When getting started in the property development industry, the first thing you’ll notice is the price. You’ll need to spend considerable amounts of capital on purchasing property and supplies you need for renovation. In addition to this, you’ll need to commit a significant amount of time to your projects. As such, you’ll need to secure a stable source of finance to make your life easier and get the best results for your property.
In this article, we’ll be discussing how you can accomplish exactly that. Regardless of what property you intend to purchase, or your reason for getting into the property development industry, you’re sure to find a finance option worth your consideration. Let’s get started.
What is property financing?
Property financing is an umbrella term that refers to a range of property finance options. They are specifically designed to be used in the purchase of property and the renovation of one. They can fall under a traditional category, such as borrowing a mortgage from a bank, but can also include newer methods of finance from private lenders. Regardless of which you choose, you’ll need to gather your documents, have a detailed plan, and have a solid grasp of your chosen method of finance.
Types of property financing
Once you’ve found your ideal property, the next step is to settle on an appropriate method of financing the purchase. There are many options available, each with its own advantages and disadvantages. As such, it’s important to consider your situation and the quirks of each type of finance, in order to settle on the most suitable type. Let’s take a look at a few of those methods:
Bank loans
When shopping for a loan, one of the first places you should turn to is a bank. It is a conventional form of borrowing, used by almost everyone at some point in time. If you have ever owned a home before, chances are you already have some familiarity with the process.
For a traditional bank loan, you’ll need to be able to cover around 10-20% of the overall cost of the property, with the bank providing the rest of the capital. For some investment properties, you may be required to pay up to 30% of the overall value to obtain a bank loan.
In order to acquire a traditional bank loan, you will need to demonstrate a strong credit rating, an equally strong credit history, and a stable income. The bank will also look at your assets, with valuable assets indicating lower risk. If you take out a secured loan, the bank can repossess those assets in the event you cannot make repayments. If you have a mortgage on another property already, you will also have to prove that you can make both payments each month.
Private lenders
If the bank isn’t willing to give you a loan, or the terms aren’t quite what you’re looking for, you may want to turn to private lenders instead. These private lenders provide loans as individuals or as private companies, meaning they can set terms that are considerably different from those at the bank. In practice, private lenders are usually known to the property developer looking to invest, often being friends or family. If a property developer doesn’t know anyone from which they can borrow the necessary capital, turning to investment networking events is the next best thing. They can put property developers in touch with private finance providers. Equipping them with the cash they need to get their projects underway.
Private lenders are free to set their terms, often making them considerably different from those found at a bank. This can be a double-edged sword; on the one hand, these rates can be extremely favourable, with low rates and a lengthy repayment period. However, some private lenders can be predatory. Offering loans at exorbitant rates and leaving only a short window of time in which to repay. They will also usually ask for the property or other assets to be used as security. If you cannot make repayments, they will be seized to cover the cost of the loan.
Utilising home equity
You can leverage your equity in an existing property, to raise the capital for a property purchase. This can be done in a number of ways, such as a HELOC, home equity loan, or a cash-out refinance. While using such methods can raise a significant amount of capital, often around 80% of your home’s value, it does have its downsides. Most notably is the extension of your mortgage. For example, with cash-out refinance, you can expect to extend the duration of your mortgage. Paying more in interest than you otherwise would. You should be confident in your new property’s value before using such a method of capital raising.
Hard money loans
Hard money loans are a highly effective short-term method of raising capital. They are used to buy and sell property in a short space of time, a practice known as property flipping. If you intend to hold onto the property for any length of time, such as to rent or develop it, then you could opt to take out a different type of loan to pay off the hard money loan. However, in most cases, it would be best to use a different form of finance instead.
The main advantage of using hard money loans is their accessibility. Bank loans and other traditional finance options often require a lengthy process to acquire and have strict criteria for eligibility. Hard money loans are not as strict, being mostly concerned with the profitability of the property in question. That said, the usual criteria, such as creditor history and income, also play a role.
In exchange for this accessibility, hard money loans are often quite expensive. They have comparatively high interest rates, and often must be repaid quickly. Considering the risk inherent to this type of loan, it might not be the best option for newer property developers or those with shaky finances.
Conclusion
Delving into the property development industry is a tricky business, but certainly a rewarding one. Finding a stable and suitable method of finance is an obstacle for every property developer. However, it isn’t so difficult once you know your options. Provided you do your due diligence, checking the pros and cons of each type of loan against your situation, you’re sure to find one suitable for your situation in no time.