Three tips for owners, investors dealing with developers
- James Gerrard The Australian November 07, 2015
It’s beyond debate that Sydney, Melbourne and Brisbane apartment markets are showing signs of overheating in recent months. The combination of low interest rates and a perceived shortage of housing supply has created a market where investors and homeowners face pressures and opportunities that only appear in markets where property developers are very busy indeed.
More recently, the Australian Prudential Regulation Authority has been active in pushing banks to tighten lending policies to investors and hold increased capital reserves against their loan books.
One of the unintended consequences of these regulatory moves has been to force some property developers outside conventional bank lending when seeking finance to fund or perhaps finish a property.
For investors, the rush to the margins of the finance market should automatically ring alarm bells — when you are offered finance opportunities you have never even heard of before, it is time to act carefully. Just now there are three important issues property owners and investors should be aware of when dealing with developers:
- Developers knocking on your door
Trevor Chan, director of North Shore Property Sales, says: “In most cases, a developer wanting to buy your property should be seen akin to winning lotto. However, this depends on how many dwellings can be built as this will determine how much the developer is willing to pay”.
Chan advises that the terms of the acquisition can be complex and invariably involves complex structures. A scenario might see a developer offering an outright purchase plan, but equally they might put forward a “call option”, giving the developer the right to buy your property at a future date if everything falls into place.
Chan suggests the homeowner should be asking questions such as: “What is the time frame for the development and what other homes are also being considered for purchase?”
His advice is to “speak with council and see what information can be ascertained about the property such as zoning and potential number of apartments that could be built. Separately, seek legal advice and speak with local real estate agents to gauge the potential value of your property in these changed circumstances”.
For those who live in a unit block in NSW, new strata laws recently passed by the NSW parliament mean that if 75 per cent of owners agree to sell to a developer, the remaining 25 per cent owners are forced to sell.
Chan encourages homeowners “not to accept a price that does not fully reflect the maximum potential value of the property. Do not sell because a developer tells you that if you don’t, you will be surrounded by apartments”.
- Participating in high interest loans to developers
Shamren Odisho, director of I Property Solutions, has seen both good and bad outcomes from private investors lending money to developers over her 25 years in the industry. Odisho feels that there is a general lack of understanding of the risks involved from investors.
She has witnessed “investors lured in with the promise of 9 per cent to 15 per cent returns, however end up losing hundreds of thousands of dollars when the development goes bust”.
Odisho suggests: “Two to three years ago, when the property prices were just starting to rise, developer loans were a lower-risk proposition as almost all developments were selling and completing, whereas today we have a more expensive property market and the risk of a failed property development is higher.”
Her advice to people considering lending money to developers is to “get to know the developer and do extensive due diligence, including the possibility of an ASIC (Australian Securities & Investments Commission) search on the developer’s credentials. Look at their track record of completing developments. Key questions to consider are: How long has the developer been in business and have any of the directors previously been bankrupt?”
- Paying off-the-plan deposits
Off the plan purchases generally require a 10 per cent deposit. There are several ways this can be paid with some methods being riskier than others.
The least attractive method is to pay into the developer’s bank account. Elaine Lam of mortgage broking group Elaine Financial notes that it can seem attractive with “up to 20 per cent per year interest often on offer. However, there is the risk that the deposit is lost if the developers experiences financial difficulty.”
Shamren Odisho advises that she would “never pay into a developer’s bank account”.
“A safer way would be to deposit the 10 per cent into the solicitor’s trust account”. Elaine Lam echoes that sentiment. She likes to see property purchasers deposit into the solicitor’s trust account where “interest earned is about 2.5 per cent with half of it potentially shared with the developers. It is a low-risk option.”
Vasco Fonseca of Fast Home Loans notes that deposit bonds are a popular alternative to providing the 10 per cent deposit if the developer accepts them.
“Deposit bonds are a promise by a finance company to pay the developer the 10 per cent if the buyer runs away. They are usually taken for terms up to six months but can be as long as 36 months.” Fonseca explains that “deposit bonds are like giving the developer a 10 per cent deposit cheque but telling them not to bank it”.
An advantage of a deposit bond is the speed at which they can be obtained. Fonseca notes “as long as certain criteria is met, such as having equity in an existing property, the deposit bond can be issued in a matter of hours”.
A hot property market is an opportunity for every investor, but it’s worth remembering a property developer is probably going to know the industry and its financial realities a lot better than you do. Still, with some elementary preparation, the opportunities are out there.
James Gerrard is the principal and director of independently owned Sydney financial planning firm FinancialAdvisor.com.au