Increased reward is part of the allure for development lenders when compared to standard purchase finance. Of course, borrowers expect to pay higher interest rates to account for the increased risk to the lender but what happens when developments fail?
Over the last two years the Receivership team at Allsop has seen an increasing number of lenders with concerns over borrowers’ ability to complete developments on time or running out of funds to complete, leading to cut corners, failure to pay planning and building regulation costs, or with additional works needed post completion. Whilst contractors were among the first non-essential workers to return to site during the pandemic, there were nonetheless delays to completion for some developments. These delays have contributed to a greater demand for workers, causing yet further delays to construction programmes. This is compounded by the availability of fewer site workers, an outcome of the agreed BREXIT deal. Plus, as any budding DIY enthusiast knows, the costs of construction materials have increased (anywhere from 4% for decoration to 25% for scaffolding) due to the massive demand and pressure on supply chains.
While the temporary SDLT holiday helped to prop up the property market during the fall out of Covid, the pandemic created more structural shifts to buying habits among homeowners and investors, who changed what and where they wanted to buy a property for the long term. Those developments with outdoor space and additional rooms for home offices have thrived, whereas apartments with little outdoor space have struggled.
These factors have understandably impacted the bottom line of developments across the country. Those with outdoor space have experienced a higher level of demand compared to pre-pandemic levels however, the dearth of workers and increasing construction costs will have had an impact on profitability. The question is how will this impact lenders and what avenues are available for those lenders who foresee a shortfall in the loan? As a result of these market conditions, we have seen an influx of development Receiverships in the last 18 months. Whilst Receivers are under no obligation to improve a property they will always consider completing a development if this is in the lender’s best interest. We have undertaken works to ensure the properties achieve the best possible price on numerous occasions, however consideration will always be given to the time and cost of undertaking works (with the necessary cash flows being undertaken) versus the expected uplift in value. After all, time is money.
During the last 18 months, we have built out near complete schemes and procured building regulation sign off from councils. Concurrently we have obtained building warranties ensuring planning consent is implemented in accordance with the planning permission, and more importantly within the three years’ timeframe of the permission. There are always challenges and we are well versed at overcoming them. In terms of initial financing, we would suggest that lenders and investors do not solely rely on construction costs and timescales provided by the borrower, as these may be unrealistic. An impartial surveyor will be able to sense check the likely cost of construction and ensure that the borrower has accounted for all potential uncertainties. Additionally, lenders should consider whether the proposed asset meets the local market’s expectations. Time and time again we have seen completed projects fail to sell because the asset is not in line with what the local market needs and desires, whether it be over or under specified.
In depth conversations with local agents will help to mitigate this, as will reviewing upcoming developments in the vicinity to ensure that upon completion supply will not outstrip demand. Once the loan facility is agreed lenders undertake regular site visits to ensure progress is still being made and we would recommend this process is as robust as possible. A monitoring, RICS accredited surveyor with a good track record should be used and instructed by the lender to ensure that the correct information is being relayed. This could also include an update on construction costs and any extension to timeframes, enabling the lender to act quickly and make the appropriate provisions should a development start to deteriorate. Additionally, it will ensure that the development is being constructed in line with regulations and no corners have been cut.
When we become involved as Receivers, our role is much easier with access to previous monitoring reports, details of building control providers, warranty providers (ensuring such warranties are acceptable for mortgagees), as well as contractors and architects. Even with this information though, cases that on the face of it may seem straightforward, become protracted when we discover that corners have been cut, rendering completion costly to remediate for the lender and borrower. It is imperative that the development is monitored fully to avoid either a large bill at the end of the development for required works, or a drop in development value due to the lack of warranties. The monitoring report will go a long way in informing our decision making process.