How does Development Finance work?

how does development finance work

Property development is often challenging, but that doesn’t mean that finding the right type of finance has to be difficult, too.

Development finance is short-term funding for large-scale property development and construction projects. It is used to fund the purchase price of land or property, along with build costs. Development loans work by being issued in set stages in line with the development project(s).

Development finance extends to both new build and large-scale conversions. Here we’ll explain how a development loan can assist you with development projects, whether that be a purpose-built housing estate, bespoke luxury home, single unit or HMO, for example.

Bridging Options is an independent bridging loan and development finance lender. If you are seeking to raise funds for your next construction or property development project, we can provide you with a free, no obligation consultation.

Please fill in our contact form and we will be in touch.

How does property Development Finance work?

Development finance (or a development loan) is a type of advanced loan that allows developers and builders to raise funds towards the purchase price of property (or land purchase), as well as providing the necessary development costs for converting or refurbishing it.

Unlike traditional loans, development finance loans work by taking the value of the property on completion into consideration – with the expectation being that the value of the building will have increased by the end of the financing period.

This enables builders and investors the opportunity to undertake high-profit schemes that would usually be out of reach and budget, whilst receiving a greater return on their investment.

See our guide on starting a property portfolio here.

What are the pros and cons of development loans?

Development finance is considered to be more complex than other types of mortgages and loans. This is mainly because it requires funds to be supplied upfront, as well as in phased payments, in order to tie in with the building process.

This can often lead to comprehensive paperwork, additional fees and lengthy negotiations on interest rates and deadlines.

However, this is a good example of taking the rough with the smooth, as development loans come with many advantages over other forms of finance.

These include:

  • A development loan provides the opportunity to take on larger projects with a better return on investment (ROI).
  • It is appealing to borrowers who require funds to increase the value of a property.
  • Development finance offers a quick way to raise capital, with funds being made available in a matter of days.
  • A development loan is short term and doesn’t require a substantial proportion of cash to be tied down for years to come.
  • Development finance covers both the purchasing cost of a property as well as contractors and materials.
  • Utilising development finance allows developers to undertake multiple projects simultaneously, without waiting for an existing project to complete.

How does the payment process work?

Once approval has been agreed and all paperwork completed, payments for your development finance will be made in stages as the project proceeds.

It is therefore really important that you have an accurate schedule of both building works and costs at the outset, so that you can ensure adequate cash flow throughout the project.

You should also remember to build in extra time for refinancing or selling the property before the debt has to be repaid.

Upon agreement, an initial upfront payment will be given in order for you to secure the property or site in question.

As the development project is up and running, further funding is released at specified stages upon inspection of the site by the lender or allocated surveyor.

These drawdown payments will only be issued once the pre-agreed work has been completed to a satisfactory standard. This process is then repeated until the project is completed.

But remember…development finance should never be used as a long-term solution and is generally only offered for a period of up to 18 months.

Once the project is complete, you will be expected to pay the full amount borrowed back to the lender (plus any interest and additional fees incurred).

How much Development Finance can I secure?

Each development is different, and as such will be assessed on an individual basis.

The amount of funding that can be provided will be determined by a professional valuation report that will take into consideration the following factors:

  • The value of the site or property in its current state – i.e. before building works or refurbishment;
  • the build and conversions costs associated with the project; and
  • the expected value of the property once completed.

Each lender will have its own lending parameters, of course. At Bridging Options, we typically offer around 70% of the acquisition value, and 100% of the conversion costs, but this is negotiable and determined on an individual basis.

As our development finance packages are bespoke to fit your requirements, we will also take into account:

  • Your previous experience and track record of property development.
  • The type of scheme being undertaken.
  • The amount of funding required.
  • The time it will take to complete the project.
  • The location of the development, details of building regulations and restrictions and proof of planning permission.

At Bridging Options, the vast majority of our development finance is provided for residential properties, although in certain circumstances, we can offer loans for commercial and mixed use developments, too.

The key to development finance

When comparing different types of development finance, it is easy to be bamboozled by complex terminology.

Below we guide you through the key metrics used to calculate development loans but have tried to say simply by cutting the jargon wherever possible.

  • Loan to value (LTV) – The loan to value ratio is used to calculate the maximum available advance at any one time. The surveyor or lender in charge of your project will revalue the site throughout the build to ensure that both parties will be getting maximum return on investment without being overexposed.
  • Loan to cost (LTC) – Most development finance lenders will want to know that you are putting a certain amount of investment yourself into the project, and the loan to cost is used to calculate this. For example, a maximum loan to cost offered by a lender could be 70%. This would mean that you have to pay at least 30% of the total project cost in order to secure the rest.
  • Loan to gross development value (LGDV) – This is the maximum percentage that the lender is willing to offer. If a £1,000,000 scheme had a maximum loan to GDV of 70%, the maximum total facility would be £700,000.

Most lenders will use all 3 metrics to calculate the maximum development finance loan. Where there is a conflict between the 3 figures, the lower of the 3 will be chosen to cap the loan.

How do I work out the gross development value (GDV) of my project?

To work out the GDV of your project you must calculate the total profit of the completed property.

This is done by taking the estimated market value (or rental value) and offsetting it against the development cost. This is then represented as a percentage, which is your GDV.

Interest and Fees

At Bridging Options, the exact fees and interest paid by our clients depends on the amount borrowed and terms agreed. In general, however, interest is applied each month and retained, meaning that there are no monthly payments to make until the loan reaches its conclusion and is repaid in full, with interest applied. This generally suits both parties as cash flow can be difficult to manage mid-build.

In addition to the agreed interest charged, there will usually be a number of other fees you should factor into your overall costs.

These can include:

  • Lender arrangement fee – this is usually 1-2% of the loan amount
  • Lender exit fee – this is not always charged but can be 1-2% of the loan amount
  • Surveyor fees – these are to cover the costs of a surveyor monitoring the value of the site and will vary from project to project depending on the amount of site visits that have to be undertaken and complexity of the construction.

What is the difference between Development Finance and Bridging Loans?

There is a big crossover between property development finance and a bridging loan, because they are suitable for providing funds for construction and renovation and are a short term method of finance – but the two should not be confused.

The main factor that sets these two types of finance apart is how extensive the funded project is going to be.  Smaller and simpler developments that just involve aesthetic renovations with no structural work are likely to be better suited to a bridging loan.

Development finance is used for funding heavy refurbishments or renovations as well as ground-up constructions. This can include adding rooms and extensions, demolition and rebuilding or starting with an empty plot of land and creating a brand new development.

Why choose Bridging Options for your development finance?

Quite often it is said that if there is no risk, there is no reward. Well at Bridging Options we only believe in taking risks that pay out.

This is why we consider each application for development finance on a case for case basis, ensuring that you take calculated decisions that are guaranteed to increase value whilst minimising risk.

We will provide you with advice and give an indication of the interest rates and terms you can expect to be offered and will guide you in building your dreams and getting your plans off the ground.

Our experienced team will be there to provide support every step of the way, ensuring that you have everything you need for a successful project and a final sale.

At Bridging Options, we can arrange development funding for new and established property developers or builders.

Offering quick decisions, flexibility and unbeatable personal service, our expertise, contacts and resources will ensure your development not only runs smoothly, but is right on time.

So why not fund your next project with Bridging Options? For a free, no obligation telephone consultation, call us today or complete our online enquiry form.

Bridging Options
Bridging Options

At Bridging Options we specialise in providing short-term loans to help purchase commercial or residential developments and property. If you would like advice or to speak to a finance expert please contact us.

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