I've often heard people say they allow around 5% of the purchase price of a property for purchase costs when doing a rough feasibility.
It sounds innocent enough, but when you think about it, that's quite a large slab of money. You can't borrow it as part of your loan, so it's equity you need to have available.
Take a property worth $1,000,000. Chances are you're already going to need at least a 10% deposit ($100,000) or maybe even 20% ($200,000). Add in stamp duty - which in Victoria would set you back another $55,000.
And now you need to find another 5% ($50,000) on top of that? Suddenly it doesn't seem so small.
Think I'm kidding? Let's take a closer look…
Inspections
This one probably doesn't come as a surprise. If you're planning to knock the house down straight away as part of your property development strategy, you might not bother with a building or pest inspection.
But if you want to retain the house, either long-term or to rent out while you're getting your development approval, then knowing it's in reasonable condition is important. And there’s also the potential of selling the house on to a removal company...
On top of this, there are some other inspections you might want to do as part of your due diligence on a property you want to develop. A survey is one, and if there's lots of trees, an arborist's report is potentially another one.
Councils in general are getting more stringent in their environmental and sustainability requirements, so finding out in advance what challenges are likely to come your way is worth it.
Finance
When you're buying your own home, finance is relatively simple. Most people end up with their usual bank, getting a standard residential loan. But when you're a property developer, it's often not so straightforward.
Although it's not a purchase cost, the interest rate on offer can differ a lot between different lenders and different products. So make sure you don't end up with a loan interest rate that's higher than it needs to be.
Also, remember to look at other ways to reduce costs over the length of the loan, such as using an offset account to reduce interest. And factor in ongoing fees such as statement fees and package review fees too, as they can add up over time.
Now, back to purchase costs. A loan establishment fee is common, particularly once you move away from the big banks. It can come disguised with many different names, including the most obvious - application fee, but all these variations exist to cover the lender's costs of reviewing and establishing your development loan.
With mainstream lenders, that fee is mostly quite low. But stray into the territory of private lenders or mezzanine finance, and you will find large fees are quite common. A range between $20,000 and $30,000 is not unheard of.
If you're refinancing your home or another property in order to pull out equity for your new purchase, then take a look at refinancing fees. Even just increasing your existing loan will potentially trigger these.
And the real kicker? Some lenders will treat refinancing as though you are ending the loan and getting a completely new one. Which means they'll charge you exit fees for the original loan as well as loan establishment fees for the new one.
Ouch!!
Legal Fees
Legal fees aren't going to come as any surprise. We all know that somewhere along the line we need to pay a conveyancer or lawyer to finalise the transaction.
But there are other legal fees involved in purchasing a property. For both asset protection and tax management reasons, you will most likely be using a structure to purchase the property. Boom! That costs money.
If you're doing a joint venture of some type for your development project, or perhaps using a private lender, then there will be costs associated with drawing up the necessary agreements, and more fees for the parties involved to have that paperwork reviewed by their legal advisers.
I’m going right out on a limb here; for a property developer, it's worth spending some money putting legal "stuff" in place such as a will and an enduring power of attorney. Much as we all like to think we're immortal, trust me on this one - we're not.
Don't make the mistake of trying to save money by skipping either the structure or legal agreements. It's basically insurance - and we all know how that works. You pay out a bunch of money in the hope that you never actually need it.
Speaking of which...
Insurance
As part of your risk management, insuring the property before settlement is a smart thing to do. Better to have it too soon than too late, and there have been lots of legal arguments about who's responsible if something happens to the property between purchase and settlement.
But there's another form of insurance you should consider - life insurance. Did you see that one coming? I know one thing - if you don't see the truck coming just before it runs you over, then you've left behind a thumping big mortgage and you're no longer around to pay it. If you have a property development project in progress, it can also help cover the cost of a project manager to step in and complete the project.
It's just common sense to have enough life insurance to pay out any mortgages and costs you leave behind if death comes knocking on your door.
And remember - given the huge range of property developers out there and the almost infinite number of ways there are to put a deal together, this list of potential purchase costs isn't exhaustive.
But hopefully I've opened your eyes and you can factor in the costs that apply to you and your deal, so you can be prepared with enough cash in your bank account when the costs arise.
