Funding a subdivision? Limited equity

Hi guys,

I am currently doing a couple subdivisions. I own 1 site and buying another, both at 80-88% LVR. No issues here. The issue is funding the subdivision costs of $70k per block ($8k for the DA, the remainder for works + contributions etc). I’m going to struggle to borrow money from banks for this, and don’t want to lock away this much equity/cash when I could be using this to buy more property.

I am thinking of doing the following for each of the subdivisions:
- Using $8k from my own cash for lodgement of the DA application.
- Once DA approved, borrow the remaining ~$62k from my parents. They have money sitting in the bank so it’s beneficial for them to earn a higher interest rate lending it to me, and will allow me to use my equity to purchase other properties rather than tie it up in subdivision costs.
- Pay back my parents. This is the part I’m confused about. I’m not 100% sure how to do this, but I’m guessing once subdivision is finalised I would be doing one of 2 things:
a) Selling the block, and then paying my parents out of this
b) Financing the block as there is now something for the bank to use as security, and paying my parents out of the equity.
With the above 2 options I just wanted to confirm that doing it this way won’t affect my deductibility in the future? If I’m using equity to pay back a loan is that money still deductible? Any risks here? Is there a better way to do it?

The c) option is for me to build on the newly created block. But I’m guessing if I get construction finance on the new block once subdivision is finalised I would still have equity available in this to pay my parents back. Again not 100% sure how this would work.

Would appreciate thoughts on how to fund the subdivisions with limited equity, without affecting my deductibility in the future.

Cheers

 

Leaving aside the many issues you could borrow from your parents and pay this loan out in the future. It could be paid out via proceeds of sale or by refinancing their loan with a bank loan.

Seek legal advice and so should your parents.

 

In general, banks don't lend for the subdivision costs. When doing a subdivision, one needs access to funds to do the subdivision. $70k to $100k for 1 into 2 lots is typical. How this is done can be one or more of the following:
- have cash or Line of Credit available.
- borrow 90% LVR rather than 80%, pay the LMI, and use the remaining funds for the subdivision.
- Find a Money Partner or Joint Venture partner. For a Money Partner usually pay them a higher rate of interest for the development period.
- Look at an off the plan type of arrangement for the other lot and obtain early release to the deposit.
- land bank until values rise and refinance to access the equity.
- get a personal loan / temporary increase in credit card.

The other thing you need to be careful of is that the LVR of the property changes as you do the development and you need to make sure the required LVR is not breached or the bank can request more equity injection. This is pertinent when you have to release the mortgage say on a lot of land that you are selling, upon sale, the bank will require that the proceeds are paid into the existing mortgage / mortgage adjusted to restore LVR. The life cycle of a subdivision is typically:
I. original house and land: Value A, LVR W%.
II. house gets demolished, now only land: Value B, LVR X%, Value B could be less than A! LVR X > W!
III. subdivision completed, 2 lots, secured by the one mortgage. Being a successful developer: Value C, LVR Y%, Value C should be greater than A, LVR Y < W.
IV. Sell a lot, mortgage needs to be released from the lot, security for the mortgage remaining lot only, proceeds from sale into existing mortgage / mortgage adjusted to restore LVR on remaining lot. The bank will give you what's leftover. Value D, typically 50% of C, LVR Z%, LVR Z =< W.

Cash flow management doing a subdivision is essential.

 

Thanks, that's helpful.

I will probably fund the DA approval (circa $8k) with cash and then once I have the conditions, I'll fund all the rest through a loan from a short-term family member. Just trying to figure out how I pay the loan back and ensuring that if I'm paying it back from equity it doesn't affect my deductibility.

 

You could just borrow to pay it back. This would be treated as a refinance and won't change deductibility as long as you do it properly

 

If they're a short-term family member you might not have to pay them back...