Bridging loans and buy-to-let mortgages are just a few of the property development financing alternatives accessible. Discover the advantages and disadvantages of these various solutions and decide which is best for you.
If you want to invest in property but don’t have the funds to do so, you’ll require property development financing.
Developer finance is a broad term that encompasses a wide range of financial products, including mortgages, business loans, and even unsecured personal loans. Eligibility varies significantly – some lenders want a detailed business plan, while others simply look at your credit score – but you’ll need to make sure you have a well-thought-out investment strategy to have the best chance of getting a good rate.
There will be no shortage of lenders but finding the right one who will want to give you the deal for your project at the right rate isn’t necessarily easy. The UK property development lending business is booming, with UK Finance members lending a total of £40.5 billion on buy-to-let mortgages alone in 2018. (a 5.5 percent increase on the previous year).
The realm of property development finance, on the other hand, is complex and can be convoluted. As a first timer it can feel as if there’s lots of jargon, and it might be difficult to figure out the upside and downside of the various solutions available. Fortunately, we’re here to assist — keep reading to learn more about what a bridging loan is, the differences between buy-to-let and buy-to-sell mortgages, and what deferred interest is.
This property development financing guide covers:
Options For Financing Property Development
First, let’s go over the five basic ways to fund your property development:
Cash is king: This one is self-explanatory; if you have a lot of money on hand, you can use it to acquire land or a site with an existing structure . This is generally not a practical option when you first start off as you’re unlikely to have the funds in the bank, but it’s something to consider in the future.
Buy-to-let mortgage: If you wish to buy a house and rent it out, a regular mortgage will not suffice; instead, a buy-to-let mortgage is required. These differ from traditional mortgages in several ways: they require a greater deposit, have higher interest rates, are interest-only, and have higher costs.
Buy/Build-to-sell mortgage: If you want to buy a house, renovate it, and then sell it, you won’t be able to utilise a regular mortgage. To do so, you’ll need a buy-to-sell or flexible mortgage, which will allow you to sell a property soon after purchasing it, which you won’t be able to do with a conventional mortgage. You pay for the privilege, as you’d think, with substantially higher interest rates, more fees, and a far larger deposit.
Bridging loans: Bridging loans are short-term loans with high interest rates. People who wish to buy a property but haven’t yet sold their previous one frequently take out these loans. Bridging loans are often used in property development to purchase a property, refurb it, and then sell it – in the industry this is called ‘flipping a property’. In selling the property after refurb they pay off both the interest and the loan amount in the process. It’s critical to understand that bridging loans are a type of secured loan, which means you’ll almost certainly require property or land to secure the loan. A clear exit plan that describes how you will repay the loan at the conclusion of the term will also be required by a bridging loans lender.
Property development finance is a broad phrase that encompasses both specialised loans for established property development companies and loans for major renovations.
Acceptance and rates are determined by your track record in property development and the strength of your business strategy.
Personal loan: If you only need a little amount of money for a minor renovation or have inherited a home that needs some TLC, perhaps a quick interior refresh, you might want to explore an unsecured personal loan.
Should I Set Up a Limited Liability Company?
It may be tempting to start a limited company to invest in property because you will pay corporation tax instead of income tax on your earnings and there are significant savings to be made on offsetting your loan interest against the corporation tax. However, in addition to the additional labour, there are financial implications, such as annual accounts filings, accountancy bills, higher loan interest rates and the possibility of dividend tax duty. However, the best option for you will be determined by your unique circumstances, investing intentions, and tax burden. Always seek professional advice when considering forming a limited company.
Mortgages For Landlords
A buy-to-let mortgage is required to purchase and rent out a home, as previously stated. This is because most ordinary residential mortgages include provisions prohibiting you from renting out the property.
What Exactly Are They?
A buy-to-let (BTL) mortgage does exactly what it says on the tin: it allows you to purchase a home and then rent it out. A buy-to-let mortgage is typically issued on an interest-only basis, which means that your repayments will only cover the interest on the loan, rather than the capital borrowed. At the conclusion of the loan’s term, you’ll have to repay the amount you borrowed, either by selling the house or, most likely, taking out another mortgage on it.
A BTL mortgage is riskier for the lender than a regular mortgage because the repayments should be met by tenants paying rent, but this can pose issues, as can vacancy months. BTL mortgages feature higher interest rates and fees as a result of this.
You’ll also need a substantially larger deposit – a minimum of 25% is typically required, but depending on your circumstances, you may need to put down as much as 40%.
These large deposits may appear to be a disadvantage, but there is an advantage: the less you borrow, the cheaper your serviced interest payments will be, and the less you’ll have to pay off or refinance at the end of the term.
