The Property Speculator

Creating a Property Development Contract with your Builder

Many private property developers aim to save money by carrying out some of the construction work themselves. This can often be very successful, and usually depends upon the competency and persistence of the developer. However, it also depends a lot on the developer having the time to do the work. It’s fine if the novice developer does not have to do a ‘normal’ job every weekday and can just concentrate on the construction/alteration works. Most developers, when beginning their ventures though have to juggle a day-to-day job and run their property ventures in their spare time. I can assure you from experience that having a full-time job and having to squeeze in work on another property in the evenings, weekends and holidays will test your motivation and persistence. In short, it gets quite stressful.

Apart from the obviously increased expense, it usually makes a lot of sense to get builders in to do the work for you (or at least the majority of it). The larger the project, the more benefit there is.

Where to start though? All developers will at some point come to this stage. Knowing that substantial outside help must be secured, but not quite knowing what to do first.

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The first step is to decide exactly what needs to be done to the property. On smaller projects where the work will only amount to a few thousand pounds (such as very minor alterations) the route will be different to larger projects of hundreds of thousands or even millions. On small projects it’s more likely the developer will have a good idea of what work they require the builder to carry out. It’s very important to write this down, placing it in logical steps. An example of this might be:

Lift Patio area to rear of property (state the extent of this if possible).
Re-route/prepare drains for foundations to comply with Building Regulations.
Dig and lay suitable foundations in preparation for extension.
Construct double-skin brick/block extension to full property height in accordance with planning conditions, tying bricks and blocks in with existing structure.

This list in its entirety should be concluded with important points, for example ‘all associated excess material and refuse to be removed from site upon completion’ and ‘all appropriate Building Regulations to be complied with’.

This list is often referred to as the ‘Scope of Work’ and becomes more important as the size of the project increases. The scope of work can help you out at this point by enabling you to obtain several different quotes for the work if you feel you would like to look around for the most competitive price (known as ‘going to Tender’). If the idea of compiling this list is daunting because you are not experienced enough to place the required work into steps, contact either a professional (such as a Building Surveyor, Architect or Structural Engineer) or ask a reputable builder who will not be actually doing the work (so that the scope of work is impartial) to help out.

The process of finding a suitable contractor with the use of a scope of work is called ‘Tendering’. The larger the project the more important it is to find a contractor that will provide the right work at the right price. Once the builder has been chosen to carry out the required works (it might be the one who produced the most reasonable quote, or the firm who you feel might be the best suited to the work you need carried out) the next step is to establish the terms of the builders contract.

In almost all cases (around 70% – 80%), a Joint Contracts Tribunal (JCT) contract is used to establish the terms of the agreement between client and contractor.

The contract type depends on the type and scope of work to be done. For the smallest work, such as a house extension a ‘Homeowner’ contract would be used. There is further choice within this, for cases where the homeowner is overseeing the work, and where a consultant oversees it. At the other end of the scale is a ‘Design & Build’ contract where the contractor actually designs much of the work to be done.

It must also be mentioned, that when a project is being designed by a contractor, the company MUST have the appropriate level of competence and Professional Indemnity insurance to carry out the design work. This can be achieved by outsourcing to a Structural Engineer or Architect. However it is asking for trouble if a small building contracting firm designs a structure, dwelling or substantial alteration themselves without the appropriate level of design competence. The worst case scenario is if the structure fails or becomes unsafe. As developer, it is possible you could find yourself in court under a charge of negligence for failing to ensure the project was properly designed. Always approach the planning of your project in a professional manner.

For a guide to choosing the most suitable JCT contract, visit their site at:

http://www.jctcontracts.com/contracts/choosing.jsp

Please note, this article has been considerably condensed. Buy for the full version for only £2.

Feb 15th, 2012

Understanding Property Auctions

Property auctions are one of the most popular places for prospective investors and developers to look for projects. There are many alternatives, but auctions remain very popular despite the current difficulties in obtaining finance.

The auction hall is often looked upon as the first step on the path to running a property business. However, auction day is really the very end of the first stage.

