3 Principles to Guard Against Property Investment Scams

I have to admit that I feel quite naive today.  I was drawn to a post on one of the forums I look at occasionally where a guy had invested money in one of the numerous companies around that promise that you can become a millionaire property investor in 12 months or something like that.  The general principle is called something like NMD (No Money Down).

What was supposed to happen, was that the potential investor or developer would find a property which he believed (and had reasonable evidence to suggest) was dramatically undervalued.  The man on the forum had found a property he felt was worth around £290,000 and the vendor ended up accepting his offer of £204,000. The company (which I will not mention) then charged him several lots of fees to get the ball rolling.  They put him in touch with a mortgage broker who began to fill out the application form for a property worth £290,000.  The guy let it slip that he was only buying the property at £204,000.  The mortgage broker immediately informed him that he could definitely not obtain a mortgage for a higher value than he was purchasing the property at.  This amounts to mortgage fraud and will land you in an awful lot of trouble when the mortgage company find out.

In the end, the guy realised that he had fallen for a scam but not before he had paid out a couple of thousand of pounds in ‘introduction fees’ and the like to the company.

Mortgage companies will not take kindly to potential purchasers attempting to manipulate figures in order to swindle them out of money.  In the case of the company above, the plan is to mortgage the property at the absolute top end of what it might be worth, but to purchase at significantly less.  This means that the purchaser ends up with a lump sum of surplus cash over and above the purchase price.  The mortgagor (the party that is borrowing the money) will still be repaying the whole sum through the monthly payments; however the mortgage company will be excessively financially exposed to risk.  No one could realistically expect a bank to take on all the risk in someone else’s property venture.  Mortgages are subject to conditions that ensure the bank minimises its risk as much as possible.  They are not charities, and they will not allow a prospective property entrepreneur to indulge in attempting to build a property business without facing risk.  If banks were to leave themselves open to such risk on a regular basis, they wouldn’t be in business for long.

© Copyright Gordon Brown and licensed for reuse under this Creative Commons Licence

My point in this article is that I always (rightly or wrongly) assume that everyone involved in the property field is a professional and unquestionably honest.  That’s why organisations such as The Royal Institute of Chartered Surveyors, the Law Society and The National Association of Estate Agents exist.  They ensure that their members adhere to high minimum standards of practice.  I’m not saying for a minute that all private companies offering a service that doesn’t fall into the professional categories above will rip you off.  However, the old expression “if it seems too good to be true, then it probably is” will serve to remind you to be on your guard.  It wasn’t until I read the forum post mentioned above that I looked round the web and saw far too many similar companies doing the same as the one above.  They just want to sell expensive property investment courses to aspiring (but naive) entrepreneurs.  It makes me sad to think that the profession that I take very seriously might be associated with these shysters.

Please, remember these principles:

  1. Property sale values are recorded within the process of purchase and registered with the Land Registry.   You will not get away with obtaining a mortgage for more than the property is bought for unless it’s one of those fabled 110% mortgages.
  2. You really should not have to go to seminars to learn about property development and investment.  All you need to do is study this website (!), do your homework properly and enter the field carefully.  If you go to a seminar, there is an extremely good chance that they will try to sell you something.
  3. If it were really possible to purchase a property legally without using any of your own money, everyone would be doing it.  Property is expensive, this serves a purpose by (in economics terms) making ‘barriers to enter’ the field.  If everyone could buy property without using their own money, can you imagine what property values would do?  The hard fact of it is, purchasing property requires capital.  It’s what makes the whole process work properly; The bank wants to minimise risk so that they stay in business, and the property entrepreneur should be embracing a small amount of risk because this is what produces the return for him.

 

Jun 1st, 2011

An introduction to Commercial Office Investment

As an aspiring property developer or investor, it is by no means compulsory that you must look for residential properties to renovate, or buy to let.  Many people choose to bypass the more conventional approach (i.e. residential property) and just go straight for commercial.