Is a Buy-to-Let Mortgage Available To me?
Typically to qualify for a buy-to-let mortgage, you must tick the following boxes:
- You own your home entirely or with the help of a mortgage.
- You have a good credit history.
- You have a yearly income of at least £25,000.
- You aren’t too elderly – many lenders have a maximum age limit of 70 or 75 years old when the mortgage term ends. If the loan was for 25 years and the maximum age limit was 75, you’d have to be 50 or younger to qualify. Shorter terms are available so don’t dismiss it until you’ve spoken with a broker or lender.
- You’ll have adequate rental revenue – a frequent requirement is that the rental income you earn exceeds your monthly payback by 25-30%.
What You Should Know
A buy-to-let mortgage can be divided into three categories:
A tracker mortgage is one in which the interest rate you pay is fixed at a percentage over the Bank of England base rate. This base rate is at 1 percent as of 5th May 2022 and it is reviewed every 6 weeks. However, this rate can (and has in the past) fluctuate. The amount of interest you pay will change every time it does – you’ll pay less when it goes down and more when it goes up. If you’re considering a tracker mortgage, you must factor this into your calculations.
Discounted variable mortgage – If you have a discounted variable mortgage, the interest rate you pay will be set at a percentage below your lender’s standard variable rate (SVR). You should be aware, however, that your lender has complete control over the SVR and can raise it at any time. Obviously, when the SVR rises, your interest rate will rise as well, so keep this in mind while deciding between BTL mortgages.
Discounted rate packages typically last two years; after that, you’ll be switched to your lender’s standard variable rate and will be able to shop for another loan.
Mortgage with a fixed rate: The most straightforward of the three is a fixed-rate mortgage. For the duration of the loan – usually two, three, five, or ten years – your payments will remain the same. You will be switched to your lender’s standard variable rate at the conclusion of the term, and you will be able to look for another loan.
Make sure you plan for instances when you won’t have any rent coming in with any BTL mortgage. You’ll still have to make payments, so be sure you have enough money set aside to cover them.
Buy-to-let opportunities can produce decent income, as long as the property is not overleveraged (i.e. borrowed against too heavily) and the cash flow of the tenant is reliable. This property financing solution will need to also take into account the management of the tenancy as well as the general upkeep of the property.”
Always keep in mind that you might not be able to sell the property for more than you paid for it – prices might go up and down, and you’ll still have to pay off the loan if you lose money.
Mortgages For Resale
You’ll need a buy-to-sell or flexible mortgage if you intend to buy a house, renovate it, and then sell it. This is because most ordinary residential mortgages have steep early repayment penalties and won’t let you sell your home within six months of buying.
What Exactly Are They?
There are two major advantages to a buy-to-sell mortgage over a traditional mortgage: minimal or no redemption fees, and no restrictions on how quickly you can sell the property.
Naturally, these benefits come at a cost: these mortgages have higher interest rates and costs than standard residential mortgages, and you’ll also need a larger down payment (at least 25 percent).
Is a Buy-to-Sell Mortgage Available To Me?
A lender will consider the following factors when choosing whether to accept you for a buy-to-sell mortgage (and what conditions they will apply):
The most significant point is the exit strategy. A lender will want to know how you intend to repay the loan and whether or not your plan is feasible. This usually entails either selling or remortgaging the property, after any renovations. A lender must be convinced that your plan is viable before granting you a loan.
The property: The easier it is to sell your home, the more likely you are to be offered a buy-to-sell mortgage. Lenders favour residences that are “habitable,” meaning that they have a functioning kitchen and bathroom.
Credit history: Just like any other loan, a lender will look at your credit history (but not always your credit score) to see if you’re a good debtor in general.
Experience: It’s a catch-22, but if you can show that you’ve previously utilised a buy-to-sell mortgage to “flip” a home (purchase, renovate, and then sell), you’ll have a greater chance of being offered a more favourable buy-to-sell mortgage.
What You Should Know
Buy-to-sell mortgages are best suited to seasoned real estate investors who can show they know what they’re doing and have a good business plan.
Bridging loans are short-term loans with higher interest rates when compared to most traditional mortgages. They’re popular among people who want to buy a home before selling their current one, but they’re also popular among property developers who want to acquire, renovate, and sell homes (especially if the property requires minor refurbishment that won’t take long to complete and isn’t appropriate for a buy-to-sell mortgage).
What Exactly Are They?
Bridging loans are short-term loans that can theoretically be used for any purpose. They are not mortgages. They are fast to set up, with some only taking 3 business days between application and drawing funds, making them ideal for purchasing dilapidated properties at auction, where the full sum must be paid within 28 days of securing the winning bid.