There are some terms that are used when describing auction lots that many potential bidders are not familiar with. It is so important to understand what you are getting into; auctions can be unforgiving to the unprepared:

“The vendor is a Mortgagee not in possession“.

Obviously the Vendor is the party who is selling the property at auction.
The ‘Mortgagee‘ is the bank or building society who originally provided the loan for the purchase of the property (the Lender). This is the opposite of the ‘Mortgagor’ who is the person(s) buying the property (borrower).
The term ‘Not in Possession‘ means that the party selling the property do not actually own the legal interest (whether this is Freehold or Leasehold). When a lender provides a loan (mortgage) for a person to buy a property, the lender has a ‘first charge’ on the property. This means that they retain the legal right to sell the property to recoup financial loss in the event of the borrower breaching the terms of the mortgage by defaulting on the repayments.

So, what the term above means in laymans terms, is

“that the party selling the property is a bank/building society who do not actually hold the legal title on the property, but who are exercising their legal right to get their money back by selling the property.” Essentially, it’s a repossession.

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“Therefore the accommodation and any basis of occupancy cannot be confirmed”

This means that the parties offering the property up for sale at auction (the legal firm and the auction agents providing the details) will not offer any indication of the state of current occupancy. There could be (for example) 20-odd families living in it, or there could be a terminally ill old lady….. It’s absolutely the responsibility of the person intending to buy the property to reassure themselves and investigate the situation before they bid.
If you were to bid on a particular property and actually get the winning bid, you do not have much in the way of recourse if it turns out you’ve bought something not quite right. It’s only if a property has been falsely advertised and you believe something you are told in good faith that you can take action to legally rectify this (by suing someone for example). This is why the auction agents will not give any information in respect of anything they don’t know for certain, it’s because they know they can be sued for it if it turns out to be incorrect.
If you were to successfully bid on a property and it turns out someone is already living in it (legally or otherwise), that party often has some legal rights to stay there until you obtain a court-order to evict them.

Essentially, it’s up to the bidding party to investigate the current circumstances of the property. If you want to purchase an investment property with a tenant already in place, then it’s up to you to make sure that the tenancy and lease are all in order and no-one is living there who shouldn’t be. If you intend to buy a vacant property, then it’s up to you to make sure it is indeed empty before you bid. There is often hidden legal issues in property, especially at auction. However, there is usually every opportunity to make sure that nothing comes back to bite you on the a***. If you are offered a property without actually seeing and investigating it, then (to be realistic) you shouldn’t pay much for it because you’re exposing yourself to massive financial risk.

In respect of purchasing the property at auction, it is 80%-90% a legal process. You are purchasing the legal title to a property which means you will have ‘exclusive possession’ (unless someone else is living in it and also has a legal right to be there). You should be 100% certain that you know what you’re buying into before you bid.

When buying a property at auction, it pays to be suspicious about everything; so do your homework!

Nov 30th, 2011

Risk Management in Property Investment & Development

Let’s be clear on this, investing in or developing property represents an element of risk to a greater or lesser degree.

Most prospective property developers and investors realise this but some subsequently procrastinate over taking positive steps to progress their venture. Perceived risk can include:

Getting a property project only partially complete before running out of cash.
Experiencing a problem during build of such scale that the contingency fund does not cover it.
Finishing the build and not being able to sell or let the property in order to recoup costs.
The property build/conversion will cost so much that the developer with experience substantial financial hardship in order to get it finished.

All these concerns can be effectively managed and guarded against prior to the start of the project. This is where a particular approach is vital; these risks should not put anyone off engaging in a property development or investment project.

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Risk is the ‘price’ of the return from a venture. It’s been said that ‘the higher the risk, the greater the reward’; however this seems (to me anyway) to be a contradiction in terms. If risk is high, then there is no guarantee of reward at all. People generally have very differing views on the amount of risk they are comfortable to adopt. However, if a developer is looking to borrow in order to fund the purchase and renovation/conversion of a property, then the mortgage provider will be very keen to see the project organised as low a risk as possible. This includes the developer putting around 50% (for first-time developers) of their own money into it.

