Development finance is a specialised loan used to fund the construction or refurbishment of properties. Unlike other property mortgages, development financing is typically short-term, usually 6-24 months. A development finance loan can be used to buy land and/or pay for construction costs and is suitable for new builds, conversions or refurbishments of existing properties.
Many factors influence development finance costs, and understanding them is crucial for evaluating your finance options and your scheme’s profitability. Here are the costs typically associated with development finance:
The interest on a development finance loan is usually expressed as an annual percentage rate (APR) or a monthly rate; interest is rolled up and paid off at the end of the term – when the property is sold or refinanced.
The rate varies depending on several factors, including the loan size, the percentage of the loan to the gross development value (GDV) and the developer’s experience.
The lender will charge an arrangement fee, often known as the facility fee, to set up the loan. This fee is generally 1-2% of the loan amount.
Before agreeing to lend, the lender will require an independent valuation, which the borrower will be expected to pay for.
Other professionals such as architects, brokers, project managing surveyors and solicitors are necessary, and their fees will add to the overall cost of the project.
Most lenders charge an exit fee on loan repayment, which can be a significant cost. Exit fees are usually around 1% of the facility amount, but look out for exit costs expressed as a percentage of GDV!
When calculating the cost of development finance, all factors must be considered, not solely the interest rate. While the loan interest rate is often the most significant factor with other types of commercial loans, it’s not so with development finance. It’s essential to be aware of the other expenses which impact the total development finance cost. The “hidden” costs can sometimes be more significant than the interest rate.
Your success in securing development finance depends on several factors, including:
The GDV is the projected value of the completed project. Typically, the higher the GDV, the more you can borrow.
Experienced property developers with a proven history of delivering projects on time and within budget are most likely to secure development finance. First-time developers are considered higher risk, so they will have fewer options and need more guidance.
Lenders assess the borrower’s credit history when determining whether to lend. Although having a good credit score is less important for development finance, it implies lower risk and can assist with loan approval.
The location of the development project is a crucial factor that lenders consider. Development projects in prime locations with high demand are more attractive to lenders.
Lenders carefully assess the project’s feasibility and the developer’s exit strategy. A clear, well-structured plan detailing how the loan will be repaid, whether through property sales or refinancing, will significantly help with loan approval.
When it comes to development finance, engaging a professional finance broker can be highly advantageous. Brokers evaluate the true finance cost to ensure you get the right deal for your development and circumstances. They can also negotiate better rates and terms and improve your chances of loan success.
If you’d like help securing a competitive development finance loan, please get in touch.
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