Your complete guide to buying off-the-plan

Off-the-plan properties offer great opportunities and benefits with the possibility of capitalising on value growth before the property is even completed. There are also horror stories about shoddy construction and plummeting values. So, how can you make sure that you get the best deal?

What is off-the-plan?

Buying off-the-plan is agreeing to buy a property before it’s been constructed. You are buying a property based on the blueprint or plan, it has not been built at all. With this option, you don’t need to secure finance straight away. A 10% deposit is usually all that is required to secure the property with the remainder due when settlement happens, after the property is completed. Since properties can take one to two years to complete, it gives more time to save and secure your finance.

Features and benefits

Buying off-the-plan has several attractive features for investors.
1.) Many states offer incentives to build a new home such as NSW’s Home Builder Bonus, worth over $22,000. Governments have done this to address property supply issues.
2.) Premium rent. Often newer homes command higher rents, lower maintenance and less issues than older homes. This can result in a property becoming cash flow positive sooner.
3.) Potential capital growth. Many investors like buying off-the-plan as it has the potential to increase in value while being built, before you even make any mortgage payments. When done right in a good market, investors can make a lot of money. However, the reverse is also true where if the property market falls, you can lose money.  

The market

When you buy off-the-plan you need to ensure it is in a market that is experiencing or will experience growth. To do this, analyse the data for the area you are looking at. Many people make the mistake of looking at suburbs with 15% growth for the past three years with the assumption that above average growth will continue indefinitely. This is a mistake because the market has likely peaked in that suburb already, which may result in a the market correcting and your property value reducing. This can take years to recover from.

Instead, look for :

• strong population growth
• varied employment opportunities
• public and private infrastructure spending

If an area shows 2% growth and ticks all the other boxes, it’s probably at the right stage to experience significant growth over the next few years.

The developer

Buying from a reputable developer is crucial. Only ever buy from a developer with a good track record. Speak with real estate agents and other professionals in the area to see how the developer is viewed in the community, though they may be biased. Check Google and do an ASIC search to ensure there are not court cases outstanding or other issues. If something is off, do not invest.

Since most developers tend to concentrate on core property types e.g the unit builders will have built unit blocks in the last few years, you can get a good idea of their design and quality. They often build similar properties so you can check online to get an idea of past properties. Search make issues with build quality, noise complaints and similar. If possible, go to existing developments in person to view the standard of workmanship and finish. This is why going with an established developer is important. New developers cannot be researched in this manner.

Fair value

The marketing budget of developers, less room to negotiate and government incentives have some investors worried they are going to pay more than the market rate for a property purchases off-the-plan.

This is why research is so important. Check the resale market for similar properties, perhaps projects completed in the last two or three years, to see what they are going for. It will give you an idea of what the property is truly worth, but make sure you allow for some wiggle room.

5% is generally recommended as contingency. Lenders look at this when deciding to lend for off-the-plan developments anyway, so it is wise to include it in your own research.

While it may seem you cannot negotiate with developers, there are options. The price of the unit is firm, however, you can ask for incentives such as furniture packages or interest payments on your deposit, for example. Another common incentive investors request is a rental guarantee. This can be especially important if you’re buying in a large block where all the apartments are coming to market at the same time. If you have guaranteed rent for six months, it can allow time for the properties and the rental market to settle at an appropriate rental amount instead of being reduced as the properties get filled.

Other considerations

Builders and developers are optimistic about their investments. If a builder says it will take one year, it will probably take two. The longer it takes to build, the more equity growth you should get if you’ve bought at the right stage of the cycle.

While it might seem frustrating to some, it can be a significant benefit because you’ve then got equity with which to leverage into further properties straight away. That said, there is also an element of risk, the largest of which is the project being canceled or delay so long that incentives are removed or fees need to be paid before your property is complete.

On the upside, off-the-plan contracts have ‘sunset clauses’ allowing the buyer and developer to walk away from the original agreement at no cost. The buyer will get their deposit back and the developer can put the property back on the market. The date for a sunset clause is usually set a year or so from the expected completion date. While this provides some protection for both parties, there have been cases where developers have deliberately gone over sunset clauses in order to be able to put the apartments back on the market at a higher price.

Should this happen, you can sue for damages; however, it can be expensive and messy. Avoid ending up in this position by doing thorough research first.

Another tip is to not believe sales data when purchasing. Developers will ‘soft launch’ their new project to interested buyer groups months before going to the open market. Many sales are made during this period, yet the sales spruiking is often based on the public launch date. Sales included in marketing or presentations such as ‘50 sales made in the first two weeks’ can be false. Since a sale can sometimes be classes as only a deposit being put down, which can be as little as $1,000, not all sales are genuine. Alternatively, the developer may have soft launched a year ago, with sales only being finalised in the two weeks before the public launch. Fifty sales might have been made, but our experience is that they take many months, even up to a year, to make – not two weeks.

Financing and cash flow

To finance an off-the-plan property the buyer puts down a 10% deposit when the contract is signed then seeks finance for the other 90% when the property reaches practical completion stage. This is about two to three weeks prior to ‘actual’ completion, based on a valuation carried out at practical completion. Lenders will not finance something that does not yet exist, unless it’s in the very near future (eg, a house and land package to be completed within four months). Home loans are given on the basis of the home being used for security. If you cannot pay the loan, the property can be sold and the mortgage repaid. Without a property, the lender has nothing to secure the loan against and cannot lend the money.

A major risk for buyers buying off-the-plan this way is that the valuation once the property is complete could come under the price you have bought the property for. In this situation, the lender will only lend up to 90% of its valuation, with you needing to pay the difference yourself.

Because of this, and the fact you have entered a contract with the developer, it is a good idea to have a buffer ready in case you need to pay the difference. 10% is recommended, though most shortfalls are usually less than 5%.

Holding costs are another aspect of financing that investors should look at closely. WBP property valuer Brendan Smith warns you should be clear on holding costs at the outset as these can blow your returns out of the water. This is often the case if you’re buying in a larger development as the fees for these can be high. Larger developments often contain especially a gym, swimming pool, tennis court, etc which increases the fees.

Smaller developments are not immune to high owners corporation fees, especially if they have lifts which are notorious for hiking fees.

Deposit bonds and vendor finance

A deposit bond is essentially insurance. Instead of putting down the full 10% deposit, you go to a deposit bond company which will issue a guarantee to the developer that they will get the full 10% at settlement. You still have to put in the 10% deposit at settlement, but if you default, the insurance company will pay the developer the 10% – then come after you for the money.

The cost of a deposit bond varies, depending on how long it lasts – two-and three-year bonds are common – the size of the deposit and the value of the property. A three-year deposit bond for a $26,000 deposit cost around $2,100.

Before you can do this, the developer has to approve it, and a deposit bond will never be higher than 10% of the property value.

Vendor finance is another finance option where instead of going to a traditional lender, the developer lends the money to complete the purchase.

Why does a vendor offer finance? It’s usually because they know there are going to be problems with valuations and may not be able to sell otherwise. Relying solely on vendor finance is not a good idea. Vendors are not banks. There is rarely a good reason to go with vendor finance instead of through a traditional lender.

Buying off-the-plan has many benefits provided you do thorough research and get your finances sorted.

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