So in conclusion, it’s important to minimise risk wherever possible. And to be honest, property is one of the lower-risk methods of investment and capital building. It’s not THE lowest, but there are far riskier investments available to those with the appetite.

To address the points above in turn:

1. Running out of cash mid-project.

This element of risk is managed by careful planning of the project. Many novice developers run low on cash, but it’s almost always because the budget has not been organised properly. The principles of running a financially viable project are:

Purchasing the property at a good price. It takes time to select the right property; it must fulfil many criteria – purchase price being one of the most important. If you are purchasing at an auction and the bid goes above your maximum level, you MUST resist the temptation to continue bidding. In my experience, if one opportunity has come along, then the chances are that another is not far behind. Once in a lifetime chances are just not that common. It’s far better to purchase a property at a good price and sell at an average one, rather than buying at an average price and hoping to sell at an exceptional one.

Agreeing a fixed-price contract with the builder. This is insisted on in many cases when obtaining development finance. It should be possible to agree stages of build with the contractor, where you pay a proportion at the end of a stage before moving on to the next. The agreement is likely to specify what is not covered in a fixed-price agreement. This might be substantial ground work or structural alterations. This is all in the negotiation.

Sourcing materials shrewdly. This might fall into the principle above, but if you intend to do it yourself, approach it as a business and not a personal ‘statement’. Buying the property and approaching the building work with your head, not your heart helps so much in this. Keep in your mind that the aim is to get the property let or sold and move on to the next.

2. Blowing the contingency fund on an unforeseen problem.

A contingency fund is an excellent idea. This is usually around 10% of the whole project budget. A fund of this amount will actually be a condition of borrowing with many companies (you’ll have to produce proof of the amount in a bank account).

So if a whole project budget is £240,000 for example, a contingency of £24,000 should be available in addition.

If the principles above are followed, there really should not be any reason for unforeseen problems to require more than 10% of the budget to rectify. Ground, structural and roof problems are usually the most expensive to sort out, but almost all of these can be taken into consideration if a good survey is carried out prior to purchase. Excessive build/conversion costs are another one of the criteria that should be considered before purchasing the property.

In some cases, problems do arise that there really was no way of knowing about before the project is bought. In this case, a degree of imagination is sometimes called for to resolve it without blowing that contingency fund. The most expensive and challenging problems are things like disused wells or buried objects. However these are rare.

3. Not being able to sell or let the property at the end of the building phase.

This is a problem that has affected many aspiring property developers over the past 4 years. As mortgage companies suddenly tightened their criteria for lending, the amount of buyers across the market as a whole reduced to such an extent that demand came to an abrupt halt.

This might be regarded as the greatest of all the risks involved in a property venture. It is theoretically possible to have a property advertised for sale for an indefinite period of time; and this scares the life out of many prospective developers.

Property is widely regarded as being highly ‘illiquid’. This means that the value cannot easily be released. The opposite end of the scale is cash; this is obviously a ready source of capital that can be used easily. Because of the nature of property’s lack of liquidity, it has certain characteristics such as a degree of stability of value (due to the fact that it is a tangible item, unlike for example – company shares). Unfortunately because of this shortcoming, capital can be ‘wrapped up’ in a property with little way of extracting it.

The way this problem is managed, is again by proper financial management. To reuse my quotation from above…. far better to purchase a property at a good price and sell at an average one, rather than buying at an average price and hoping to sell at an exceptional one. You must remember this! In many cases, the reason why properties stay on the market for so long is because they are overpriced for resale. Sticking to a rigid budget dramatically reduces this risk because there is less chance of financial overstretch. You should certainly make sure that you have planned for the property to be complete yet vacant for around 6 months after the build.

4. Experiencing financial hardship in order to complete the build.

Clearly, this is a variation on the perceived risks already mentioned. Most successful private developers have sufficient ‘surplus’ income to cope with the increased monthly outlay to cover another mortgage.