There are some advantages in taking this route:

  1. If you aim to eventually be a commercial developer and/or investor then it makes sense to begin to find your way in the market as soon as possible.  The commercial side of property is quite different to residential.
  2. The demand for commercial property (for both purchasing and letting) is often different to that of residential.  It may be that demand for residential is weak, while demand for commercial is stronger.  The two markets are not always synchronised.
  3. The potential for large scale projects is higher in commercial property.  Banks will be keen to work with you on large projects (their money is tied up in your plan) but expect to be quizzed hard about your experience if you haven’t been in the commercial sector for long.
  4. Inexperienced developers are not tempted to fall into the trap of purchasing a property with their heart, not their head.  Few people fall in love with a commercial property!
  5. When investing, it is generally easier to find properties that have an existing tenant.  This is important if you don’t want the hassle of using a commercial agent to find a tenant for you.

It probably will not surprise you to learn that the market in offices and commercial property as a whole is more biased towards letting property rather than purchasing it.  It is reasonably unusual for a commercial property occupant to purchase a property outright, rather than having a tenancy agreement in place.  The vast majority of commercial property owners are private investors, property companies, commercial investment funds and insurance companies.  These companies tend to be the only ones who have the capital to purchase large buildings and not concern themselves too much if the buildings remain empty for a few months to a year (known as ‘Rent Voids’).

It is sometimes possible to find poor quality office properties and renovate them.  If this is done well, it can prove a very shrewd way of increasing the investment value.  However, if properties are found that are in need of work, it’s normally because they’ve been neglected due to the location.  If an area does not have strong demand, it is rare that the renovation of one building does much to change that.  If a high-quality renovated office property is offered for rent in a scruffy area, it can be expected to be worth £5-£7 per square foot (£50-£70 per Sq Metre) more than an un-renovated one (this is a very generalised figure across the UK).

Professional property developers are not very keen on taking too much of a risk in their ventures.  This is why they use to great effect, pre-let arrangements (or an Agreement to Occupy).  The way this works is a company will be intending to establish a presence in a particular area.  Their requirements will be discussed between them, a property development company, and a property investment company.  The investment company agrees to purchase the building from the developer when it is completed.  The company intending to occupy the building then signs an agreement with the investment company to occupy it.  All this is agreed to before work actually starts on a building and the bank that provides funding will certainly be taking a very active role in making sure the agreements and work go according to plan.

Unfortunately, the smaller scale developer is less likely to be in a position to use the pre-let method.  This is because it’s usually only done on buildings above a certain area because of the risk that the developer faces without this sort of agreement in place.  Then again, the risk in purchasing smaller office properties is considerably less.  A smaller office is generally easier to fill than a large one.

If investment in office property is what interests you, there are plenty of opportunities for you to begin with a small unit.  A browse through the auction catalogue of any of the commercial property auctioneers (such as Cushman & Wakefield or Allsops) will show you that you do not need to invest millions to begin in commercial property.

The recent trend is for many high street banks to sell off their premises on a sale and leaseback arrangement.  This means that the bank sells the individual premises through auction (often, a dozen or more of these lots spread all over the UK are offered in any single auction).  The bank staff who occupy the premises stay there, and nothing really changes for them.  However, the legal title of the bank changes, it becomes Tenant instead of owner.  The purchaser of the freehold interest (the party with the winning auction bid) becomes the Landlord.  The bank will have put a lease in place to allow it to remain in occupation for several years into the future.  This is definitely an interesting deal, because the purchaser is buying the right to receive rent from the bank (as Tenant) for many years, 15-20 years is fairly common.

This is merely an example of the type of opportunities available for private investors.  Be aware though, that an excellent understanding of tenancy agreements is important if you intend to follow this route.  It is reasonably common for nasty things to surprise people who have spent a lot of money on something they don’t fully understand.  If in any doubt whatsoever about a lease, ask a good Solicitor.