It sounds innocent enough, but when you think about it, that's quite a large slab of money. You can't borrow it as part of your loan, so it's equity you need to have available.
Take a property worth $1,000,000. Chances are you're already going to need at least a 10% deposit ($100,000) or maybe even 20% ($200,000). Add in stamp duty - which in Victoria would set you back another $55,000.
And now you need to find another 5% ($50,000) on top of that? Suddenly it doesn't seem so small.
Think I'm kidding? Let's take a closer look…
Inspections
This one probably doesn't come as a surprise. If you're planning to knock the house down straight away as part of your property development strategy, you might not bother with a building or pest inspection.
But if you want to retain the house, either long-term or to rent out while you're getting your development approval, then knowing it's in reasonable condition is important. And there’s also the potential of selling the house on to a removal company...
On top of this, there are some other inspections you might want to do as part of your due diligence on a property you want to develop. A survey is one, and if there's lots of trees, an arborist's report is potentially another one.
Councils in general are getting more stringent in their environmental and sustainability requirements, so finding out in advance what challenges are likely to come your way is worth it.
Finance
When you're buying your own home, finance is relatively simple. Most people end up with their usual bank, getting a standard residential loan. But when you're a property developer, it's often not so straightforward.
Although it's not a purchase cost, the interest rate on offer can differ a lot between different lenders and different products. So make sure you don't end up with a loan interest rate that's higher than it needs to be.
Also, remember to look at other ways to reduce costs over the length of the loan, such as using an offset account to reduce interest. And factor in ongoing fees such as statement fees and package review fees too, as they can add up over time.
Now, back to purchase costs. A loan establishment fee is common, particularly once you move away from the big banks. It can come disguised with many different names, including the most obvious - application fee, but all these variations exist to cover the lender's costs of reviewing and establishing your development loan.
With mainstream lenders, that fee is mostly quite low. But stray into the territory of private lenders or mezzanine finance, and you will find large fees are quite common. A range between $20,000 and $30,000 is not unheard of.
If you're refinancing your home or another property in order to pull out equity for your new purchase, then take a look at refinancing fees. Even just increasing your existing loan will potentially trigger these.
And the real kicker? Some lenders will treat refinancing as though you are ending the loan and getting a completely new one. Which means they'll charge you exit fees for the original loan as well as loan establishment fees for the new one.
Ouch!!
Legal Fees
Legal fees aren't going to come as any surprise. We all know that somewhere along the line we need to pay a conveyancer or lawyer to finalise the transaction.
But there are other legal fees involved in purchasing a property. For both asset protection and tax management reasons, you will most likely be using a structure to purchase the property. Boom! That costs money.If you're doing a joint venture of some type for your development project, or perhaps using a private lender, then there will be costs associated with drawing up the necessary agreements, and more fees for the parties involved to have that paperwork reviewed by their legal advisers.
I’m going right out on a limb here; for a property developer, it's worth spending some money putting legal "stuff" in place such as a will and an enduring power of attorney. Much as we all like to think we're immortal, trust me on this one - we're not.
Don't make the mistake of trying to save money by skipping either the structure or legal agreements. It's basically insurance - and we all know how that works. You pay out a bunch of money in the hope that you never actually need it.
Speaking of which...
Insurance
As part of your risk management, insuring the property before settlement is a smart thing to do. Better to have it too soon than too late, and there have been lots of legal arguments about who's responsible if something happens to the property between purchase and settlement.
But there's another form of insurance you should consider - life insurance. Did you see that one coming? I know one thing - if you don't see the truck coming just before it runs you over, then you've left behind a thumping big mortgage and you're no longer around to pay it. If you have a property development project in progress, it can also help cover the cost of a project manager to step in and complete the project.
It's just common sense to have enough life insurance to pay out any mortgages and costs you leave behind if death comes knocking on your door.
And remember - given the huge range of property developers out there and the almost infinite number of ways there are to put a deal together, this list of potential purchase costs isn't exhaustive.
But hopefully I've opened your eyes and you can factor in the costs that apply to you and your deal, so you can be prepared with enough cash in your bank account when the costs arise.