Some amount of flexibility will be needed to cover unforeseen problems, but the contingency fund will be in place to cover them.

There are not really many valid reasons why novice developers should find themselves enduring financial hardship to get their project completed.

To conclude, sensible and realistic budgeting should go a very long way to managing the anticipated risks involved. However as I’ve mentioned already, property development and investment is risky; if it wasn’t, there would be no money to be made in it.

May 13th, 2011

Understanding Section 106 Agreements

A ‘Section 106 Agreement’ relates to a small but very significant part of the Town and Country Planning Act 1990. It is an extremely important part of planning law and if a developer wishes to establish planning consent on a property, it is likely that he/she will become very familiar with it.

A definition of a s.106 agreement could be:

An obligation to contribute something for the good of the local area, in connection with the grant of planning consent.

A section 106 agreement is also often known as a ‘Planning Obligation’. Land or property that has the benefit of planning permission to construct/convert a property representing shrewd use of the land, is worth between 3 and 10 times the value of similar property that doesn’t. The Local Planning Authorities (LPA) therefore feel that as the developer is benefiting to such a degree, he should contribute something as a ‘price’ to pay. Incidentally, section 106 agreements can be applied to both Residential and Commercial developments.

A great deal of case law exists on the subject of this. For many years, developers were refused planning permission if they did not accept exactly what the Local Authority wanted them to contribute. There were even 1 or 2 cases of local authorities requiring work to be carried out as a condition of planning consent that had doubtful connection with the actual development, raising concerns of blackmail. However generally, developers were happy with the situation that obliged them to provide something for the community in return for their planning consent.

The moral problem with making planning obligations inextricably linked to planning consent is that authorities should not be introducing a financial aspect to planning matters. If the development benefits the area, then it should be permitted; if it does not, then permission should be refused. Money should not provide the decision. For this reason, in more recent years planning obligations have been negotiable, and therefore more flexible.

In Circular 1/97, guidance for LPAs was offered to provide certain criteria for planning obligations:

The obligation should be relevant to planning.
It should be directly related to the proposed development.
It should be ‘fairly & reasonably related’ in scale and kind to the intended development.
Reasonable in all other respects.

Examples of planning obligations are:

To carry out a land clean-up on an area of contaminated land.
To provide ‘affordable housing’ as part of a substantial residential development.
To contribute to the widening/improvement of a road that provides access to the development.
Providing flood defences for the development where appropriate.
The provision of housing for people over 60.

A developer is not legally obliged to accept the undertaking of a s.106 agreement. However this will result in the refusal of planning consent. The developer is entitled to apply to the Secretary of State (SoS) for the grant of planning permission. If the SoS subsequently grants permission to the developer, the LPA does not have input to any planning obligation agreement.

Section 106 obligations are a condition of the planning consent. This means that they must be carried out as part of the agreement. If planning permission is acted upon and the planning obligations are not adhered to, the Local Authority has the right to enter the land/property and carry out whatever work forms the planning obligations. The associated costs will then be recouped from the developer.

The novice developer is also quite unlikely to be expected to contribute a great deal in the way of planning obligation. It is also possible to negotiate with the LPA and agree to a mutually beneficial way approach. This obligation should not deter you from seeking planning consent. However, do be aware that any development finance lender will be interested not only in the details of your planning permission, but if there is any s.106 agreements to be considered.

Apr 11th, 2011

Property Development Finance

Many aspiring Property Developers procrastinate over their plans because they believe they will not get finance to fund their project. This is clearly an extremely important point, because as I’ve written in many posts, even if you can afford to, it does not make good business sense to use 100% equity (capital that is not borrowed) in a venture. One of the main advantages of working in property is that because it is a tangible asset (i.e. not a paper asset) it can be borrowed against.

In the current economic climate, you might be mistaken for believing that it would be impossible for you to get a mortgage based around a property that needs substantial work to put it into a marketable condition. This is not necessarily the case. The vast majority of mortgage providers will be sceptical when you mention ‘property development’. This is because the sum that the developer borrows is secured against the property itself. This is why mortgage debt is the cheapest of all loaned cash; the bank/building society massively reduces its risk by ensuring that it has a legal ‘charge’ over the property in the event of a default of mortgage payment. Essentially meaning it can sell the property to settle your debt if it needs to. If the property were to be repossessed in an uninhabitable state, the banks chances of recouping its loss would be severely compromised.

