In this issue we begin a 12-part series on property development. At the end of the series, you'll have a complete guide on how you can become a property developer.

PART 1
In this article we discuss:
What is property development?
The first step
Getting your finances in order
The property development team

Property development is usually the next stage for property investors wanting to grow their portfolios and increase wealth. But it's not always an easy step to take and there are pitfalls and traps for the inexperienced.

What is property development?
For the purposes of this series, we'll concentrate on small to medium development which is achievable for ordinary investors.

That is, we're not looking at the big end of town or major unit developments.

It could be something as simple as subdividing a block of land with an existing house on it and building another at the back. Or maybe the zoning allows for more than one additional dwelling on the block, such as two or three townhouses. An investor may have a development block on which to put a number of townhouses or villas, or it could be a small block of units which are renovated and put on separate titles.

Other options include buying a development site where the zoning allows for a number of dwellings or buying a block with an older house which can be demolished to make way for new dwellings to be built.

Either way, it's probably best to start with something small and relatively easy to cut your teeth on.

Property developer Michael Yardney of Metropole Property Investment Strategists  says it's best to start off small, as most mistakes are made in the first few developments.

"The simplest development is a renovation to add value to an existing property," he says. "And the next simplest is building another house on an existing block."

The first step
First you have to decide whether you're suited to property development.

Author and development manager Bob Andersen says it's important to determine whether property development suits your investment and risk profile.

He believes one of the biggest mistakes first-time developers can make is not seeking professional advice.

"I've seen them get into all sorts of trouble – the wrong site, the feasibility isn't done correctly or things are missing," he says.

Yardney says new property developers should understand the risks involved in property development. There's the development risk – will it be approved; the finance risk – will you be able to finance the holding costs for the term of the project; timing of the development – are you building in a rising market; and the market risk – will your project still be marketable in a year's time?

He says you have to figure out why you want to get involved in property development in the first place.

"People perceive property development as a way of making extra money," he says.

"There's a thought that people who get involved in property development make large profits, but they also take big risks. Some people go into it because they think it's exciting, but they're the ones who get themselves into all sorts of trouble because they're looking for excitement when they should be looking at it as an investment.

"But with property development, you can manufacture capital growth rather than waiting for your investment properties to go up in value with normal growth."

Yardney says the simplest way to get started in property development for ordinary investors is by doing a renovation. This gets them used to budgets, contracts, engaging consultants such as architects or building designers, town planners, building contracts, etc. And there's less risk than doing a larger development.

Property author Peter Cerexhe says people should never go into a property development under funded.

"Come up with a budget and double it," he says. "A fixed price contract is almost never a fixed price."

Andersen says property developers have two options – building new dwellings to sell for a cash profit or holding on to the new stock and putting it into their investment portfolio.

Then they have to decide whether they'll be a passive or an active developer.

"A passive developer would be somebody who engages someone else, such as a development manager, to do all the work for them," he says. "So they keep their day job and the development manager would carry the project right through. Technically they're the developer because they would acquire the land and finance it in their own name, but the development manager would do all the work. At the end the development manager delivers the finished product to the passive developer."

Andersen says using a development manager for first-time property developers can be part of the learning experience.

Active developers want to "get their hands dirty". They want to be involved in the whole process from start to finish. Andersen says active developers may do it full-time or part-time. Education about property development is an important component for the active developer.

"An active developer may engage an individual or a firm for advice when they're doing their first project," Andersen says.Active developments may use development managers as mentors for the development process.

Financial capacity or risk must be determined before getting involved in property development.

Andersen says you have to be able to afford to be a property developer. You can employ a financial strategist or finance broker.

"You need to find out what your financial capacity is in terms of buying," he says. "And then you can decide on what size project you can afford to do.

"The other thing is where your comfort level lies.

"It might be that they can afford to do a $2 million project but their comfort level might be to do a $1 million project first up."

Yardney says it's important to understand the financial risks, particularly for those getting started in property development. But equally important is getting the structure right whether you're building to sell or building to hold.

Andersen agrees, saying a lot of first-timers don't get the structure right.

"It depends on whether you're going to be an investor-developer and holding it or whether you're going to develop property and sell it," he says.

"Structure is important but it's even more important if you're going to hold it because of the tax implications.

"People get into strife all over the place from being badly structured or unstructured. And just not having the basic knowledge – they try to do too much themselves.

"Some people have experience and time, but not money, so they'll leverage off other people's money, such as joint ventures or raising capital from other people. Other people don't have experience or time but have the money, so they may join up with the person who has the experience and time to do a joint venture."

Yardney says the main advantage to becoming a property developer is that you're buying at the wholesale cost rather than at the retail level.

"So there's no builder's margin, no marketing costs, no development costs, no agent's commission – you've made all those," he says. "There's a profit potential – developers usually make a profit, although we don't advocate that people sell. And you get better rents. The tenant doesn't know that you've built your development at wholesale cost – they're still paying retail rents. The other benefit is good tax depreciation."

Educating yourself about property development is another essential component in taking your investing to the next stage. There are only a few books available in Australia (have a look in API's Business Mall at the back of the magazine). There are also a few property development courses, seminars and workshops throughout the year, or you could engage a mentor or advisor.

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