Development Finance for Small Projects: Duplexes, Townhouses and Subdivisions

Across Melbourne's south-east, you'll see it on almost every street: an older house on a large block replaced by two, three or four townhouses. Small-scale development has become one of the most common ways for everyday investors and homeowners to build wealth through property.

But financing a development isn't the same as getting a home loan or even a standard construction loan. Lenders look at the project itself, not just your income. This guide explains how development finance works for smaller projects, and what you can do to give yours the best chance of approval.

There's no strict definition, but small-scale development usually means:

• Duplexes or dual occupancies, two dwellings on one block
• Townhouse projects, typically three to six dwellings
• Subdivisions, splitting a block into separate titled lots
• Small unit developments, up to around ten dwellings

For a duplex where you plan to live in one and keep or sell the other, some lenders will treat it more like a standard construction loan. Once you're building three or more dwellings, or planning to sell them, it's usually assessed as development finance.

With a home loan, the lender mostly cares about whether your income can cover the repayments. With development finance, the lender also cares about whether the project works.

They'll assess:

• The total cost of the project
• What the finished dwellings will be worth
• How much profit the project is expected to make
• Your experience and the builder's experience
• How the loan will be repaid, usually through sales or refinancing

The lender is essentially asking: if everything goes to plan, does this project make sense? And if things don't go to plan, is there enough margin to cover it?

Loan to value ratio (LVR)

This is the loan amount as a percentage of the property's value. For development, lenders often look at it in two ways:

• Against the "as is" value, the land as it stands today
• Against the "on completion" value, often called the gross realisation value or GRV

Loan to cost ratio (LTC)

This is the loan amount as a percentage of the total project cost, including land, construction, fees and interest. It tells the lender how much of your own money is in the deal.

Profit margin

Lenders want to see a healthy expected profit, as a buffer against rising costs or falling prices. Projects with thin margins are harder to fund, and many lenders have a minimum margin they'll accept.

Presales

For larger projects, some lenders want a certain number of dwellings sold "off the plan" before they'll fund the build. For small projects of two to four dwellings, presales are often not required, but policies vary.

Planning permits can take many months in some councils. Factor that holding time into your costs, because interest on the land is still being paid while you wait.

The more complete your application, the better the terms you're likely to get. Lenders usually ask for:

• Town planning permit and endorsed plans
• Building permit, or evidence it's underway
• A fixed price building contract with a registered builder
• A feasibility study showing costs, values and expected profit
• Valuations, both "as is" and "on completion"
• Your financial position, income, assets and liabilities
• Your exit strategy, such as sell all, sell some and keep some, or keep all

A clear feasibility study is especially important. It should include every cost: land, stamp duty, design, permits, construction, contingency, interest, sales and marketing, and GST where it applies.

Lenders pay close attention to who's building your project. They want a registered builder with a solid track record on similar projects and a fixed price contract.

If you're planning to manage the build yourself as an owner-builder, options are much more limited, especially for multi-dwelling projects. Talk to your broker before deciding.

Every development loan needs a clear plan for how it will be repaid. Common options include:

1. Sell all dwellings and repay the loan from the proceeds
2. Sell some, keep some, using sale proceeds to reduce the debt, then refinance the rest
3. Keep all dwellings as investments and refinance into long-term investment loans

If you plan to keep some or all dwellings, the lender will want to see that you can service those loans once the development is complete. This is where planning ahead really helps.

• Underestimating costs. Always include a contingency, usually 5 to 10 percent of construction costs.
• Ignoring holding costs. Interest, rates and insurance add up during planning and construction.
• Being too optimistic on values. Lenders rely on independent valuations, not agent estimates.
• Not checking finance before buying the site. Make sure the project can be funded before you commit.
• Choosing the wrong lender. Development policy varies widely. The wrong lender can mean delays or a reduced loan.

Development finance is one of our team's core specialties. We help investors, homeowners and small builders:

• Review the feasibility from a lender's point of view
• Find lenders that suit the size and type of project
• Structure the loan for both construction and exit
• Manage drawdowns and keep the project moving

We help developers across Melbourne's south-east, including busy development areas like Clayton and Oakleigh, as well as projects across Australia.

Learn more about our development finance, or book a free chat to talk through your project before you commit.