Finance for Property Developers

Finance for Property Developers

 

Welcome to Optima Property Funding

We are a London based Finance Brokerage (Authorised by the FCA and members of the NACFB) that work with Property Developers to source finance for their projects in England, Wales, Scotland, Northern Ireland and Republic of Ireland.

We operate in the Residential, Student and Commercial Property Sectors and source the following finance products for Property Developers

Senior
Debt

Senior Debt is the name given to conventional or standard Development Finance where the lender has a 1st legal charge over the asset.

Mezzanine
Debt

Mezzanine Debt is the name given highly leveraged Development Finance where the lender has a 2nd legal charge over the asset.

Stretched Senior Debt

Stretched Senior Debt is the name given highly leveraged Development Finance where the lender has a 1st legal charge..

Equity, JVs & 100% Funding

Equity is the generic name given to highly leveraged Development Finance where an investor (and /or lender)..

Forward
Funding

Forward Funding is a finance model where an institutional investor (for example a pension fund) contracts with a developer..

Developer Exit
Finance

Developer Exit Finance (also known as Sales Period Finance) is effectively bridging funding for constructed but unsold..

Bridging
Finance

Bridging Finance is short term funding secured on residential, student and commercial property and land with planning..

Senior & Stretched
Senior
Debt

Senior Debt is the name given to conventional or standard Development Finance where..

Mezzanine
Debt

Mezzanine Debt is the name given highly leveraged Development Finance where the lender has a 2nd legal charge over the asset.

Equity, JVs & 100% Funding

Equity is the generic name given to highly leveraged Development Finance where an investor (and /or lender) receives a share of the..

Forward
Funding

Forward Funding is a finance model where an institutional investor (for example a pension fund) contracts with a developer (either as land owner or where contract..

Developer Exit
Finance

Developer Exit Finance (also known as Sales Period Finance) is effectively bridging funding for constructed but unsold..

Bridging
Finance

Bridging Finance is short term funding secured on residential, student and commercial property and land with planning consent. Funds raised may..

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What our Clients Say

Duncan Harrison.Grey

Duncan Harrison

Marble Hill Consultants
“We found Optima via a Google search when we were looking for Mezzanine Finance to sit behind our senior debt lender, on a mixed use (14 residential units plus commercial space) new build scheme. We ended up with a far more competitively geared and priced stretched senior debt product from a single lender and since then we have used the Optima team to source finance for our development projects. Gary is well connected in the development finance market, which we would expect of an experienced broker, but we get much more than an introduction to the lender. Gary uses his experience to see and address potential problems early in the process which is invaluable in enabling us to proceed with the project with some confidence that we will get it across the line. He works closely with all interested parties (lender, valuer, QS, lawyers etc.) to facilitate completion. We would highly recommend Optima to property developers.”

Frequently Asked Questions

Q. How would you describe the Residential Property Development Finance market at the moment in terms of both demand for and supply of finance?
Demand for quality family, first time buyer and investment housing is strong and aided by low interest rates (although dampened a tad by Government policies such as the Mortgage Credit Directive which has made it more difficult to get mortgage and various pieces of legislation making it less attractive to BTL investors), but there is insufficient supply thus fuelling price increases. Not surprisingly therefore there is an increased demand for finance from property developers.
 
On the supply side availability of finance has improved significantly over the last few years with both the return of former lenders and new entrants into the market and a return to the more highly leveraged structures of the pre credit crunch days. There remains a dearth of 100% funding models; there are a few structures for experienced developers with well-located and profitable products but the lenders-investors want their pound of flesh. There is a wider pool of available equity, to sit behind debt and take leverage up to near 100% LTC, if the developer is able to contribute a few per cent of costs as hurt money.
 
Increasing and diverse sources of supply is driving the cost of borrowing down; albeit slowly. As a rule of thumb, and certainly for prime borrowers, the lower the leverage the lower the pricing.
 
There is also a much improved supply of long term investment finance for residential property portfolios (not withstanding tightening of underwriting by the Prudential Regulation Authority in 2017) thus enabling developers to retain units for investment and access funding to repay the development lender. In turn this improved market for term investment funding is giving short term development lenders confidence to lend in the knowledge that they may be repaid from either sale or refinance.
Q. What types of institutions are lending?

Investment banks, challenger banks, specialist property funds, peer to peer platforms, family offices, private and institutional investors, bridging lenders; all of whom have expanded their markets and moved into traditional high street banking space.

