Do you factor in CG when pricing up a development?

I'm wondering if people generally factor in CG when doing their feasibility for new development? I'm in the process of doing my first splitter and I've done all of my calculations on current market values.

I went into the project overestimating most costs and underestimating the final value of the two new houses. I'm just curious to know how other people do their numbers? CG in the area is around 4.5% on houses and it will be about a year from now that the houses will be finished.

I've obviously already bought the block and started the project but just curious to know if when someone says that they are looking for a 15% ROI, are they forecasting or are market conditions too unpredictable to speculate?

 

Always do my figures on current values. CG is just icing on the cake.

The other thing with estimates, I always try to be as close as I can to actual numbers.
Over/under estimating can not only lose you money in a deal, but may stop you proceeding on deal that you should be doing.

 

You can only work on today's figures. However, I always consider market conditions, if the market is rising that is a bonus, however you need to work out how long it has been rising. If the market is falling or flat, much higher risk from my experience.. I have held off 2 development projects because I consider it to be high risk. Not interested in developing if there is a possibility I could go backwards.



MTR

 

I never factor in possible CG. If anything, i'll factor in a sensitivity analysis for a market that is sliding or looks like it may, but not for the other way around.

I calculate feasibilities on reasonable current sale values, estimated costs + contingencies.

Care to share the rough location of the splitter? I know the inner to mid rings splitter markets well.

 

Capital gains tax doesn't happen when you develop, it would generally be income tax with not 50% CGT discount.

you should consider GST too,

 

Good to know that I've budgeted in line with what most people are doing. I actually don't expect a huge ROI as I'm engaging a builder and not developing to sell. If I were able to be an owner builder and save on building costs then it would work out a bit better and the best comparable property is on the market now but hasn't sold.

The property is on the Redcliffe Peninsular.

Thanks for the heads up on that Terry. I hadn't actually considered that as it does help with future strategy. It means that if at some point I am developing to sell then there's not really any benefit to hold onto it for 12 months for the 50% discount. I was using CG as a reference to increased value, not necessarily in regards to CGT.

 

Do you mind If i ask what return on TDC your expecting? Because what's the point of developing aka 'taking on large risks', and not projecting a return that's commensurate with risks taken? I've only ever engaged builders and I still only go ahead if the project shows a reasonable return.

 

The feasibility should purely be based on an achievable IRR at today's prices. I'd also do some sensitivity analysis on both revenues and costs to ensure that you still manage to exit unscathed, even if crap hits the fan.

I find it funny when people buy a development side in the hope a rising market will make the project worthwhile. At the end of the day, your feasibility should be assessing a 20% + margin based at today's prices, even if you purchased the site 5 yrs ago. If isn't the case, you've just made $ on the capital growth and it's best to just sell the raw site if the development isn't providing additional 'value add'.

 

I'm expecting around 12-13% return. That factors in all costs from purchase price, legals, cost of infrastructure, interest, rates, insurance, etc.

If there is growth in the market then that will likely be closer to 15%+ of total investment and that will be around 12 months from start to finish, 20% is an extremely high return to expect on a splitter from everything that I've seen. Of course it's achievable in a rising market but I don't know if it's a reasonable expectation using MV at the time of purchase. Perhaps you've been spoiled by crazy growth in the Sydney market?

I won't give my exact prices but there is a similar project going on quite close to me. The purchase price of that block was $510k. With SD, legals, loan costs, etc. I would expect the purchase cost to be around $530k. I can estimate their other costs with extreme accuracy as I know their builder:

Add services - $9k
Demo house - $13k
Construction cost per house - $295k
Running costs - interest, rates, etc - $15k per house
Agent commission to sell - $15k per house

They are listed for sale at offers over $699k but are much more likely to achieve $670k - $690k given comparable sales.

Total expenditure per house is approx. $600k

ROI is much closer to 11-14% rather than 20%.

 

20% is the typical return that developers, lenders and the like expect when doing developments generally. Capital growth isn't considered in this at all.

I'm not surprised that 20% seems unrealistic for a splitter, the reason is because most people can do them (including mum & dad investors that forget about GST and other hidden costs) which drive land prices up and decrease returns. You'll also find that a lot of builders do them and can still make decent coin because they're only paying cost for their construction.

 

I bought some splitter sites 3 years ago and more recently last year. Some are 6km from cbd with city views and some 9km with mountain views. Reason i mention this is because i knew to make splitters work you need A, the land at a very good price and B, something unique about the site.

Honestly i think its good your going for it but those numbers of 12-14% return worries me. I wish you the best mate. Hopefully the markets keep growing to help with your return.

 

A slight blow out and your profit disappears.

 

The return is also a 2mil+ property that you will own as your PPOR is it not?

 

It won't be a PPOR. Plan on renting them out. It's an area where I see strong potential for CG. The project is a way for me to build a portfolio by taking advantage of the savings gained by splitting and building myself.

I could probably do something similar by looking to buy established property under market but I guess we all need our own strategy.

 

I think I may have posted in the wrong thread, apologies.

 

If you rent them out and eventually sell then CG and the 50% discount may apply. Not sure how long you need to rent for. @Terry_w ?

 

I don't think there is any specific time frame. It all depends.

The longer you hold them the more likely they will be on capital account.

 

Not arguing the point @Terry_w , your definitely spot on with your comments
But have you had any clients where the ATO made them change their calculations from CGT to business income tax? Where these major (eg 10+ unit developments) or duplexes etc?

 

No I have never encountered any, but it might be best to ask this question to an accountant as they would encounter this sort of thing more often

 

According to my accountant it depends on your intention. If you developed to rent out then an eventual realisation is likely to be on capital account. Develop to sell = revenue account.

(And as an accountant myself I do use an accountant as I know enough about tax to be dangerous)