There is a general consensus that the UK needs to build around 250,000 to 300,000 new houses a year to keep pace with demand. We are currently building 100,000 a year, compared with 400,000 in 1970.
This imbalance between supply and demand for new housing will ensure house price inflation for the foreseeable future. The only threat to this is if buyer demand is further curtailed by a lack of funding or a financial crisis.
It is a mistake to regard the UK market as a single entity – we are seeing a widening gulf between higher and lower value areas. Even within the South East there is a huge variation in the appeal of sites. Some city centre flat proposals fail to attract interest while just a few miles away family housing land may be in high demand at prices that are as strong as in 2006-07.
The average three-bedroom semi-detached house is 1,000sq ft. If this average house sells for less than £150,000 in your area then your site is probably not viable and there would be very little developer interest in it.
If that house sells for more than £350,000 then the market is as strong as it was in 2006-07. Between these two there will be good demand and a debate to be had with the local authority as to how much value you as the landowner should be entitled to take from a development.
This site viability appraisal process is a relatively new science that has been provided for in recent planning legislation – the National Planning Policy Framework.
In order to judge whether the development is worth pursuing, it is a case of balancing the potential for landowner/developer profit against the infrastructure and planning requirements which the local authority, through the planning regime, will impose on the development.
Now is a good time to look into the planning potential of your land but, in taking an application forward, be aware of the erosion of land value through planning or infrastructure obligations. There is little point in generating high top line values if this is eroded to modest bottom line values.
Development land – Key issues
- Massive increase in house building needed to meet demand
- Government encouragement but economic uncertainty, especially on availability of mortgages.
- Wide variation in land values for building – from no interest in some areas to pre-recession values in others.
- New planning regime means developers have to fund more infrastructure -leaves less profit potential.
- Developers’ ideal is for 50-150 houses on a very straightforward virgin site.
- Value of a plot generally represents about one third of the sale value of the new house.
- There are any routes to achieve development or realise value from land but they can be complex and carry widely varying levels of risk.
- Allow up to two years between idea and achievement of planning permission/sale of site
- Common issues which hold up progress are title, contamination, archaeological or environmental status, pipelines and cables.
- Tax and legal issues will take time to research and plan for
Of the approaches we receive about potential developments, about 20% have real prospects and about half of these will achieve full planning permission.
The nature of house builders has also changed. Most are now run by accountants whose perfect opportunity would be for a site of 50-150 houses on a very straightforward virgin site.
Any complexity or risk such as issues over title, contamination, archaeology, pipelines or cables discounts the land value heavily in today’s market and if this is coupled with a lower value area it will be very hard to attract developer interest.
Land values vary enormously but a good rule of thumb is that the cost of a plot generally represents about one third of the sale value of the new house.
To get any uplift in value there has to be planning permission and this remains one of the big challenges. While recent government guidance and initiatives encourage development, many local authorities lag behind this.
We detect real momentum from central government to encourage more house building. There have been a number of planning appeal decisions that have been quite helpful and it is clear that if a local authority does not identify sufficient housing land then it will be largely defenceless against well considered applications.
Due to the risks involved, it is rare for a landowner to undertake. Development him or herself.
So unless this is your chosen route, you will need to engage with a promoter or house builder. This is generally done either before the submission of any planning work or on the granting of a planning permission.
Provided the planning process can be properly managed and sensibly funded, better returns can be achieved by selling with planning permission and there are other development partners who, prior to significant planning work being undertaken, can bring funding and/or expertise that the landowner does not have.
For example, there are very good promoters who can achieve planning permission and then sell the land on to house builders. A promoter takes the risk and cost of achieving planning permission in exchange for a share in the eventual sale proceeds of the land.
Promoters tend to be involved in larger strategic sites and will be looking for 15-20% of the sale proceeds. If planning permission is not achieved, the promoter has to write off what he has spent in seeking that planning permission while the landowner should not be out of pocket.
Agreement with development partners at the planning stage can be very complex Most clauses allow the alignment of the landowner’s and the development partner’s interests, (for example both will want to get planning permission as soon as reasonably possible) but with the exception of some promotion agreements, the views of the development partner and the landowner are diametrically opposed when it comes to valuing the land.
However pleasant the development partner may be, (and I am hinting that some may be unpleasant), if they are able to secure the site for £1 less they will try to do so.
As a landowner if you wish to get planning permission first and then sell the site to the developer, the key tip to success is to understand the market.
In the same way that you will understand the market for your wheat or your milk, you must understand the market for development land and how to set about achieving best value.
Bidwells has sold many sites for what we call “irrational” high prices where the planning permission and package of land have been ideal for the market conditions.
That package needs to be made as attractive as possible to the land director of a housebuilder, for example, by understanding what will make him persuade his board to invest in your site.
Finance, tax and legal considerations
Another emerging trend in the sale of development land is the increasing complexity of land payment and financing arrangements.
In 2006-07 most developers had ample funds and therefore would buy most sites with a single payment on completion.
The majority of sites we now deal with have deferred payment arrangements and/or complex sales structures.
Our experience is that most developers are prepared to pay 8-10% a year for deferrals which is well in excess of the opportunity cost of money for most landowners.
However, complex arrangements such as build licences, joint ventures, overage agreements (or clawback, see p10) or deferrals need good advice.
Build licences see land ownership being retained and a licence given to a builder to build, usually houses. The sale proceeds are then shared between the two parties.
Here, again, there can be tax and security issues – for example builders may find it difficult to get finance on land they do not own.
Landowners need to understand the risks they may be taking with receipts, the security of any partner and whether the risk/reward balance is acceptable.
Tax treatment also starts to change as landowners move away from pure land payments and into the realms of taking a financial interest in the success, or otherwise, of the scheme.
Some overages, build licences and joint ventures may be deemed to be trading and therefore a private landowner may get into an assessment of income from these structures as being income tax, as opposed to the more favourable capital gains tax.
It is important that members of the professional team, the core of which will be the accountant, solicitor and agent, are liaising to ensure that both gross and net receipts are maximised.
While here we concentrate on residential development, many comments are equally relevant to commercial development.
The main difference is that residential developments are speculatively built, (the product is built before the end user is found), commercial development is invariably led by the “capture” of an occupier and this adds another layer of complexity to the development process.
There are very real opportunities to realise significant gains from development over the next few years.
The market is diverse but there remains a significant imbalance between housing supply and demand and so we believe that, in medium- to high-value areas, the market will remain strong.
However, planning, engagement with developers, funding and tax structures are becoming ever more complex and the management of these issues is paramount to ensuring that you fully realise the potential of your land.