Q. What about the high street banks?
If we accept there are five main high street banks, in theory three of them will lend on property developments projects. However the applicant must have significant experience, substantial corporate and personal net assets and liquidity and at least 40% of the project costs to go into the scheme in cash. Pricing from the high street banks is at the lower end of the spectrum and so for the developer who meets their underwriting criteria it can be worth pursuing but getting an application for a ‘new to bank’ customer through credit and to drawdown is like extracting teeth slowly without an anaesthetic.
 
The high street banks still have balance sheet issues and simply don’t want short-term property loans on their books, which carry expensive capital costs and are perceived as high risk.
Q. On what types of construction is residential Development Finance available?
New build: residential housing and flats
 
Conversions: of commercial to residential units (under planning consent or Permitted Development Rights), or from large residential units to smaller residential units
 
Heavy refurbishments: where work is of a structural nature and generally requires planning consent/building regulations and the construction element of the facility is sizeable and is drawn in stages.
 
Light refurbishments: where the work is cosmetic rather than structural and where planning consent/building regulations are not required and/or the cost of the work can be met from the clients own resources.
Q. How much of the project costs can be borrowed?

This does depend on factors such as experience, location, unit type and size and profitability of the project but for schemes where total project costs are in excess of £1M, up to 90% of the costs / 75% GDV can be borrowed from a lender (s). Lenders will often set a maximum cap on the day one land loan LTV.  Debt may be in the form of senior debt (1st charge) or a mix of senior debt and mezzanine debt (2nd charge). Equity is available to sit behind debt for sums up to 100% LTC although most investors require a few per cent of the costs as hurt money from the developer. There is a dearth of 100% LTC funding; a few structures exist for experienced developers with well-located and profitable projects but the lenders-investors want their pound of flesh.

Q. How is the borrowing structured?

Funding may be structured in a number of ways:

  • Senior Debt and Stretched Senior Debt 
This is 1st charge lending. The term Stretched Senior Debt refers to more highly leveraged senior debt funding, which is priced accordingly to reflect the higher risk. Pricing will normally be a blend of traditional 1st charge senior debt and more expensive 2nd charge mezzanine debt.
 
Senior Debt/Stretched Senior Debt lenders will structure their loans on either a LTC or LGDV basis.
 
Loan to Cost Lenders or LTC
 
LTC lenders are those that limit funding to a percentage of the total project costs, typically to include:
  • Land, SDLT, and other acquisition costs
  • Construction costs
  • s. 106 costs
Professional fees
 
Finance charges including interest and lending fees
 
LTC lenders may have a secondary cap on the maximum they will lend, measured against loan to Gross Development Value or LGDV. So for example they may lend up to 80% LTC but no more than 65% LGDV. Client cash contribution will typically be made at the land purchase (or refinance) phase. Lenders will, sometimes but not always, set a cap on the day one land loan as a maximum LTC or LTV.
 
Loan to Gross Development Value lenders or LGDV
 
LGDV lenders work backwards from the forecast end value, and having established their maximum loan to GDV (e.g. 65%) they set aside funds as follows:
  •  Accrual for estimated interest
  • 100% of the construction costs and professional fees
Any balance goes towards purchase of the land. Lenders will often set a maximum cap on the day one LTV.
 
LGDV lenders may also apply a secondary cap on the amount they will lend measured against Loan to Cost or LTC. So for example they may lend at 65% LGDV but no more than 80% LTC. Client cash contribution will be made at the land purchase (or refinance) stage.
 
  • Mezzanine Debt

This is 2nd charge or junior debt lending which ranks behind senior debt 1st charge lending in priority and as it carries higher risk it is priced accordingly. The term ‘mezzanine’ reflects the fact that it sits in between senior debt and equity (usually provided by the borrowing client). Mezzanine lenders may structure their loan based open the LTC or LGDV model. So for example they may lend up to 90% LTC or to 75% LGDV.

 

  • Equity

Equity is the ‘debt free’ element of the funding structure and normally refers to the cash contribution made by the borrower. However it can be an investment made by a third party and structured in a number of ways to include a profit share, interest, fixed fee or other arrangement. Third party equity providers may require security by way of a 2nd/subsequent charge over the project asset (strictly speaking it is then debt not equity but this is splitting hairs), and/or a shareholding in the borrowing entity, but often it is unsecured. Equity is available for well-located and profitable projects, typically up to c. 90% of the equity requirement (that is the balance required to fund the project after the debt provision). For example let us assume that a project is leveraged at 80% LTC from a debt provider(s); then the equity requirement is 20% LTC. If an equity provider invests 90% of this requirement, the borrowing developer has to invest 10% of the 20%; that is 2% of the project costs. So for a project with a total cost of £5M, the developer contribution would be £100k, for a project with costs of £10M, £200k and so on. Whilst it is possible to leverage debt to 90% LTC it is unusual for it to be this high in a debt-equity structure due to the debt being expensive at this high leverage. It is more common for the leverage in a debt-equity structure to be c. 75- 80% LTC, thus attracting cheaper debt funding.

