multi-let are new rules being introduced by the local council that will affect licensing? If you are building a new property, ensure that a new build site is not about to launch around the corner that could affect the price you can achieve. Matters affecting timing are endless and all come back to planning.
In which entity will you hold the development?
If you have identified the opportunity, completed your costings and have a team of professionals ready to work on the project then you next need to consider how you will hold the property. Options include:
- In a pension fund
- In your own name
- In a Limited company
The implication of each will affect the tax you pay and the terms for finance. It is our experience that many property developers are buying property held in a limited company. The limited company can be an existing trading company (such as ABC Car Auto’s Ltd) or a special purpose vehicle (SPV) Ltd company set up for the sole purpose of developing that property (such as 1a the street developments Ltd).
You should consult a tax specialist and/or accountant that specialises in property tax.
Property Development Finance.
We have gone in to the finance in more detail on our property development finance page but as a basic guideline, these principles apply:
- Light refurbishment – No planning, non-load bearing alterations. Expect to pay 0.4%pm plus with lenders arrangement fees of up to 2%
- Heavy refurbishment – Planning needed or structural alterations or change of use. Expect to pay around 0.8% per month and fees of up to lenders arrangement fee of up to 2%
- Full property conversions and builds – Lenders will charge an arrangement fee of up to 2% and an exit fee based on loan amount or the gross development value (GDV). Rates vary depending on experience and loan to value but rates may be as low as 5% per annum and as high as 15% where mezzanine finance is concerned.
Loan to value (LTV):
- 75% for light and heavy refurbishment projects. Newer innovative products in the marketplace also lend funds for works and will therefore look at the LTV of the GDV too.
- The loan to value for new builds and conversions are based firstly base don the purchase price and secondly are measured against the final gross development value (GDV). Using a blend of senior debt (1st charge) and mezzanine or equity funding (2nd charge) it is possible to secure up to 90% of all costs and typically up to 70% of GDV including 100% of build costs.
Additional property as security.
Many lenders can cross charge additional property to bring down the overall loan to value. If you are asset rich then we can potentially avoid the higher costs of development finance all together by securing bridging finance on an existing residential or commercial investment property.
The Hidden Costs Of Property Development Finance.
There are many hidden costs in development finance, some lenders charge an exit fee based on the loan, others charge against the GDV. Some lenders compound interest, others do not. And finally, some lenders charge interest for funds not yet utilised. All of these variables can distort the headline rate and fees!
Fox Davidson are retained by a number of developers that consult us before making an offer on a potential development site. Our developers work with us time and again because we ensure the right lender for a project is chosen and that the lender delivers as promised. If a lender pays us we will not charge a fee.
Do get in touch to find out how we can help you to maximise your profits by securing funding for your next development.
Note that not all lenders we work with are listed due to exclusive arrangements with some development finance lenders.