Another likely scenario is that the mortgage provider might only release a very small proportion of the total amount being borrowed for land/property purchase, and only release the remainder when the project is completed. This obviously means that the developer has to fund the individual build stages out of his own pocket. This can be catered for when you are an established, experienced professional developer. However a novice is likely to be financially stretched.

The alternative to this is to have each payment released at each (pre-agreed) stage. This is a fairly common approach because it’s an established way of only paying interest on what is being borrowed. These payments will however, be released in arrears; meaning that the individual stages must be covered by the developer, but the funds to pay costs and fees will be released in arrears at each stage boundary.

At this point, I’d like to take the opportunity of pointing readers in the direction of my posts on Financial Leverage in Property Investment and Development, and carrying out a Property Development Appraisal. This is so that you are aware of how to calculate how much you need to borrow and why it’s not a good idea to use all your own cash.

Be aware however, specific conditions still apply. Mortgage lenders are now more than ever, quite risk averse. All the usual conditions of obtaining a mortgage approval still apply:

You should definitely not be overstretching yourself too far. This is (arguably) one of the causation factors for the recession, too many people borrowing beyond their means to buy more and more expensive properties. This is currently the most common reason for rejection of mortgage applications. You simply have to be creditworthy.
You must have a good proportion of equity to invest. This is now usually around 10% minimum with the most generous of lenders on an owner-occupier mortgage (this level of gearing would not even be considered for a development project). A realistic figure for a property developer is around 50%-60% of the GDV. An alternative to this would be if you already own the land or pre-development property yourself.

In common with all professional developers, the novice must accept that full compliance with lenders conditions for each individual project is vital. It’s not like a conventional owner-occupier mortgage, where you simply pay the instalment each month and the provider more-or-less leaves you alone. Developing for profit is almost a joint venture with the bank. They must be absolutely 100% happy that you know what you’re getting into, or at the very least employing an experienced professional who does.

Apr 10th, 2011

Property Security of Tenure

If considering investing in commercial property, an important consideration is a factor that, in practice changes the basis of a business tenancy by quite some degree. This is known as Security of Tenure.

This was introduced by Part 2 of the Landlord & Tenant Act 1954 (LTA) (Part 1 deals with residential property and Part 2 deals with commercial), this is often shortened to simply ‘the Act’ as it is well known among Property Professionals. It was brought in for the purpose of preventing unscrupulous landlords exploiting tenants by evicting them with little or no notice; or allowing them to stay in occupation but increasing the rent to unrealistic levels.

The LTA gave the tenant (both residential and commercial) protection by listing the circumstances in which the landlord could evict them. A minimum notice period was also introduced which gave the tenant an opportunity to challenge the landlord’s decision. Likewise, a tenant was allowed to apply for a new lease upon expiry of the old one, and the landlord was not able to deny this, except on justifiable grounds. The new lease must be on ‘similar terms’ to the original one.

All commercial leases are automatically covered by the LTA 1954 Part 2. Therefore, the act will not be expressly mentioned within the lease because the assumption should be made that it is an ‘inclusive’ (meaning it’s within the act) lease. Parties can however, opt to contract themselves out of the protection of the act, for reasons that are mutually beneficial to the particular circumstances of the occupation. To be ‘exclusive’ of the act, the tenancy agreement must expressly state that both parties wish to ‘opt out of the Security of Tenure provisions of the act’ (or words to that effect).

Under Part 2, s.30 of the act, there are grounds of opposition that can be used by the landlord to justify requesting the tenant to vacate premises upon lease expiry:

Not complying with covenants to repair and maintain the property.
A constant delay in rent payments.
Any other breach of covenant that is ‘substantial’.
The landlord has offered the tenant suitable alternative accommodation.
The current letting is based on an area less than the entire premises, and due to the current letting being uneconomical, the landlord wishes to let the entire premises.
The landlord wishes to demolish or reconstruct the building, or carry out substantial work (this must be provable).
The landlord wishes to occupy the building for his own use.

