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Means and ways on how to bridge financial constraints in real estate development


Date Posted: 3/25/2012 2:48:25 AM

Posted By: luvinski  Membership Level: Bronze  Total Points: 45

Real estate is fast becoming the investment option nowadays. The rapidly growing urban population has seen the demand for housing and commercial property outstrip supply. This has driven a correspondingly fast growth in the construction and property development industry. Property prices, too, have dramatically risen in recent years, adding to the allure of the real estate sector.
While the returns on property investments are high, the costs associated with it are equally high due to its speculative nature, marking it a risky venture for any entity with insufficient capital to put up a development.

Most banks and financial institutions are more than willing to offer bridging finance to companies wishing to acquire land and/or develop it for sale or rental purposes. This bridging finance is often in the form of an overdraft facility, a short-term loan, or a combination of both.

Short-Term Loan

A company may borrow short-term on an unsecured or secured basis, depending on the duration and the nature of the loan, which usually does not exceed two years. If the loan is secured, the company may create a debenture (a charge over its assets) as security to the bank, and, if required, a charge over its property as well. The developer may also be required to provide the bank with the architect’s plans and other relevant documentation relating to the development before financing is issued. The principle value may be released all at once or in phases, depending on the needs of the developer.

Interest rate on a short-term loan maybe fixed for the period of the loan or adjusted periodically, and the principle may be payable in lump sum or in installments. A short-term loan offers the assurance that unless the borrowing company defaults on payments, the loan cannot be called in before the repayment date. This

allows the developer sufficient time frame, or to acquire the expected funding from alternative sources. It is however prudent for any developer to ensure that the bank facility documents provide for the conversion of the short-term loan into a long-term mortgage facility. This ensures that, should it take longer than anticipated to make returns on the development or to acquire alternate funding from other sources, the developer would not default on the loan repayment but convert a short-term loan to a long-term loan or mortgage.
In addition, short-term loans tend to be charged at a premium and the repayments tend to, therefore, be much higher than those of on a long-term loan, which cannot be sustained over a long period of time.

Overdraft Facility

This is especially useful where the developer is expecting alternative funding for a development and needs short-term funds to raise a deposit in order to secure a deal. Should the expected funds not come through in time, a term loan can be taken in addition to an overdraft facility.
An overdraft is repayable on demand by the bank and, due to the interest rates charged, it is not ideal on its own for financing a development- which by nature, can run over an unpredictable period of time. But it can act as a good supplement source of funds for the short-term.

It should be noted, however, that regardless of the form of bridging finance, the developer may opt; this facility is usually a stop-gap measure available to the developer as one awaits financing from other quarters. It is often driven by exigency and is, accordingly more costly than other forms of financing.

Where there's a delay in getting the expected finances, it is important for the developer to discuss the financing requirements with the bank to select the best alternative for bridging finance.

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