What is Property Development Finance? How does it work for UK Developers?
Property development finance is a crucial aspect of turning property development visions into reality. For UK property developers, understanding the available financing options, their requirements, and how to secure funding can make the difference between a successful project and one that falters.
In this guide, the team at Wharf Financial will talk you through the essentials of property development finance by explaining the types available, how to access it, and key considerations for developers to think about.
What is Property Development Finance?
Property development finance refers to specialised funding loan designed to support the construction, refurbishment, or conversion of property. It enables developers to access the capital needed to purchase land, cover construction costs, or undertake redevelopment projects.
This type of finance is typically short- to medium-term, bridging the gap until the property (or properties) is completed and sold or refinanced.
Types of Property Development Finance
- Development Finance
- Tailored for property construction or refurbishment projects, these loans cover land purchase and construction costs.
- Often released in ‘drawdown’ stages that are tied to project milestones or completed phases.
- Bridging Loans
- Short-term loans designed to “bridge” a financial gap. They are often used to purchase land or property quickly.
- Ideal for developers waiting for another property to sell or when time-sensitive purchases arise, like at auction for example.
- Mezzanine Finance
- A hybrid of debt and equity financing, mezzanine finance sits between senior debt (e.g. development finance) and equity.
- Useful for bridging funding gaps and increasing a developer’s borrowing potential.
- Equity Finance
- Involves selling a stake in the project to investors in exchange for capital.
- Suitable for large-scale developments where securing full funding through loans may be challenging.
- Joint Ventures (JVs)
- Collaborative arrangements where developers partner with other investors or entities to share project risks and profits.
- Common when a developer has expertise but lacks sufficient capital and needs an added boost to get the project off the ground.
- Senior Debt and Commercial Mortgages
- Both are longer-term financing solutions that may be used after the development is complete, to refinance or retain the property.
How Property Development Finance Works
To secure finance for property development, investors need to understand how the process of application works.
Initial Assessment
At the beginning of the process, lenders will assess the project’s feasibility including the Gross Development Value (GDV) and estimated costs. To do this, developers typically present a detailed project plan including budgets, timelines, and exit strategies.
Loan-to-Cost and Loan-to-GDV Ratios
Lenders will want to determine two loan ratios:
- A loan-to-Cost (LTC) ratio, i.e. what percentage of the project costs the lender is willing to finance.
- A loan-to-GDV ratio, defining how much of the GDV (end value of the project) the lender is prepared to fund.
Staged Funding
Once the loan amount has been decided upon, the lender will look to release the funds to the borrower in stages. This is because they’ll be keen to manage risk by ensuring funds are used appropriately and in alignment with the progress of the project. Often an independent project manager will be appointed to confirm progress, providing reports back to the lender.
Repayment
When it comes to repayment of the loan, lenders are typically repaid through sales of the developed properties, through refinancing on to longer term finance, or retained profits.
Key Factors Lenders Consider In Development Finance Applications
When borrowers first make an application for development finance, experience and track record are something lenders consider. Whilst it’s not impossible to obtain finance as a new developer, it can make it more challenging.
Developers with proven experience are more likely to secure favourable terms than first-time developers. If you’re new to developing, you may face higher interest rates or stricter conditions so making an application with someone who is experienced may work in your favour.
Project viability is another key consideration for lenders as they’ll be keen to evaluate the profitability of the project. They’ll assess GDV, projected costs, and market demand.
In some cases, borrowers may make a personal contribution and are often required to invest a portion of their own capital, typically between 10-30% of the project costs.
When applying for finance initially, borrowers will need to provide an exit strategy to the lender so they can be confident in repayment. Clear plans for repaying the loan are key to success, and developers will need to consider whether they’ll repay the loan by selling the property, refinancing, or via rental income. Without an exit strategy, a loan may not be approved.
Something important for developers to consider, which is often overlooked, is market conditions and greater economic factors that may directly affect project development. For example, high interest rates may cause the price of supplies and labour to increase making the project unaffordable. Housing demand and construction costs may also fluctuate. This can influence lending decision so we suggest you thoroughly research your project and the current market landscape when looking to apply for finance.
How to Secure Property Development Finance
When it comes to applying for finance, these top tips can help to put you in good stead for a smooth application process:
- Prepare a Comprehensive Business Plan – this plan should include project details, timelines, budgets, market analysis, and exit strategies. Also ensure you highlight any unique selling points (USPs) of the development that might encourage a lender to provide a loan.
- Obtain Accurate Valuations – Be sure to engage professional valuers to provide realistic assessments of land, property, and GDV.
- Partner with Specialists – As property finance advisers ourselves, developers often Wharf Financial because we have a broad breadth of knowledge and know how to find solutions for our clients. By engaging us in a conversation, we can help you to understand what type of finance your project needs and help you with the application process. What’s more, our years in industry mean we have exclusive access to products and can negotiate more favourable terms than if you were to go direct.
- Demonstrate Financial Stability – When applying for finance it’s essential to provide evidence of personal or business financial health to boost lender confidence.
- Understand the Costs – In order to obtain the right amount of finance, make sure certain factors are not overlooked including changing interest rates, arrangement fees, and any additional charges when calculating project budgets.
Tips for Successful Financing
Having been advising in this industry for many years, we’ve seen the obstacles that developers and investors can sometimes overlook. Here are our three key takeaways to ensure you don’t forget!
- Plan for contingencies and account for unexpected delays, cost overruns, or market downturns within your budget planning.
- Maintain good relationships lenders and advisers as building trust can improve access to future funding.
- Stay informed and immerse yourself in market trends and regulatory changes to ensure you know what might impact the property development industry and therefore, your project.
Property Development Finance
Property development finance is a powerful tool for UK developers aiming to bring ambitious property projects to life. By understanding the available options, meeting lender expectations, and carefully managing risks, developers can secure the funding needed to succeed.
Whether you’re a seasoned professional or embarking on your first project, a strategic approach to finance will set the foundation for long-term success in the property development industry.
This guide provides an overview, but every project is unique. Always seek tailored advice from professional advisers who can provide advise based on your individual circumstance. For bespoke, expert advice, contact Wharf Financial today.
