We explain how to fund a permitted development project, the options available and latest legislation. We also share our experience & lender insights.
Jargon-free advice on peak debt facility, also known as a revolving loan. Find out what it is, how it works, how it differs from a development loan and more.
What is a Peak Debt Facility?
A peak debt facility, or revolving loan, is a loan facility that is based on a cash flow forecast, and is tailored to sites where individual completions will occur on a rolling basis.
It is suited to schemes over around 12 units and works best on a development of houses or multiple blocks of flats. You can’t secure a peak debt facility on a single block of flats that needs to be completed in full before sale completions can occur, even if there are reservations off plan.
How does a peak debt facility work?
A peak debt facility works alongside a phased development, allowing the benefit of sales to reduce the facility, and without breaks in the construction programme. Most developments are fully funded, meaning that at the end of phase 1, construction stops and sales are made to repay the debt. Once the loan is fully repaid, the loan for phase 2 can be drawn. The key benefit is that mid-development, instead of downing tools and waiting for the sale of the first phase, the developer can use the sales proceeds from phase 1 to reduce the outstanding debt and fund phase 2.
The lender allows the developer to redraw the funds within the facility limit, to fund future construction costs against valuation certificates provided by the lender’s monitoring surveyor. It also means the developer is able to recycle their equity and most importantly reduce their development finance costs.
Securing a peak debt facility is dependent on a borrower’s cash flow (their forecast of monthly payments and receipts). Lenders are therefore more likely to provide the facility to experienced developers with strong project management skills and solid financials.
What is the difference between a development loan and a peak debt facility?
A development finance loan is fully funded, meaning the lender has the security that there is enough money within the loan allocation to ensure the project is fully built. In contrast, with a peak debt facility the lender is reliant on sales to see that the scheme is fully built. This is inherently more risky for the lender, as they could be left with a part-built project if sales don’t materialise as forecast.
Here’s an example:
A developer is looking to develop a site with 20 houses with a GDV of £500,000 each, so a total GDV of £10m. Here are 3 different ways that the borrower might secure the funds.
1. Fully Committed Development Loan Scenario A (both phases 100% funded back to back)
- The lender offers a loan at 60-65% GDV (£6.5m) over a 24-month period
- The lender fees are based on the maximum amount and the lender will retain sufficient interest to cover the period of the loan, meaning more equity is required towards the land purchase
- The borrower is asked to give a personal guarantee for 25% of the loan (£1.6m)
2. Fully Committed Development Finance Loan – Scenario B (both phases 100% funded, one after the other)
- The lender offers to loan the borrower £3m to fund the first 10 houses only
- The borrower needs to sell 6 houses before this loan is repaid
- The lender then offers a second facility of £3m to fund the remaining 10 houses
3. A Peak Debt Facility
- The lender offers to fund all 20 houses on a 24-month facility
- The loan is based on the first sales in months 12-15, i.e. 3 months after practical completion of the first units, and then sales on a regular basis while the developer continues to finish the remaining units
- The cash flow shows a requirement for a facility limit of less than £4m, assuming the developer achieves early sales, and the net sales proceeds are paid to the lender in reduction of the developer’s facility
- The lender asks for a reduced personal guarantee of £1m (25% of the reduced limit)
- The borrower reduces their interest costs by a few hundred thousand
What else you need to know?
To ensure sales occur regularly to meet the assumptions of the cash flow, the developer must be prepared to market the properties off-plan, so early marketing is key. In most cases the lender will want to see a strong local agent retained, and a very credible go-to-market strategy and upfront marketing budget.
If the sales don’t occur in accordance with the cash flow model, the facility balance continues to increase as the contractors request construction drawdowns, until such a point that the balance of the loan would exceed the facility limit. At that stage, the borrower either needs to inject some of their own money to keep the scheme going, or pause the development whilst sales catch up.
Most lenders will therefore stress-test the cash flow model. They tend to err on the conservative side and will generally set the facility limit at the assumed balance of the loan
if sales predictions were delayed by two, three or more months.
They might also set sales hurdles. For example, request that the developer achieve three exchanged contracts within six months, or three sales completions within 15 months. This would give the lender early warning signs if the borrower’s sales assumptions cannot be achieved.
For more information on securing a peak debt facility, or development finance in general, please call us on 020 4525 6764 or email email@example.com.