Securing debt funding for property development is becoming increasingly difficult in the current market. Traditionally, finance for property developments has been provided by the major banks. However, due to ongoing economic uncertainties and difficulties with presales, the banks have pulled back from this part of the market. Instead, we are seeing an influx of non-bank lenders stepping in to fill the gap – particularly out of Australia. This short piece discusses the current challenges facing developers and trends that we see in the alternative funding space.
Reasons for funding difficulties and trends going forward
Why is it harder to secure funding from the banks? There are a number of reasons for this, most notably:
- As mentioned above, developers are experiencing difficulties in obtaining sufficient presales to meet bank requirements. Amendments to the Credit Contracts and Consumer Finance Act 2003 made late last year slowed down the finance approval process and meant some potential buyers could not find a mortgage provider willing to lend to them. For potential buyers, it is now much more difficult to purchase off the plan. Further, rising interest rates and falling house prices makes off the plan purchases less desirable.
- The ongoing inflationary pressures, soaring material prices and supply chain issues make completion of a development a riskier prospect than it used to be. As a result, lenders are more conservative.
Bank funding has not completely dried up and it is still being offered to existing customers and established developers with sufficient equity and good presales. However, it is undeniable that the lending criteria has become stringent. Developers will need to show a significant number of presales to fund developments – which is already a challenge when the demand for presales is going down. While 100% debt coverage was sufficient before, the banks may require higher debt coverage going forward. Further, the banks will likely demand stronger feasibility studies around projects and developments.
Alternative funding options
The caution of domestic banks has led to the emergence of other funders to step in and fill the gap, particularly out of Australia.
This influx of non-bank lenders offers additional funding opportunities for developers. These financiers provide some advantages over the traditional banks. Summarised below are pros and cons associated with obtaining finance from non-bank lenders:
Pros
Often provides more flexibility as they are not as regulated as banks and have a different risk appetite.
Lending criteria is not as strict as the banks – presales requirements are often lower and have more flexible qualifying criteria.
Non-bank lenders often have less conservative loan to value ratio requirements and can put finance in place quite quickly.
Cons
Interest rates tend to be a lot higher compared to banks as the expectation for return of investment is greater.
Non-bank lenders may impose stricter terms and penalties on the borrower, and they are not always as predictable as banks especially in an enforcement situation.
Non-bank financiers may also look at alternative structures such as putting in a combination of equity and debt.
Conclusion
Securing development funding in the current market situation can be a challenging task. However, it is not all doom and gloom in the sense that alternative options remain available to developers. When choosing this option developers need to assess associated risks carefully.
Please contact one of our experts if you would like to discuss any of these issues further.
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