Because the Act gives the tenant considerable legal power, this sometimes changes the investment value of a lease. Many commercial landlords regard the act as a burden, and a lease that is ‘inside’ the act as being somewhat less valuable than one that is ‘outside’. Likewise a tenant sometimes feels that without the protection of the act, he wishes to pay a lower rent to reflect his greater ‘risk’. This is an issue for negotiation. A landlord will push for an exclusive lease; a tenant will push for an inclusive one. The negotiated rent will normally settle at a rate that suits the eventual decision to include the act or not.

When under the protection of the act, a landlord must serve a ‘section 25 notice’ to request the tenant vacates the property at the end of the term (this refers to s.25 of Pt 2 of the 1954 act). This is in practice, compiled by a Solicitor and delivered to the tenant between a maximum of 12 months and a minimum of 6 months before the landlord would like the tenant to vacate. In order to challenge this, the tenant must respond within 2 months of the serving of the notice.

The tenant can make an application to remain in the property after lease expiry, by the submittal of a ‘section 26 notice’ (again, this refers to s.26 of Pt 2 of the 1954 act). In common with the above, it must be completed by a Solicitor and served to the landlord between 6 and 12 months before the end of the term.

If a tenant remains in occupation of premises at the end of a lease term, the tenancy automatically becomes a Tenancy at Will. If the original agreement was under the protection of the 1954 act, then even though the original term has ended, the tenant still has Security of Tenure. This means that for the tenancy to be terminated by the landlord or extended by the tenant, a s.25 or s.26 notice must still be served under the same conditions as above.

Part 1 of the 1954 act concerns residential property. Although it doesn’t really apply much these days, it refers to protection being granted to:

1. Long leases; that is, more than 21 years long.

2. ‘Low Rent’ agreements (This is at a rent of below £1,000 per annum in London, or £250 elsewhere).

3. The property must be a ‘dwellinghouse’. Not a mixed-use property.

So the chances are, an aspiring residential property investor is unlikely to come into contact with the 1954 act. However, in the 1980’s, the Assured Tenancy and the Assured Shorthold Tenancy were introduced. These are protected tenancies types and the landlord can only take possession if:

The landlord occupied the property at some time, and wishes to return.
The mortgagee of the property (the lender) wishes to exercise a power of sale and sell with vacant possession.
The landlord wishes to demolish and/or reconstruct the property and there is no way of accommodating the tenant during these works.
The tenant dies.
The tenant is more than 2 months in arrears.

The most common form of residential tenancy now, is the Assured Shorthold. This is the default tenancy, as an Assured Shorthold Tenancy can only be created if expressly mentioned in the lease. Assured Shortholds provide the tenant with some protection but still allow the landlord to regain possession when required:

The tenant can request the detailed terms of the lease if not already supplied.
The landlord cannot request occupation until after the first 6 months have passed.
The Rent Assessment Committee has jurisdiction over the rent level, but on only one occasion which must be after more than 6 months after the start of the tenancy.

Apr 3rd, 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:

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.
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.
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.
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!
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

Using a Property Purchase Option

Quite often, a property developer feels that it is a better idea to build a property from the ground up rather than renovating an existing one. There are advantages to this approach, as there are definitely economies of scale involved when buying a suitable building plot. It usually works out far cheaper (per individual unit) to build several properties on a slightly larger plot, than one on a small plot.

With this in mind, one of the most important (if not THE most important factor at this point) is the establishment of planning permission for the build you intend to carry out. Once you have this, the capital value of the site can increase many, many times over.

This causes a problem if you intend to be particularly prudent with your finances. Do you:

Buy the land without planning permission and run the risk of not getting consent, and owning a useless plot that cannot be built upon? Or
Purchase a plot that already has planning permission in place at up to 10 times the price it was prior to the grant of planning consent?

