3 ways to finance commercial property development

Don't have funding in place but want to develop your commercial premises? Development, self-build, and refurbishment finance may be the answer

Property and the development of properties is a well-established industry, with many businesses making millions of pounds per year through development and refurbishment projects.

Purchasing, developing and either letting or selling property is an aspiration for thousands of people throughout the UK, the majority of which will not have the capital available to simply purchase and then develop a property outright.

There are a number of ways in which a property, other than one’s primary place of abode can be purchased including via auctions, using bridging finance, acquiring a commercial mortgage and more (source: SPF Loans).

However, when it comes to the development, expansion and improvement of a property or a set of properties, the vast majority of people and even many developers will not have the funding immediately available. Developing a property is crucial to making a profit.

Whether a property is changed, building multiple flats or ‘units’ or if it is simply a matter of improving the state and offering of a property before selling it on, funding will play a huge part in the decision and in the profitability of the property and its future. For others who do not want to buy an existing property, buying a plot of land and building their own property from scratch is the way forward.

However, with property investments usually made for long term rather than short term reward, how is the money secured and what are the different ways of getting that much needed funding that could secure a hefty profit?

In short, there are a number of funding options, specifically for the development and improvement of properties. This includes development finance, refurbishment finance and self-build finance to name a few.

Development finance

Development finance is a fairly broad term which describes all nature of finance that is used to fund property renovations and refurbishments. The amount of loans in this case can range greatly too. The amount borrowed will depend on a number of factors too including:

  • Overall value of the property to be renovated or developed
  • The gross development value (GDV)
  • Anticipated build costs

Lenders do not however tend to lend 100% of the property’s value. This means that if the work to be carried out costs more than the property, the borrower will have to make up the amount. The GDV refers to the assessed value of the finished project [development]. Lenders will send an assessor to value and assess the property and its potential before money is lent.

Self-build finance

This type of finance is very unique, catering for those that build their own property from scratch. The UK market for these loans is quite small with only around 10% of homes being classified as ‘self-builds’ (Nationwide).

However, for those that do undertake the building of their own property, the property in question tends to be their primary place of residence. This means that the self-build loan is deemed to be a regulated mortgage contract, making it a much more beneficial offering for the borrower.

There are considerations that will need to be made however with a self-build property. For example, as a new build; build from scratch, these types of properties will be required to undergo air tightness testing under Approved Document L of Building Regulations (source: RJ Acoustics).

A major benefit of self-build finance is that the money borrowed is released in stages, reflecting the stages of the project itself. This reduces the risk to the lender of the borrower defaulting on the entirety of the loan, as smaller amounts are repaid in stages. Moreover, properties that are self-built tend to get around 20% or more than the cost to build them.

This means that for a property that costs £600,000 to build, selling such a property could yield a total sale worth more than £720,000.

Refurbishment finance

This is included under the umbrella of ‘development’ finance. However, some lenders offer much more bespoke offerings to those seeking to undertake shorter term work, rather than large scale development. What will often dictate the exact type of development finance taken out is the length of time for the proposed works.

Longer term works will usually fall into the broader category of ‘development’ whilst smaller and shorter term projects, say for a single property requiring limited improvements will require specific refurbishment finance. This type of finance could for example be used to improve an existing rental property to increase the value or rental from it. With properties in many areas of London in particular enjoying increases in value (ABC Estates), this can turn out to be a very sound investment.

As with development finance for larger projects, when it comes to renovation finance, lenders are very careful about what they lend and will not lend more than around 75% of the loan to value (LTV). This refers to the value of the loan to the asset purchased. Therefore, if a property cost £500,000 to buy, a borrower can reasonably expect a maximum loan of £375,000, meaning they would have to make up anything more.

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