Short on Time – here’s the Bottom Line:
- Development finance is specially designed for the purchase of land and then building, renovation or refurbishment of property.
- Fees associated and interest payments are most likely to be added onto the loan rather than paid monthly making them attractive to developers of large projects.
- Expect to be lent up 70% of the build costs but 100% of the site or land purchase cost.
- Interest rates for experienced developers seeking 1 million and above should equate to 6.5-7% per annum. For non experienced developers seeking finance of below 1 million interest rates of 9-16% per annum.
- Having staged draw downs makes borrowing ‘cheaper’ over the term of the loan.
What is development finance?
Development finance is finance specifically tailored for property developments. They are typically used to fund the complete construction of new buildings, but they are also used to convert or refurbish buildings too.
The finance comes in the form of a loan, and that loan is repaid either through the sale of the new development or by way of refinancing.
What is Gross Development Value or G.D.V?
Gross Development Value is the total value of the newly constructed property or properties. For example if you plan to build four properties that will have a value when the build is completed of £1 million each, then the GDV will be 4 million [4×1,000,000].
Types of Development Finance
Residential Property Development – this is the most common usage for property development finance and as such lenders have a solid array of loan options to choose from.
Commercial Property Development – this is the development of properties such as factories, warehouses and office space, amongst others.
Renovations, Refurbishment & Conversions – the conversion might be commercial property into residential, or an old factory into commercial office space. Whichever it is, development finance options are available to suit all projects.
New Builds – finance is available for 1 unit or hundreds of units. This is an extremely common source of property development finance and as such is available from high quality well known lenders.
How much can I borrow for property development?
When looking for lenders you will need to allow for total costing and fees, such as:
Land Purchase Costs
Lenders Fees – Set-Up Costs, Interest & Exit Fees etc
Professional Fees – such as Solicitors & Surveyors
You can typically borrow 70% of the build cost but 100% of the site or land cost.
It is possible to get 100% development finance but interest rates and fees are generally higher as the lender has to take on more risk. However this interest is significantly reduced when requiring 100% development loans, if you can provide security. So for instance another property, land or personal guarantors.
The best lending ratio is finance for 60% of the development site but whilst still being able to borrow 100% for the site or land purchase. At 60% you have access to the best lenders, rates and products.
How are Development finance funds paid?
Contrary to popular belief, finance is not paid out as one lump sum. Payments are provided in stages; as made clear below:
Initial payment for the purchase of the land or site – upto 70% of the current value.
Staged payments are then made throughout the build project. These payments are agreed upon prior to any release of monies, often actually during the loan application phase. Scheduling of the build is then essential to be accurate so that payments are made on time and in full to avoid disruption of the build.
What interest should you expect to pay?
Lenders tend to assess risk in the same way, however still dependant on their own balance sheet. This means they offer different interest rates to borrowers based on various factors. Factors like Gross Development Value [GDV] but the experience and track record of the development team all play a part.
Smaller loans, below £0.5 million, will have higher interest rates attached as there is a significant level of work to manage the project and stage the payments from the lenders behalf. Annual interest rates in these scenarios should start from cicra 7%. However most typically borrows will see interest rates from 10-16% per annum, or 0.85-1.4% per month.
A loan of £0.5 million and above, for someone with development experience and with a GDV below 70% would likely see interest rates of between 4.5-9%.
Loans of £1 million and above for experienced developers above will generally see interest rates of 6.5-7%
How is the interest Paid on Development Finance
It’s now very common to have finance facilities that allow monthly interest charges to be added to the loan. This means you will not have to make monthly interest rate payments keeping that much needed cash flowing to the right places.
The interest is then infact added to the loan and repaid when the loan is repaid, at the exit.
It is also possible to repay some of the development loan when you sell some or part of the units you have built. The idea is that this will reduce the loan and interest payments so that in the long run the cost of servicing that loan is also reduced.
Lenders allow interest charges to be added to the loan calling this being ‘rolled up’. They realise that as no income from the project is being produced on a monthly basis, which is typically the payments basis for most loans, they allow it to be simply rolled up. The payback comes nearing the end of the project, with the sale of units, or the development loan can be refinanced.
Repaying the Development Finance
All lenders look favourably when developers can demonstrate a clear exit plan for repaying the loan. These include but are limited too:
Sale of the Property or Sale of the Completed Site
Refinancing with exit products – this allows you to clear the original development finance loan and provides you with further finance until the final exit or normally till the site is sold. This refinancing is often favoured as it is usually available at a lower interest rate.
Long term refinancing – having this route already planned before applying for the development loan will prove you have a clear exit route. The long term financing route is favoured by developers who wish to keep the developed property for themselves or as a Buy To Let. Long term financing is usually in the form of a commercial [or residential] mortgage, which are available with nearly all lenders.
Development Finance Costs and Fees
All costs, charges and fees do vary from lender to lender these are the main four you will encounter:
Facility Fee / Arrangement Fee –
This can be charged by the lender as a ‘set-up’ fee for the loan this fee is typically between 1-2% of the loan itself. This fee, with some lenders, can actually be added onto the loan itself and paid back at the exit.
Interest Rates –
Interest on development loans can be charged on a monthly basis or annual basis. Depending on how long you are looking to have the loan for. Whilst longer term loans generally have lower interest rates attached, these are paid back over a longer period so the total repayment amount is higher. Annual rates are around 7-8% whilst monthly interest rates can be 1%.
Exit / Completion Fee –
The exit fee is a percentage of the total loan, paid when you exit or pay off the loan.
Other Fees & Charges [Often Hidden!]
Administration Fees – Not all lenders charge this – so ask your broker or check yourself whether or not this applies.
Broker Fee – most brokers can negotiate good rates for clients without charging them a penny. This is because the broker should be paid by the lender directly. Check or ask.
Monitoring Fees – to monitor the progress of the project, lenders can charge a monitoring fee. Generally this involves someone visiting the site to check on development or it might just entail a phone call.
Drawdown Fees – Everytime the lender transfers a new instalment of the funds to the borrower they can charge a fee. This could be fixed or a percentage of the amount being transferred check with the lender or your broker directly, as these fees can add up over the life of a project.
Development Finance Process – Application to Exit in 11 Stages
Stage 1 – Initial query made directly to a lender or broker, includes discussion around loan requirements and the project size and scope.
Stage 2 – Comparison of deals available with the broker
Stage 3 – Broker handles application to chosen lender(s)
Stage 4 – Agreement in principle from lender
Stage 5 – Site visit to establish project viability
Stage 6 – Valuation, handled by independent 3rd party
Stage 7 – Offer of loan made to borrower and final terms
Stage 8 – Solicitors
Stage 9 – Loan application completion, accepted and first payment [drawdown] made
Stage 10 – Continuing payments made by lender as project progresses
Stage 11 – Loan Exit as borrower repays loan or refinances