How to profit from a small development

Investing in bricks and mortar continues to be a popular method of wealth creation in Perth, backed by historical evidence of long-term gains and the current lull in prices making property more affordable.

Many investors like to take their investment in real estate a few steps further… rather than just buying a new investment property, they aim to accelerate their progress by finding a property where value can be added through subdivision. However, while it’s smart to squeeze as much profit or cash flow as you can from a block of land, don’t fall into the trap of thinking the buy-develop-sell instantly strategy is a shortcut to big profits.

Many budding developers are shocked to hear that small developments are by and large not profitable. Not all areas and properties are created equal, and less than 1 per cent of sites advertised as development potential sites can generate a profit for the new owners.

A good retain and build duplex project can generate $80,000 to $100,000 in additional value, based on a project that satisfies the 15 per cent profit range. A triplex development might create between $100,000 and $115,000 of additional value. For developers who are expecting to ‘flip’ the properties and sell straight away, you can see how quickly that profit can be eroded through selling costs such as GST, Capital Gains impost and agents fees etc.

Aspiring small developers would do better to adopt a long-term portfolio building view with a development site, just as they would with a buy-and-hold rental property. Profits will more likely come from holding and renting the new dwellings; not only will you receive improved cash flow from rents, but you will also be able to benefit from depreciation and bask in the glow of capital gains without sacrificing your hard-earned development gains to expensive entry and exit costs. And down the track you can always sell off one here and there if you require cash to fund other projects or your lifestyle.

Good buy/develop/hold projects are in areas that will also attract good capital growth, and the additional properties created will add value to your balance sheet and bring in good income and at the same time offer valuable tax deductions through depreciation.

If this is your chosen strategy, it’s important to firstly know and understand your budget, and ensure you are comfortable with your commitments. Speak to a mortgage broker or bank and discuss how much you can borrow – keeping in mind the financing of the initial purchase price as well as the funds that will be required for the subdivision and development, whenever they are planned to occur.

You may have the intention and financial capacity to redevelop your new property now, or you may plan to max out your borrowings to buy the property and work with a savings plan to fund the development down the track.

Duplex site development costs can be on average between $35,000 and $60,000 for a basic subdivision of a single residential site into two blocks ready for building on, with services connected and extra required costs such as fencing and demolition might take the total up to $60,000 to $80,000. If you choose a profitable subdivision site you could make around $40,000 just by titling the blocks. However these developments are hard to find.

If you are retaining the home and you retitle the lots before building on them, then you can approach your finance provider for a refinance of the project. Banks are generally willing to lend more money for two titled blocks than for a single site.

All your hard work could be for nothing if you’ve not done your homework; it takes a lot of ‘on the ground’ time, research and networking to find the good sites. We recommend investors target properties with easy access to public transport, shops and other local amenities, and aim for properties closer to the city when possible.

It is important to look at investment properties that have the zoning currently for immediate redevelopment if that is it route you plan to take. If you intend to wait and take two or three years to raise the capital to redevelop, you could buy where the zonings are proposed to be changed.

Areas with proposed rezoning, such as Wanneroo or Forrestfield, are especially popular for investors looking to purchase a property with extra capital growth potential, as these properties typically enjoy comparatively lower prices to suburbs already zoned for development. Historically in Perth, demand for these properties increases rapidly as the proposed rezoning nears adoption, dragging up property values with it.

If you are able to purchase a property to buy and hold in one of these potential rezoning areas, you have the opportunity to either hold until your equity allows you to carry out the development yourself, or bank the land to sell to a developer when the market has lifted.

Good add value properties remain a very popular investment strategy, and investors who are willing to do their research almost have their pick of properties. However, accurately priced properties with add value opportunities continue to sell well, no matter the overall state of the market, and it is important for investors to carry out thorough due diligence and move quickly when they find the right property.

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