In my experience, many novice developers get too fixated on pushing ahead with their plans, even when the numbers no longer stack up.
Perhaps they’re worried about saving face or it’s their ego (probably a combination of both to tell the truth), but often they will develop a site that they really should have walked away from.
It’s all about the numbers
Successful property development is all about the numbers and sometimes that might mean it’s more profitable to sell as is. That’s because generally when you’re developing property, especially in today’s environment, you’re taking yourself out of the market for at least one or two years.
Also, you have the added risk of markets changing during that period of time – so from strong to soft conditions – which may impact your bottom line when it comes time to sell the stock, unless you’ve sold off the plan.
That will also impact the profitability of your project because your sale prices may be lower, and the stock will probably take longer to sell as well, which increases your holding costs, too.
One of the main reasons why you might choose to sell a site without developing is that even though you might make a smaller profit, you are taking far less risk, particularly if your loan is portable.
When I say portable, I mean that there are loans out there that you can transfer across to a new purchase which, depending on the lender, doesn’t have to be simultaneous.
The lender can park 110 per cent of the original purchase price of the site in a term deposit and release the rest of the funds to you.
With the funds that are quarantined, you can purchase another site or another property in a market with more upside potential.
Once you find a preplacement property the bank will then apply the quarantined funds to the settlement of the property at 80 per cent LVR provided there isn’t a significant change in the loan value. That loan will also have the same characteristics of the original one, including the same interest rate and (usually) the same account number.
So really, all you have done is swapped the loan security for a relatively small fee but with a lot less hassle than applying for a new loan.
This is a great opportunity for people with a lot of equity in a site they were going to develop, because they can sell it, buy another one, and retain some of the profits as well.
Selling without developing
Of course, when you do sell a development site, you’re selling the future capital gains with it, but in today’s marketplace as an example, you can offload a cash flow-negative property and replace it with one that is more positive or has more capital growth potential.
I recently sold a development site in North Shore in Geelong for $500,000, but I originally bought it for $290,000 a year and a half before. I held it for 18 months, but the forecast development costs increased over that period of time and that meant that the numbers no longer stacked up.
If I had developed the site, my profit would have been about $200,000, whereas I sold it raw and my profit was $175,000.
Sure, I “lost” $25,000 on paper, but Geelong Council is currently taking one year to one year and a half for development approvals, which was far too long for me, and would have prevented me from capitalising on other opportunities. Instead, I chose to realise my profit early and then I simply moved on.
Novices, though, get fixated on developing because they falsely believe that’s the only way they can make a profit, or they think they will miss out on massive returns if they sell.
However, you always have to do your sums and take into account the risk of the market softening while you are developing the site. Like I always say, you can’t go broke making a profit.
The key is to be objective about the pros and cons of proceeding with the project.
The only thing you should be fixated on is the end goal – which is to make a profit – and sometimes the best way to do that is to sell without doing anything significant to the site at all, after taking selling costs and tax into account.