A reasonable quality office property can be expected to return a yield of around 6-7%.  This means that the annual rent will amount to around 6-7% of the property’s capital value.  A poorer quality office building will produce a higher yield figure, because the rent will amount to a higher percentage of its capital value.

In conclusion, investment in office properties can be very financially rewarding but in practice, it’s rare that an investor can do much with a very small portfolio.  Successful commercial property developers and investors need high cashflow to cater for maintenance, repair and rent voids.  Commercial properties need to be maintained far more frequently than residential, as they have substantially higher daily use.  Upkeep on a commercial property is vital to keep the Tenant happy and ensure that any rent voids are kept to a minimum.

Mar 29th, 2011

Why the banks can’t win

This post is a bit of a rant I’m afraid.  It’s in response to the constant contradictions in house prices and sales reports, and whoever is (apparently or supposed to be) to blame for them.

For the last year (at least) there has not been a single week when all sources of information have actually been in agreement on whether houses prices are rising or falling.  As has been quoted many times – “the problem with predicting the future is that’s impossible”.  The fact is that residential property values are fluctuating at the moment.  This means (as far as I can see) that they ‘want’ to slowly begin to increase (their natural state) but certain factors are holding them back or restricting a rapid increase in some way.  What could that be?  Well, considering the vast majority of prospective property owners need to borrow to fund their purchase, it would make sense to conclude that the banks are now limiting their lending.  If you regularly read reports in the papers (especially from the US) you would be forgiven for believing that the banks do not want to lend at all, and they are turning away a good 90% of applicants.

We all now know what caused the recession. It was the freely available level of credit that was underpinned by property values.  As residential (and commercial) property values appeared to be increasing for so long, many people (and businesses) borrowed continually on cards and loans; comfortable in the knowledge that it could all be paid off, simply remortgage their property (what’s the harm?) and carry on.  All it took was a realisation by the banks that this level of credit was going a bit too far, and a subsequent ‘tightening’ of lending criteria and it all ground to a standstill.  The widespread belief that mortgages were almost unobtainable by anyone, lead to condemnation of the banks; they had gracefully accepted a huge amount of the public’s money (generously offered by Mr Brown and Mr Darling) and now they wouldn’t give any of it back to us.  Bankers were conveniently demonised by most of society (initiated by Mr Brown, I seem to remember) as being responsible for the whole thing.

However, I simply do not believe this to be the case.  Admittedly this is due to personal experience and subsequently, I am open to comments to the contrary.  I have several friends and associates who have had no problems whatsoever in obtaining a mortgage within the last couple of months.  When the banks changed their criteria for providing mortgages, the vast majority of people affected were remortgaging their property.  In most cases to pay off high levels of personal debt accumulated on credit cards and through unsecured loans.  Only a very small proportion of the applicants turned-down were actually purchasing a property.  This would suggest (to me) that the new criteria for lending had generally been introduced to be of benefit and that only those applicants deemed uncreditworthy were refused.   Obviously many readers are likely to have anecdotal evidence to the contrary, but this I strongly believe is the case.

Surely, if the banks are to blame to ‘getting us into this’, by being too generous with their lending, they should be thanked for taking steps to becoming more choosy with their credit recipients.

I believe that a general ‘baseline’ for property values is the total build cost.  Obviously this is linked to land value which is in turn linked to completed property values…such is the intricate nature of property economics.  Land values and build costs do tend to be less sensitive than the completed property values.  However we are now getting down to levels that are more in line with these costs, and so my opinion (for what it’s worth) is that property values haven’t really got much space to fall further (I hasten to draw the reader’s attention to the site disclaimer by the way).

As for these reports in response to property values and markets, the ‘natural’ state of the property market is a gradual increase; attributed to the desirability of property ownership and it’s relatively short supply.  I believe all the reports should be viewed with a degree of scepticism and an educated opinion should be formed over the long term.  This approach will enable you to make the decision to buy or sell with confidence.

Sep 18th, 2010
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