What is Development Finance?
Development finance is a lifeline for property developers. It’s a specialised loan, different from your regular mortgage, designed to fund property projects of all shapes and sizes – from shiny new residential units and offices to residential conversions or refurbishing a historic building. Whether that be a single-unit project or a multi-unit project, this type of finance is essential because it’s based on what the property will be worth once the project is completed, not just its current value and release funds for both the acquisition, where required, and also the build costs.
The Mechanics of Development Finance
Think of development finance as a pay-as-you-go phone plan for property development. The money is released in stages, which is in line with a pre-agreed-upon build schedule. This step-by-step funding is great for developers because additional funds are released to keep the build on schedule, meaning you only pay interest on the amount drawn when it is actually required. The total amount they can borrow depends on the final value of the project, which lenders calculate based on a variety of factors.
Preparing for a Loan
Securing this type of finance requires some homework. Developers need to present a detailed project plan, demonstrate their past development experience or hire an experienced project manager, provide information about their team, break down the project’s costs, and estimate the project’s worth after completion. This information helps lenders assess the project’s viability and decide if they can lend and, if so, how much money they can release.
Different Loans for Different Needs
Development finance isn’t one-size-fits-all. There are various types available that are tailored to varying project types. Some loans are for buying land or a property that will be demolished and built from the ground up, others for converting office space to residential or vice versa, and some for major renovation projects. Each loan type caters to specific development needs
Repaying the loan
Typically, development finance loans are short-term, lasting anywhere from 6 to 24 months. Developers can repay these loans in several ways: by selling the finished property, refinancing with a longer-term loan, such as a buy-to-let mortgage, or using a developer exit bridge loan, which is a temporary solution until they secure long-term funding or waiting for the units to be sold.
The Importance of Development Finance
This type of finance is a game-changer in the property construction world. It enables the transformation of spaces or land into residential or commercial properties, thereby contributing to community development and urban growth.
Common Pitfalls in Development Finance and How to Avoid Them
Developing finance involves several common pitfalls. By being aware of these and knowing how to avoid them, developers can more smoothly navigate their projects to success.
1. Underestimating Total Costs: One of the most frequent errors is underestimating the total cost of a project. This can lead to a funding shortfall midway through. However, most lenders are experienced in identifying this. To avoid this before a lender is approached, conduct thorough due diligence and include a contingency fund in your budget for unexpected expenses.
2. Over-Optimistic Timelines: Setting unrealistic timelines for project completion or not allowing sufficient time to exit the loan can lead to significant issues, especially if the finance term is not long enough. Be realistic about timelines and factor in potential delays.
3. Inadequate Preparation for Loan Applications: Incomplete or poorly prepared loan applications can lead to delays or rejections. Ensure that your application includes a detailed project plan, financial projections, and evidence of your or your team’s track record working on similar projects.
4. Ignoring Exit Strategies: A common oversight is not having a clear exit strategy for repaying the loan. Whether it’s through the sale of the property or refinancing, have a solid plan in place from the start.
5. Neglecting Legal and Regulatory Compliance: Failing to comply with legal and planning regulations can result in costly delays or penalties. Always ensure that your project adheres to all relevant laws and regulations.
Conclusion
Development finance is the backbone of property development. It empowers developers to bring their vision to life, transforming ideas into physical structures. However, it requires careful planning, and the use of a professional mortgage advisor cannot be overstated.