Most novice developers follow option 2 and purchase the plot with either outline or full planning permission already in place. This offers the least amount of risk but is also the most expensive choice by quite some margin.

Professional property developers are not in the habit of spending money unnecessarily, they will seek the establishment of a Purchase Option on the land prior to buying it. This is a contract between the two parties (Vendor & Purchaser) that is ‘open-ended’. This means that one party can choose to exercise their right to buy something (at a price agreed prior to contract finalisation) or they can allow it to expire and take no further action.

The way a Purchase Option works is thus:

1. A property developer believes a particular plot of land is suitable for development, but presently has no planning permission in place. The plot is not currently for sale, so he traces the owner of the land through the HM Land Registry.

2. He consults the local Planning Authority as to the viability of obtaining planning consent on the plot. This is done informally and may only amount to a phone call, although a planning officer might visit the site to discuss the developer’s plans with him. If the planning officer believes that there are no obvious problems at this point, the developer is likely to be invited to submit a planning application.

3. The owner of the land is then approached by the developer and asked if he would sell the land to the developer subject to the satisfactory grant of appropriate planning consent. If the landowner agrees to this, a purchase price is agreed to (this is normally considerably below the full value of the site with consent in place, as the developer is still taking some degree of risk).

4. The developer usually pays the landowner a fee for the facility of agreeing to this contract, this is known as the Option Fee. It could be around a thousand pounds or so, depending on the size and scale of the project. This fee is the landowner’s, regardless of the outcome of any planning decision.

5. The Purchase Option contract is drawn up by a property Solicitor. It states:

a. The names of the two parties

b. An indication of the area of land (maybe accompanied by a plan)

c. The Option fee

d. The agreed purchase price of the plot

e. The term of the contract (this could be for 6 months, for example)

f. The precise conditions of the planning consent required by the Developer

6. The full version of the option contract is then signed by both parties. Now, at any time for the remaining term of the option contract, the purchaser (developer) can buy the plot from the vendor at the agreed price, provided the planning consent is satisfactory and any associated conditions are acceptable to the purchaser. The developer then has the plot he wanted, with suitable planning permission in place, at a price that was significantly less than it could have been.

7. If the planning permission is not granted on the terms the developer hoped for and it is unlikely that it will be granted, the developer can simply allow the term of the option contract to expire. This becomes worthless upon expiry and the developer is not financially committed to the land at all. The prospective vendor however, gets to keep the option fee regardless.

Option contracts are now fairly common, a lease option and a double lease-option are available but work in different ways to the purchase option. It is simply a contract that one party can choose to exercise or not, but the other party is legally bound to adhere to.

Purchase options can be fairly complicated, reflecting the nature of English & Welsh property law. Because of this, it is not really possible to download a contract template that will serve all situations. I highly recommend a Property Solicitor is consulted and asked to draw up the draft and final copies of the contract.

Jan 18th, 2011

Finding a Good Builder

Finding the right builder is one of the most important aspects of any development project. People you might speak to seem to have no end of horror stories to put you off the whole idea of property development.

Make no mistake however, there is potential to completely ruin a project if the builder turns out to be totally incompetent. Anecdotal evidence of this is really not difficult to find. However, it really isn’t that difficult to find a builder who will accommodate your plans.

The majority of novice property developers carry out at least some of the work themselves. The main reasons for this are:

1. To save money. All work done by you is free; or is it? There is what is known in economics as an ‘opportunity cost’. This means that if you spend most of your evenings and weekends renovating the property, what are you missing out on? It’s likely to be opportunities to spend time with family and relax. This is the cost.

I can also assure you from experience that working a full time job and spending all your free time working on a renovation is a very effective way of becoming stressed, fatigued and highly inclined to look for a convenient way out of the project before you complete your goal. Think very carefully, and be realistic about what you can achieve in the timescale you have planned.

