If you are an investor, landlord, or property developer, there is an entire range of financial products that you can avail to help you get started with your next construction project. But the alternative lending market may seem complicated and large to you, even if you are an experienced developer.
To make things simpler for you to understand, we will go through some considerations that you need to take into account which are needed to make correct decisions relating to construction finance.
You can use commercial mortgages to purchase commercial property like offices, shops and warehouses. Any space which doesn’t qualify as a private residential property can be bought using a commercial mortgage. They function in a way which is quite similar to private mortgages as they help you to spread the cost of a large purchase over a certain number of years.
Established businesses which would like to buy their own premises usually take out commercial mortgages. For instance, a dentist may not have the required finance to make an outright purchase of the building in which she practises, but she may prefer to use a commercial mortgage to own the property instead of paying large amounts of rent for the same.
It is possible to use additional security and secure hundred percent of the finance you need, if you do not intend to contribute cash yourself. But there are several things that need to work in your favour, such as a history of operating from the same premises and a solid trading record.
It is not just established businesses that are eligible for construction finance, but startups too. It may be a little challenging for new businesses to acquire the finance as it increases the risk involved for the lender.
Development Finance or Bridging Finance
Development or bridging finance is the next type of funding that one can apply for in order to take on a construction project. They are basically a type of short-term funding which can pay for development and building costs. The terms ‘bridging’ and ‘development’ may seem interchangeable but there are significant differences between them. The main thing that determines whether you need development finance or bridging finance is how capital intensive the project will be.
Extent of the Building Works
The most important question that you must ask yourself before exploring the options for finance is ‘how extensive are the building works going to be?’. To know which type of finance would be better suited for your construction project, you must be able to evaluate your project on the following three grounds:
When the main changes that need to be done are aesthetic and not structural in nature, the project can be considered to be the most straightforward type of project. The work that needs to be done is largely internal such as construction or repair of ceilings, floors and walls.
Heavy Renovation or Refurbishment
In some projects, structural changes need to be made to the property such as plumbing, moving internal walls, electrics, adding external walls and rooms, or even rebuilding after partial demolition along with making certain aesthetic changes. Such projects qualify as heavy refurbishment or renovation.
Property projects which need greater involvement are those in which a structure needs to be erected on an empty plot of land. The projects in which only the exterior structure of the property remains and the insides need to be worked upon, are known as very heavy refurbishment projects.
The terms used in property development may not be rigorously defined and the above categories are only meant to help you understand the extent of work involved in the project.
Construction Finance in Practice
Depending on the type of project for which you are seeking finance, there is a range of financial products that are available. For example, you may need what is known as a ‘refurbishment bridge’ which may come with the option of converting it into a mortgage later on and provides finance for 3 to 24 months of building costs. Such finance is suited to cover the majority of heavy and light refurbishments.
For ground-up developments and more extensive projects, you can seek ‘development finance’ which covers both building costs as well as land purchase. For instance, if a developer intends to purchase a plot of land for £150,000 and spend an additional £500,000 to build properties on it, a lender might finance a certain fixed percentage of both the expenses.
Let us suppose that the lender is willing to finance 50 percent of the expenses incurred to purchase the plot and 70 percent of the expenses incurred to build properties. In this way, a developer would only need to pay £225000 and the remaining £425000 will be provided to the developer by the lender. Their personal capital can be used for other unexpected expenses or other projects.
The developers who have prior experience of property development may also be able to utilise the properties which they already own to secure construction finance. You can acquire more finance to buy more number of properties, if you have enough free equity in your portfolio. In this manner, it is possible to grow one’s property portfolio without having to utilise liquid cash.
As it is clearly evident, acquiring finance for property development is a complicated area. The first step that you can take to understand which type of finance is best suited for your project is to carry out an assessment which answers critical questions such as how long will the project take to complete, how extensive the project is and what can be the total cost of the project. You must also take into account any possible delays that may increase the costs of development.
Irrespective of whether you are growing your rental portfolio or buying your company’s premises, you need to be a good planner to become a successful property developer and a crucial ingredient in development success is to acquire the right type of finance.