A development finance transaction will typically include more comprehensive security than in a typical investment transaction. This is due to the fact that the value of the undeveloped land is likely to be lower than the cost of funding the construction of the new development.
It is essential that when acting on behalf of a funder we ensure that the agreed form of construction documents contain necessary step in rights. In property developments, step-in rights provide the lender with the ability to step into the shoes of an insolvent developer to ensure the completion of a project. Step-in rights can give the lender the benefit of the developer’s rights as employer of a building contractor or a professional consultant.
The type of construction documents that we would expect to see would depend on the nature and extent of a particular development, typically you would expect to see the following:
- A Building Contract
- Collateral Warranties
- Bonds, guarantees or letters of intent
- Professional appointments
It is important and crucial from the Lenders perspective that it has a comprehensive Review and Report produced before entering into any funding package for a development/construction project. Ultimately, a Lenders security is over the development (likely part completed) and should the Lender need to exercise its rights then it will be in a considerably stronger position if the original documentation was strong and robust. By virtue of the fact that a bridging loan is required it is fair to assume there is a degree of risk in the stability of the developer/contractor. As such, it would be for the Lender to not take a worst case scenario approach to the loan.
In order to feel comfortable to sign off the loan, any prudent Lender should ensure it has a Report completed reviewing the Primary Documents (Building Contract, Appointment document and Sub-Contracts) and the Collateral Warranties. With such review having been done, a Lender can be comfortable that should it need to sue any member of the team for any issue, or in worst case scenario step in and take over the project altogether, then the documentation will facilitate the Funder recovering and securing its own position.
Borrowers often secure finance from 2 separate lenders with the second lender providing a smaller amount to bolster the developer’s financial position and ability to complete the development. A deed of priority should be utilised to accurately set our the primary and secondary lenders position and amounts that are initially being secured against the development.