- August 23, 2016
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In the past five years, purpose-built rental apartments have led the real estate sector in terms of return on investment. The demographics have shifted, vacancy rates are dropping and average rents are rising. With demand outpacing supply, the incentives to build new apartments increase. Already, in cities like London and Halifax, cranes are rising to bring new apartment developments about.
Financing is one aspect of developing new apartments that tends to be overlooked. In the wake of the 2008 recession, lenders are more conservative, and they need more information about a proposed development before they back it. Without a broker with experience in this field to help, financing can become a time consuming process that ties up considerable equity.
Building Confidence With Your Lender
The key to getting your project financed is confidence. You have to exude it, it has to rub off on the lender, and you can’t fake it. As my colleague, Sandy Harrington of IC Funding says, “the biggest challenge for a builder is to gather enough information to show with a high confidence that a project is economically viable before a lender will lend.” Information is what is needed.
Lenders like to assess risk based on history. This is a challenge for new apartments since, by definition, they have no history. It’s important to come to the lender with a good and impartial feasibility study for your project. A feasibility study adds certainty from the beginning and will carefully assess the marketplace to suggest the right unit mix, the right market to focus on, and the right location to build.
It is important that a third party do the feasibility study, since developers tend to be optimistic when gathering data about their own projects, and lenders know this. As Sandy Harrington says, “As soon as you start to hire and get quotes on builders, then the lenders are trying to see who can do it, and if they can deliver on those prices, and if those prices are reasonable. A prospective developer has to be confident that the market has a sustainable number of people who would be able to pay the rents that justify the building.”
Getting an impartial observer to assess your development helps you, and your lender, be sure of your numbers.
Lenders Looking Over Your Shoulder
Be prepared to be in constant contact with your lender, as they’re lending up to 75% of the building’s construction costs. The lender will distribute this money in stages so that he or she doesn’t end up in a position where they’re forced to either put up more money, or be left with an uncompleted building. A quantity surveyor or project monitor will keep an eye on these funds – a cost that is borne by the developer.
Once the project is largely complete, construction financing will transition to permanent financing. This will usually happen when rental income is three quarters of the projected gross revenue. At this stage, the developer will have to decide whether it’s better to keep working with the construction lender, or find an alternate lender who would be more suitable.
The Importance of Good Advice
In all stages of the project, having an experienced commercial mortgage broker to assess your market options can dramatically reduce your final equity requirements, as well as your rate of return. Be sure to contact a broker who can help you build the feasibility studies you need to have confidence in your project, and to help navigate you through the tricky waters of financing new apartments.