In spite of the insecurities in the property market, a lot of people are still trying out their chances in property development. So property development mortgages are very much in demand.
It’s not just big development companies who go for property development mortgages – private individuals and partnerships also need development finance. If you’re a private individual your project is likely to be the purchase of a residential property for refurbishment; a conversion such as a house extension or converting a large house into flats; or finding a site to build a new home from scratch.
Although property development mortgages are open to private individuals just as much as to large companies, you could have more difficulty as a private individual because of the large deposit you might need to find. In order to get the highest possible LTP (loan-to-project) ratio, you have to convince your lender of the potential profitability of the project.
So how do you work out your profit potential? There are two main steps.
1. Fully estimate the costs involved, as accurately as possible. These include:
• Purchase price of the site and/or building.
• Project costs including materials and labour, plus the cost of employing a project manager if applicable. (You are strongly advised to have a project manager if you are new to the game. You need someone who can have an overview from start to finish.)
• Fees for professionals. These will include, at a minimum, legal fees, architect and surveyor. Your lender may also commission their own survey, at your expense.
• Actual costs of the finance – interest payments, arrangement fees, etc.
• Contingency fund. There are so many uncertainties involved in a development project that it would be most unwise not to include a contingency fund. This should be as much as you can afford, though not less than 10 per cent. Of course, if you are fortunate enough not to have to use it, you can repay it or use the money for something else.
2. Obtain as accurate an estimate as possible of the GDV (gross developed value) of the project. This is the other side of estimating profitability. The GDV is what the value of the property will be when the work is completed. Some developers can actually obtain loans based entirely on the GDV, but as a newcomer you are unlikely to get one of these. Estimating the GDV is obviously less precise than estimating costs.
• First and foremost, research the market in the area. However exciting the project may be, if there isn’t a market there’s no point in even starting. Talk to estate agents to check whether supply of comparable projects exceeds demand or vice versa.
• Research factual property price data to find out what people actually paid for comparable properties within a recent period.
• Use resources such as the local library or council offices to find out about potential changes in the locality that may have taken effect by the time your project is complete, and that could have the effect of either depressing or stimulating demand. Examples could be the closure of a school or hospital or the opening of a new one; a planned bypass; planning permission given or refused for other property developments, including bigger ones than yours, etc.
• When you have collected all this data, it’s a good idea to enlist the service of a professional valuer to reach a projected valuation based on the data.
Once you have arrived at estimates of both costs and ultimate value, you can reach a projection of profitability. Of course, if it’s low, zero or even negative, there’s no point in proceeding! If it seems positive, and the lender is impressed with the way you have arrived at the figures, you are well on the way to achieving a good loan ratio. Property development mortgages aren’t based on certainty, but the closer to certainty you can get, the better you’ll do!
A commercial mortgage broker may be willing to help you with analysing your property development project. Whilst they are unlikely to be able to comment on the likehood of success, a finance broker can prepare figures based on the purchase, development costs and final value to present to the development finance company.