They are available in two varieties:
Closed bridging loan: You’ll have to tell the lender when and how you’ll repay the loan with a closed bridging loan (an exit plan). As a result, you’ll require a good approach and should be able to settle the balance in a matter of months. This is typically the most common bridging loan being offered in the UK.
Open bridging loans: As the name implies, an open bridging loan does not need you to repay the money by a specific date and hence does not require you to give an exit strategy. You’ll pay a higher interest rate than with a closed bridging loan, and they’ll normally last a year (although longer term bridging loans are also available). Open bridging loans tend to require the borrower to service the debt, that is to make monthly interest payments.
You’ll usually get a response to your bridging loan application within 24 hours. If you are accepted, you will typically receive your funds within two to four weeks. As long as you can pay the hefty interest rates, they’re ideal for last-minute purchases for the short term.
Is a Bridging Loan Right For Me?
Bridging loan choices will be made based on the following factors:
Security of property: A bridging loan is typically secured by a property, and some lenders may require you to own multiple properties where the sum you wish to borrow means you’d be overleveraged when just securing against a single property.
Proof of income: While this isn’t usually required, it may help you get a better rate if you can show that you have a consistent source of income.
Business plan: Depending on the loan, you may need to demonstrate to your lender that you have a well-thought-out business strategy.
Lenders are more inclined to give a property development bridging loan to candidates who have previously completed successful property development projects.
What You Should Know
Interest on a bridging loan is paid in one of two ways:
Every month, the interest is paid or serviced separately to the loan.
Interest is postponed and paid in full along with the loan amount at the end of the period if the loan is rolled up. This is the most common method of paying interest on a bridging loan as the reason why you’d need a bridge in the first place is likely because you’re unable to raise the cash to pay for the property outright. With this in mind it’s also likely servicing the high monthly payments won’t be possible, especially where the property may require funds to renovate or refurbish.
Finance for Property Development
Property development finance is a broad term that can refer to a variety of things depending on the lender. The most prevalent meaning is that it refers to major renovations, conversions, or new construction (i.e. ground-up development).
This form of loan is intended for seasoned developers, and some lenders will only accept applications from businesses rather than individuals.
What Exactly is it?
Property development finance is the most specialised of the financing alternatives described here, and it is also the most likely to involve the largest loan amounts. You’ll most likely have a great track record in property development and be planning development activity that none of the other financing choices on this page can support. Most lenders will evaluate each loan individually and establish interest rates accordingly.
Is Property Development Financing Available to me?
Acceptance for property development financing is based on two essential factors:
Your experience with property development: Your lender will want to know that you can carry out your plans, and the success of your previous projects will be important.
Your company’s strategy: Expect your lender to pore over your business plan with a fine tooth comb – you’ll need to show that you know what you’re doing at every stage of the project.
What You Should Know
Property development finance is the most specialised of the financial choices described here, hence approval rates are typically low. Sourcing the right lender to your requirements is key to achieving the best interest rates. Always examine whether your demands could be satisfied through another source of funding, and only apply if you have the experience and skills necessary to complete your proposed development project.
Personal Loans for Individuals
If you already own the property and only need money for minor repairs, a personal loan may be the most convenient option. You can borrow between £1,000 and £50,000 for one to eight years, depending on the lender.
What Exactly is it?
A personal loan is usually unsecured, which means you don’t have to give up a specific asset like a car or property to the lender if you don’t repay the loan. If you don’t pay, your lender may still try to collect assets, but because there isn’t an explicit link between the loan and a specific item, interest rates may be higher, and your credit score is vital.
Is a Personal Loan Available to me?
Personal loan acceptance and rates are determined by the following factors:
Credit score: Your credit score tells a lender a lot about your financial history because it displays how well you’ve paid off prior debts like credit cards.
Income: Having consistent employment can help your lender believe you’ll be able to pay back the loan.
The electoral register: The electoral register is a list of everyone who is registered to vote in the United Kingdom, and it is used by lenders to verify your identification. If you’re not on the list, your application may be turned down. However, adding yourself is simple: go to the official register to vote page and put in your information.
What You Should Know
Personal loans are available from most high-street banks, but you may need to be an existing client to be eligible or receive the best rates. Regardless, this is a competitive industry, so look into a few different lenders before settling on one.
You should now have a clear understanding of the many property development financing alternatives accessible to you, as well as the benefits and drawbacks of each. The best solution for your project will depend on your particular circumstances and development goals, so make sure you know what you want to achieve, how much it will cost, and how long it will take before making any financial decisions – after all, nothing is worse than a pricey debt you can’t pay back.