The funding options for property development
How do commercial mortgages, bridging finance, and development finance differ? Here's a quick look at when each one might suit your needs
With commercial property worth an estimated £871bn last year, the market for property development is growing rapidly and shows no signs of slowing down despite Brexit talks.
Whether you are a new or experienced property developer, investor or landlord, there are now several different finance options available to help fund your next project.
The common factor is that all the types of finance below are secured on the property, so you are able to leverage the value of the property to get the finance you need. However, there are risks that if you cannot keep up with repayments, the property can be repossessed by the lender to recover their costs.
Commercial mortgages – 4.5% interest
This is similar to the type of private mortgage you would get for your home as it involves monthly payments and can be spread over several years such as five,10, 25 or 40. However, this mortgage is used strictly for commercial purposes such as buying a high street shop, office or warehouse.
Developers could use this type of mortgage to rent out the premises to business owners or re-sell the property for a higher price once it has been renovated or the open market accepts a higher price for it. Commercial mortgages are commonly used by business owners to expand their own premises and own the entire estate, rather than paying high sums of rent every month. There is the long-term plan that they can sell the property when they retire or sell the business.
The terms of the loan usually require a deposit ranging from 25% to 40% and this allows you to receive a loan-to-value of 60% to 75%. Like a typical mortgage, the interest charged depends on the Bank of England Base Rate and the fees charged by the lender. Some providers have introductory rates such as 1.22% for the first 27 months and then 4.99% thereafter. (Source: MoneySupermarket).
To secure the best rates, it helps if you have a track record of developing other properties. If you are applying through your local bank, you may need to present a business plan and the better it is, the better rates you can receive.
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Bridging finance – 0.59% to 2% per month
This is a popular type of short term finance that is best used for buying a property with a tight deadline. Rather than applying for a mortgage which takes several weeks or months, bridging loans can help you borrow up to £25m within three to four weeks – and this can be ideal if you are trying to complete on a property to fight off competition elsewhere or perhaps you have bought property at an auction and have 28 days to come up with the remaining funds.
The bridging industry has grown five-fold in the last five years and is currently worth around £4bn. This type of finance is common for doing renovations and refurbishments to both residential and commercial properties. With loans lasting three months to 24 months, developers have the option to repay their loan at the end of the loan term or refinance. By the end of their loan term, the developer will typically have finished renovating the property and will now be renting it out to the public or trying to re-sell it on the open market.
There is no deposit needed and the loan-to-value is up to 70% for regulated lenders and up to 75% for unregulated lenders. Being an unregulated lender means that they will not consider credit scores as a main factor for approval, instead looking at the value of the property and its potential. They will also not lend to someone if the property is their main living residence. (Source: MT Finance)
Development finance – starting from 0.75% per month
Development finance has an overlap with bridging finance because it is still a way to purchase a property and receive funds faster than a mortgage. It therefore appeals to developers and investors that want to work outside the traditional property chains and administration associated with traditional mortgages.
The difference with development finance is that lenders can help with ground-up development projects such as building something on an empty plot of land. For a new build, they can lend customers 100% of build costs and 50% of the cost to purchase the land. Overall, this can be 50% of the gross development value. Development loans typically last for three to 15 months, with no deposit required and interest starting from 0.75% per month. (Source: Regentsmead)