2. To maintain an element of control over the project. Again, do not underestimate the amount of stress generated by a renovation. This can be down to deliveries not turning up, the wrong item being delivered, builders not understanding your requests, unforeseen problems etc. If you are involved with the project on a daily basis, this stress can be reduced as the problems are less likely to all come at once. However, this brings us back to the above aspect of spending all your non-work time at a building site.

Project management is a good way of maintaining control over your development. This does not all need to be carried out on site so it is more suitable for novice developers who also have ‘normal’ jobs. Builders often have the facility of bringing in their own Project Manager. You will need to carefully consider the level of free reign that you are willing to grant them though; you don’t want them ringing you dozens of times a day for approval, and likewise you don’t want to lose touch with how it’s all going.

It is said often, that the best way of finding a good builder is through word-of-mouth. This is very true, however what happens if an abundance of this information is not available? To start with, a simple look through the Yellow Pages or Yell.com will produce some results of local builder’s availability. If there’s an advert or website, simply look for the symbol of the ‘Federation of Master Builders’, in fact the FMB run a website – www.findabuilder.co.uk. This site lists individual trades as well as general builders and particular specialisms too, such as agricultural buildings, loft conversions or groundworks. The site also has a page for free contracts that are recommended to be used with their members.

Other sites that run a similar service are:

1. www.mybuilder.com.

2. www.goodbuilderguide.co.uk

3. www.findpolishbuilder.com

4. www.findatrade.com

These sites are an excellent idea, as they list feedback for individual builders and even photos of work carried out by them. However, I strongly recommend doing your homework on any builders found on these websites. It will not come as a surprise to mention that these websites do not offer any form of gaurantee whatsoever for the builders listed.

I would also like to add that it’s never a good idea to employ any builders that call house-to-house. It’s often difficult to find any background information on these people and let’s face it, if they’re any good, why are they calling at houses rather than working? I am also ‘reassured’ by the builder turning up in a van that’s in good condition and with professional signs (for the right company) on the side. It just gives the impression of a good, healthy company who are less likely to disappear with your money before completing the work.

The builder should see the property as soon as possible to get an idea of the work to be carried out (if you use one of the above websites, the builder should have supplied an initial estimate based upon the scope of the work initially described) he will no doubt want to confirm this work by looking at the development project itself.

The builder you use should be covered by Public Liability insurance (this is quite likely to be in place if a reputable builder is found, but definitely check). Many builders can offer a NRWB (National Register of Warranted Builders) Warranty; this is another excellent indication that they are not cowboys. Any time schedule that you are keen to follow, should be discussed and included within the contract.

The scope of the work is one of the most common sources of disagreements between builders and their clients. The problem is not usually the initially specified work, it’s the little extra bits that you might believe shouldn’t amount to much, but the builder thinks otherwise. It is very important to regularly discuss with your builder the progress of the project. Unless you are attending the site every day, regular phone calls are important. Better still, make a point of visiting the site every couple of days or so; this might contradict the advice regarding not spending all your free-time on site, but the visit need only be brief. The point is that it is very important to strike up a good working relationship with your builder.

To ensure that the Scope of Work that you provide for the builder is the same for each one you speak to, write it out and quote it word-for-word each time you ask for a quote. You should also remember that a quote is not an agreed cost for the work, it is just a fairly rough estimation. The quote should also include VAT. If you’re offered a discount for cash, then alarms bells should be ringing in your head. That’s not to say that anyone who offers this is a cowboy, but if their financial turnover is above the HMRC threshold they’re breaking the law.

A fixed-cost arrangement is a very sensible one to ask for. This obviously enables you to draw up a budget with a reasonably accurate figure. However contrary to some popular belief, a fixed-price contract is not always 100% guaranteed to be particularly ‘fixed’. The conditions will be specified within the contract, but any work beyond the scope of the original specification will almost certainly cost extra. The method of pricing this extra work should also be stated in the contract. The contract should really be downloaded from the Joint Contracts Tribunal (JCT). The JCT are an organisation who offer standardised contracts for the construction industry. Their ‘Homeowner‘ section provides contracts for building work that are really easy to complete. I highly recommend the use of one of these!

Nov 2nd, 2010