Embarking on a multi-unit development project is significantly more complex than securing a residential loan.
This journey introduces a myriad of challenges that potential developers must carefully consider and navigate.
In the realm of property development, understanding the layers of development finance is crucial, as each tier brings its own set of challenges and requirements.
Tier 1 – Small-Scale Developments (2-4 Units):
For small-scale developers working on 2-4 units, residential construction loans are typically accessible.
These loans can cover up to 80% Loan-to-Value Ratio (LVR), and potentially even 90% if only two units are being built.
The interest rates for borrowing remain within the residential range, and valuations are based on the land plus the estimated end value of the completed units, often referred to as the ‘As If Complete’ value.
Tier 2 – Medium-Scale Developments:
Projects requiring up to $20 million in lending enter a more complex arena of development finance.
Here, developers might not qualify for a residential loan and instead need to navigate commercial loans.
These usually require developers to contribute a significant equity portion—commonly around 70% LVR.
Loans in this tier are typically short-term, spanning up to three years, reflecting the heightened risk and larger scale of the venture.
Tier 3 – Large-Scale Commercial Developments:
For substantial projects such as full multi-unit residential blocks that require upwards of $20M in lending, the financial landscape becomes markedly more commercial.
Lenders in this space often stipulate that a certain percentage of the project must be pre-sold to demonstrate market demand and secure financing.
This can be particularly challenging in slow or saturated markets.
Key Challenges in Development Finance
- Equity Requirements and Pre-sales:
The high equity requirements and the necessity for pre-sales in larger developments pose significant hurdles, particularly for new entrants or smaller developers without substantial capital reserves.
- Permits and Approvals:
Securing the necessary permits and approvals can be a protracted and uncertain process, fraught with potential delays that can escalate costs and disrupt timelines.
These delays are critical as they can lead to extended periods where the developer is covering loan repayments without any income from the project.
- Market Fluctuations:
Changes in the real estate market can dramatically affect both the cost of development and the achievable sales prices of the finished units.
A downturn in the market can make it difficult to sell units at anticipated prices, adversely affecting the project’s profitability.
- Cost Overruns:
Development projects are prone to cost overruns due to unexpected factors such as construction delays, rising material costs, labour shortages, or unforeseen issues with the site.
These overruns can severely strain the project’s budget and timeline.
Resources
To navigate the complexities of development finance successfully, we invite you to deepen your understanding by exploring the following resources
The Property Trio podcast
- Episode 11 – Small time development – How it can work for you, but is it a risk worth taking?
- Episode 31 – Get rich quick schemes – #1 of the top 7 Critical Mistakes
- Episode 67 – Subdividing – fundamentals for success
- Episode 68 – Renovations – top tips and mistakes to avoid
- Episode 211 – The Post-Development Predicament, How Many Properties Do You Really Need? Do I Buy 2 Cheaper Properties or 1 Higher Value & Retirement Planning
- Ep 257 – The Comprehensive Guide to Townhouses – Performance, Selection, Property Planning and Development Projects
Property Planning Resources
Contact Us
Development finance, irrespective of the scale, is not a straightforward path but a complex journey fraught with challenges that require meticulous planning and strategic foresight.
If you would like assistance with a development venture book a complimentary meeting with one of our strategic mortgage brokers to delve into the nuances of development finance and mortgage strategy.
