In This Article
What is development Finance?
Development finance is a type of funding that helps businesses and individuals build new properties.
It can be used to construct new single residential properties, large housing estates, industrial units, offices, and hotels.
The money comes from specialist lenders who are willing to lend it on the strength of the development. Developers usually have a property/ land to offer as security so that if you fail to repay the loan, they can take ownership of it.
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Types of development Finance
There are a variety of purposes for which developers may need capital. Residential and commercial property development is one such area, as is renovations and conversions, and new builds. Single unit developments can also be funded, as well as large multi-unit schemes.
There are several types of development finance that can help you to get your project off the ground.
Development Finance is for ground up builds of residential and semi-commercial projects. Schemes generally range from 24-36 months and the interest is rolled up.
Development Finance are typically given in agreed stages. The loan being given as the work is completed and signed off by an independent project-monitoring surveyor.
The value of the land and the cost of construction are looked at separately but usually as part of the same transaction. The value is decided based on the estimated value of the property once the development has been completed.
Development Exit loans
Because development finance has an interest rate that reflects the lender’s risk in the project. It can be more expensive than other forms of finance. However, the value of the project will increase as it moves through its stages, and you will have the option to move to a lower cost loan once it is completed.
If you are planning on selling the project, it is best to do so as soon as possible in order to take advantage of the lower interest rate.
It is important to have a detailed discussion with your lender about repayment plans for a Development Exit loan, as these are typically based on the sales plan for the project.
This discussion should include timing of planned sales and what proportion of the proceeds you may be able to retain at each stage.
For example, if you are selling units, the lender is likely to want you to use all the sales proceeds from the first units to reduce the loan.
Refurbishment finance is a type of loan used to finance the completion of a substantial refurbishment or minor development of a residential property.
The loan is secured by a first charge over the property and is typically for a term of up to 18 months. Interest can be rolled-up during this term. Both your loan and interest are repaid in one amount when the project is sold.
The amount you can borrow is based on the completed development value of the property. Lower interest rates are often available for larger amounts of security cover.
Stages of development finance
If you’re looking for development finance, there are a few stages to get through before you can get your hands on the money.
The first stage is an enquiry. This is generally advice about whether your project is viable and what kind of finance you’ll need.
Next is Agreement in Principle, which means the lender has agreed to work with you on your project and have looked at all the relevant paperwork. They’ll give you an indicative offer for what we think we could lend you for building costs, subject to survey of the site and valuation.
Then comes the development site visit—this is when the lender goes out and looks at your site, so that they can give an accurate valuation based on what they see.
After that comes a formal loan offer—this will detail all the terms of our agreement with you, including repayment dates, interest rates, fees and so on. The next step will be getting everything signed off by our lawyers and sending them off to yours!
Once everything’s signed off by both parties, funds are drawn down (usually in instalments) so that you can fund build costs until completion—when the property is completed and ready for sale or refinancing.
Finally redemption – once your development has been completed and sold/refinanced, then any remaining funds will be returned back.
What are the advantages of development finance?
Development finance is an important tool for developers looking to build new properties. It’s a large funding facility that can fund 100% of the construction costs and can be used on virtually any project, regardless of its size or financial viability.
There are several advantages to using development finance as part of your development strategy:
- Unsuitable security: Development finance does not require any property as security as the land may be enough, so you can use it on projects that might otherwise be too risky for traditional lenders.
- Interest can be added to the facility: Interest rates on development finance are higher than those charged by traditional lenders and can be added to the total loan amount before being released in stages throughout construction.
- Development finance funds can be released in stages: If you need money at different stages during construction. Development finance gives you the ability to access it as needed without having to wait until all funds have been raised through traditional sources like equity investors or other lenders.
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Development finance interest rates and costs
The interest rates and costs can vary depending on the lender. But there are some common features:
Interest rates: These are what you pay to borrow money from a lender.