 

  • 100% Funding

There are a few 100% structures for experienced developers with well-located and profitable projects. Investors may look for a return made up of a mix of interest, fixed fee or profit share arrangements.

The facility will be made available in two tranches:

Land Loan: for the purchase (or refinance) of the property/land and

Building Loan:  to fund the construction and professional fee costs. This part of the facility will be drawn, in arrears, in a number of tranches following a site inspection by a surveyor appointed by the lender who will check the quality and progress of the work, ensure it meets the statutory planning consent and building regulation conditions and agree a sum for drawdown.
Q. What security will the lender require?
Senior Debt and Stretched Senior Debt
1st charge on project asset
 
Ltd Co’s/LLP’s
1st Debenture & Personal Guarantees (PG’s)
Inter-company guarantees where applicable
 
Mezzanine Debt
2nd charge on project asset
 
Ltd Co’s/LLP’s
2nd Debenture & Personal Guarantees (PG’s)
Inter-company guarantees where applicable
 
Personal Guarantees
PG’s are required by all lenders and the amount will range from a guarantee to cover the full debt (smaller loans and secondary lenders) to limited guarantees for larger schemes from investment banks and specialist property funders; typically c. 20% of facility or for full costs and interest over runs.  Guarantors are not required to provide supporting security but lenders will wish to see that the guarantor has sufficient personal net assets to call upon in the event of requiring recourse to the guarantee. For large loans to regional/national corporate developers PG’s may not be applicable.
Q. How much will Development Funding cost?

It depends upon a number of factors including experience, risk profile, location, unit type, gearing and size of the project. What is certain though is that pricing is not, and is unlikely to be, as cheap as the pre credit crunch era. On the other hand the emergence of new entrants to the market in the last few years has brought much needed competition and the result is a reduction in pricing which is good news for the borrowing property developer.

Lenders will earn a return on their funds by applying a variety of charging structures to include:

  • Interest: which may be charged on the drawn balance, calculated daily and compounded monthly, or it may be charged on the offered facility rather than the drawn balance. Some lenders, notably mezzanine lenders, charge interest on a flat rather than compounded structure.
  • Non-utilisation fee: charged monthly on the undrawn element of the building loan. This is not particularly common.
  • Lending fee in: calculated as a percentage of the offered facility or a fixed sum, either payable in whole, or part thereof, on acceptance of the offered facility or drawdown of the first tranche of funds.
  • Lending fee out: charged on the repayment of the facility calculated as either a percentage of the facility, a percentage of the GDV of the project, a fixed fee or a fee based upon the profits generated from the project. Typically a fee is taken from each unit sale.
There is a wide range of pricing in the market (even for similarly leveraged funding structures) and it would be misleading to attempt to cover these in this text. Comparing interest rates alone is misleading and all charges whether they be interest or fees must be taken into account when assessing the competitiveness, or otherwise, of a development finance product and the only way to get an accurate comparison is to run the project numbers through a development finance appraisal and cash flow.
 
Examples of products and pricing may be viewed in the Free Guide to the Top 20 Finance Products for Property Developers which can be downloaded on the home page of this web site.
Q. What experience will applicants need to have?

Most lenders, and certainly for larger schemes, will only lend to experienced developers who can demonstrate they have profitably built and sold a similar project to the one that they are seeking finance on.

However some lenders will consider applications from construction industry professionals, construction contractors or inexperienced developers on smaller schemes subject to the deployment of an experienced team to include a contractor and project manager. Inexperienced applicants should have a significant cash contribution and should not expect to be offered stretched senior debt to 90% LTC on a 50 unit scheme!

Q. Will the developer have to deploy a building contractor on a fixed price JCT?

No not necessarily. Large and complex schemes will generally have a JCT structure but many small to medium sized developers operate by deploying sub-contractors and direct labour and managing the project themselves. This is usually acceptable to most lenders providing the developer can demonstrate experience and success using this structure.

Q. What legal entities will lenders fund?
Sole traders, partnerships, LLP’s, Ltd Co’s and offshore vehicles.
When the vehicle is to be a Ltd Co, lenders will often prefer it to be a Special Purpose Vehicle, or SPV, set up for the specific project and owning only the project asset/liability.
 
Where the borrower is to be an offshore vehicle full disclosure and audit of the directors and beneficial owners is required.