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| Property development or Combining property development with buy to let is attractive due to the chance to add value. If you buy a property in need of a facelift or updating you would expect to get it at a sizable discount, a developer would normally expect to get at least the cost of improvements plus costs, and a margin of 20%. Our costs are slightly lower as we don't have to sell it again. We might also decide not to spend quite as much as we would if we were going to put it on the market. In our costings we do however need to consider not only the cost of the improvements but the time it will take and therefore the period we will not be getting any rental income for, as time costs money, we should consider if there are ways to cut the cost even if this costs more. We have of course two areas to consider, the rental income a property will get after improvement and the increase in value, and therefore the extra equity available for growth. As this is a business venture and not a home for ourselves, we should look at every option, this might include:-
Never assume anything is too expensive without looking at the options and costing it. In some cases the cost of adding a large bedroom and ensuite into a roof space together with stairs to get to it can be provided for well under £10,000, but could add £30,000 to the value, and a lot to the rental value. On other occasions you might be looking at putting a house that had been split into a number of flats back into one, or converting a large property into a number of units. However remember you will usually need planning permission to do this. Not all of the above of course is a valid option in every situation, either because there is not any scope to do it, it has already been done or there is insufficient improvement value available to justify the work. If you have scope to do quite a bit, then you may like to look at what you can do now, that is quick, and most cost effective to add value and rental, and leave further items to do at a later point, however remember that any time you do this you will be loosing rental income so it may be more cost effective to do it now. In most cases unless it has already been done you will be able to increase the size by a percentage by building an extension. Look at the layout and consider all the options, you may not be looking at a major extension but for example adding an extra ensuite bathroom upstairs over a new utility room or study downstairs, may be a cost effective and profitable choice. You could however want to remodel the property extending back, to give a larger kitchen and dining room, plus some more room to the lounge, and upstairs extending the bedrooms and relaying out the interior. You will quickly get used to structural and partition walls, the first can only be removed if you put in something to take the weight such as a metal girder (RSJ) while partitions can be moved about fairly easily, although the electrics will often need adjusting. If you want to do something don't be put off by immediate problems for example it is far easier to put a loo where the outgoing pipe is easy to connect, but there are other solutions if you need to use them, including boxes that grind everything up so small as to be able to flush it down a small pipe. If you use one of these then make sure tenants are told clearly what they can and cannot put down it and include in the lease that if they put the wrong stuff down and block it, then the cost of correction is payable by them. If the cost of fixing it has to be paid by them, you are far less likely to get problems with the unit. If you do propose to build within the grounds, even if you do not have planning permission, it is wise to fence the area separately, you can then show the tenant what is their garden area, even if you also allow them to use the other area rent free for the time being. This will cause a great deal less friction than letting the whole and then trying to use a part of it. The most common mistakes people make are underestimating the time it will take, and not allowing a contingency amount within their budget for the unexpected. With homes it is also common for the fittings, taps etc to go well over budget. Whatever you are thinking of doing you should remember that you will need to consult others, and this may include getting planning permission and with older and listed buildings, listed building consent. Quite a bit of what you do will also need to be seen by building inspectors. Don't go on what builders tell you, check it out and in the case of planning consent you may wish on occasions to apply for it even when not required to overcome later objections. As the property is to be let to tenants, you should also consider what will be hard wearing, and require minimal maintenance, this does not mean installing the cheapest. A cheap plastic cistern in the loo, may save a few pounds over a quality product, but after a few repair calls from the plumber will prove an expensive choice. Features that will attract tenants are similar to buyers, a power shower particularly in a shower cabinet is a draw, as is a utility room with ample space for appliances. From your perspective you want ease of maintenance, so no complex garden maintenance, and avoid items that are likely to give problems like pull cords on curtain tracks. Make sure that every water cistern and tank has a working overflow and that shut off stopcocks are accessible and work. The viability will vary, and may further vary over time. Initially the major factor may be the discount that you can get it for combined with the improvement in value available, you can see that if you got it for 20% under value and improved the value by only 30%, with a 15% deposit you have got over a 400% return on capital. For example
What we have not allowed for is the cost of the improvements or the cost of the time used, i.e. mortgage payments over the time. So in order to keep the margin as high as possible you will see you either need to keep cost down, keep time short or increase value more. You can, on some occasions, get a 30% improvement with only minor work, redecorating and landscaping etc. Remember also this is the margin over the time it has taken, and in concept you could use the capital several times a year in this way. So if in our example we made 517% in say 2 months, then this is equivalent to a massive 3,102% per annum, it even makes credit card rates look cheap doesn't it. As rent is proportional to the properties perceived value in most cases you have also increased the rental earnings by 30%. Of course if you were to sell it then, as you have not had it as your main home, you would pay tax on the increase as well as sales costs and legal costs. You can get more capital to keep by re-mortgaging it than by selling it, and also get the constant rental profit and future improvements in value.
If however you were to buy up a number of properties over time quite cheaply, and convert them, it might be worth looking at selling one or two at a high price, in order to establish the higher value, even if you have subsidized the sale in some way, i.e. paid their deposit or given a cash back, as long as this is transparent. People are sheep like, so if when you have a few you were to push for improvements in the area, put about a lot of talk about improving values, and sell one or two at an inflated value, with publicity, then others would take this as the 'in place' and all pile in, pushing the price up further. This would add value to your whole portfolio holding in the area. To get the maximum effect ideally you need to be part of a group with a common philosophy, and know in advance where the next 'in place' will be. Self build is another option to look at, this doesn't not mean reaching for the wellies and a trowel, but conceptually being in charge. You may use architects, site managers or be a part of a group or franchise operation. You would expect to get a like for like saving of around 35% compared with buying from a developer. Funding is available in stages and contrary to popular myth there are loads of building plots available and you may also get even higher margins by finding your own. New homes are easy to rent, at least in theory should have near zero maintenance and improve in value greatly as the gardens become established and people get used to them. We have another section of this web site devoted to looking at this in more detail. |
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