Facility fees: These are fees levied by lenders on top of your interest rate to cover their costs of managing the loan.
Exit fees: These are fees charged when you repay or refinance your loan. They’re often calculated as a percentage of the total amount of the loan being repaid.
Broker fees: These are commissions paid to your broker for finding a suitable lender for you and you may pay them a broker fee.
Other development finance costs
In addition to the standard costs of development finance, there are a few other fees that you should be aware of.
Valuation fees: These are fees paid for having an expert value your property. A surveyor will need to visit multiple times.
Application fees: The application fee is a one-time fee paid to apply for development finance.
Legal fees: Legal fees are paid to solicitors to work on behalf of the lender when drawing down the initial money.
Of course, when carrying out a development there will be many other fees to consider for professionals such as architects, planning consultants, costs to builders, purchasing of materials and more.
How is interest charged?
Interest is charged on a development finance facility on a monthly or annual basis. The interest rate is usually set at the time the facility is signed, and it can be anywhere from 2% to 8%+. Your broker can find this out for you.
The amount of interest charged depends on the terms of your facility agreement. If you miss payments or are late with them, you may have to pay additional fees or interest charges.
What affects the interest rate for the loan?
The interest rate for a loan is determined by many different factors. Here are some of the main ones:
- Loan-to-value: If a developer is asking for a loan to cover a larger amount of the cost of a project, they’ll have to pay more interest on that loan.
- Developer’s previous experience: If you’ve had past successes with similar projects, lenders will be more likely to give you a lower rate.
- Type of project: If your project is built in an area that has historically been safe from natural disasters or other issues, lenders will be more likely to give you a lower rate.
- Location of the development site: If your development site is near an airport or other major transportation hub, lenders will be more likely to give you a lower rate.
Development Exit Finance
If your current development finance facility is coming to an end, or if you don’t have the funds available to complete the development, a bridging loan could be the answer.
A bridging loan can help you reduce costs, tide you over until completion of your current project and free up capital for other uses.
Types of Borrowers for Development Finance
The types of borrowers for Development Finance are limited companies, individuals/sole traders, and partnerships.
Limited companies are the most common type of borrower for Development Finance. They are businesses that operate under a set of rules and regulations that allow them to raise money from investors in exchange for shares in the company.
Individuals/sole traders are people who are self-employed and run their own business as an individual or as a sole trader. They may also work for themselves but not be registered as a limited company.
Partnerships are a group of two or more people who co-own property together or operate a business together (even if they do not share profits). Partnerships don’t have to be registered as limited companies; however, they must be registered with HMRC as a partnership.
What documents do you need to support your development finance application?
You’ll need a lot of documents to support your development finance application. The exact number depends on the project, but here are some common ones:
- Planning permission and details of any other approvals you’ve received (e.g. building regulations)
- Details of your team, including contractors, architects and other professionals
- A timeline of the project
- An asset, liability, income and expenditure summary
- An estimate of the project’s GDV
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If you’re thinking about your first property development, we’ve got some tips for you!
First off, it’s important to have a good team around you. This means people who are going to help you make sure everything goes smoothly and that you’re not going to end up with a bunch of problems down the line.
Your team should include a solicitor, an accountant, and an architect—if they know what they’re doing, they’ll be able to help you avoid any issues that could derail your project before it even gets off the ground.
Second, know your local market and be aware of any similar developments that might be coming onto the market. If there are already a lot of similar ones in the area, this could mean there won’t be as much demand for yours when it comes time to sell or rent out units—and that could lead to problems down the line for you when it comes time for investors to start looking at their ROI (return on investment).
Finally, if this is your first property development and you don’t have much experience in this area yet, we strongly suggest hiring an experienced property developer as well—they’ll help guide.
Speaking with a commercial mortgage broker would be recommended as they will have access to more lenders than just visiting your bank who may not offer development finance at all.
Most brokers that specialise in development finance will be members of the NACFB.