Lending Outside The Box
From prefabs to tiny apartments, getting lending on unusual properties can be difficult. So what can investors do to secure a loan on an unusual property, asks Dan Dunkley?
1 July 2019
Talk to most investors about their dream property and they would probably choose a solid brick house on a prime section, or a renovated apartment in a well-located area. But for some investors, the quirkier, more unusual homes can offer up exciting investment opportunities. Occasionally, investors are prepared to look beyond the ordinary and invest in homes that are a little outside of the box. Some might even consider a home that comes flat-packed in a box. Over the past few years, non-traditional properties have become more common as people look for alternatives amid the ongoing housing crisis. Studio apartments, tiny homes, and prefabs have all risen in popularity. Alternative lenders, major banks and builders say there is increasing demand for prefab homes, transportable housing, and tiny homes, as people look for options in an expensive market. Small studio apartments and unusual commercial properties can also deliver good investment returns. Unusual properties have their pitfalls, however. Most banks are unwilling to lend on unconventional properties, and investors face challenges when it comes to securing loans. Banks have strict criteria for lending on transportable homes, apartments under 40m2, and prefabs.
While there are plenty of unusual properties to buy, investors say financing is a tough hurdle. Amid ongoing restrictions, how can investors secure finance for homes outside of the box? What are the conditions of getting a loan? Will banks become more flexible over time?
Non-Standard Apartment Issues
According to David Windler, a mortgage adviser at the Mortgage Supply Company, unusual properties are deemed as a “non-standard security” by the banks “so you get a non-standard response”. He adds that if it’s an investment property, it’ll be a struggle to get 70% LVR. “You’ll get a lower, limited LVR, or a no.”
Windler says most of his deals fall into the standard category, with the nonstandard deals “too small to quantify” for his business.
“Apartments below 40m2 [total living space, excluding balcony] are considered non-standard and are more difficult to finance. For small apartments, or those in a hotel pool, the serviced apartments the most you’ll get is 50%. Some banks won’t lend on them at all.”
Small banks are no more flexible than the big four when it comes to small apartments and non-banks are equally constrained as they often need more comfort with security, he says.
“Banks are looking at what might go wrong, and what the chances are of getting their money out. The risk assessment is ‘What is our market reach if we take it to market?’ A bog-standard home is a more saleable item than a 30m2 apartment, which has a smaller pool of potential buyers.”
Windler offers the following advice.
“If I’m an investor looking at something outside of the box, I’m going to have a mortgage application that is more outside of the box.” He says clients often need to use equity elsewhere to get financing for small apartments. “If I have a studio apartment which is 30m2, the client will need to stump up 50%. It becomes more reliant on other securities.” He says that having a strong existing portfolio may also help in financing trickier, smaller deals. Meanwhile, Squirrel chief executive John Bolton says about 25% of his firm’s adviser business fits the “non-standard” category, with most of that figure “development-related”. “We can get non-standard apartments through banks at 50%-65%.”
While advisers say non-standard loans can be tricky, investor Grant Hoey believes small apartments are stellar investments. “Apartments under 30m2 are the best investments and offer the best returns. Studios only require one tenant, so you only have to find one person. They are easy to renovate as they are small, and rents have gone up dramatically in recent years.”
It can be a challenging corner of the market to play in, due to financing constraints, he says. “Small apartments are ‘the hardest to bank’. Banks don’t understand them, to their detriment. The banks need to rethink their attitude to funding.”
Hoey says opportunities to invest in small apartments are becoming more limited. “I thought things would have changed with the Labour Government, and them wanting cheaper housing. Building more studios would have been a great way to get more people into first homes.”
But there are potential solutions to financing small apartments, he says. Investors can buy two to three small apartments at a time, packaging them together for lenders.
“Banks tend to be happier to lend in those situations when there’s more than one apartment. We try and package it up with another deal. If the client wants to buy another two-bedroom apartment over 40m2 and get their broker to package it into one deal.” Hoey calls on banks to change their thinking. “Most of the bankers don’t own apartments, so they don’t understand them, and how easy they are to rent. They don’t understand the logistics.”
Banks’ reluctance to lend extends to other types of unusual properties, such as mixed-use commercial and retail units, he says. “Banks are treating them as purely commercial – overlooking the residential aspect and reducing LVR in those situations.”
Property Ventures Real Estate director and investor Mark Honeybone says qualifying borrowers often need to put up 50% equity in small apartments and studios. He says the market has typically attracted wealthier buyers. He notes a recent apartment sale of a 30-40m2 property, where an investor paid with cash.
At the other end of the scale, banks also have strict criteria on groups of flats, he says. “They will say yes to someone, and no to someone else. If you’re buying four flats, for example, you’ll be put under commercial lending, and you may only get 60%. It’s case-by-case with the banks at the moment.”
Relocatable homes have also become more popular in recent years. Papakurabased portable home company HouseMe has seen an influx in business as customers seek more affordable dwellings. HouseMe’s national sales manager Bryce Glover says the company’s homes are an effective way for people to access cheap housing. “Most people want to buy a transportable home to keep costs down,” he says.
HouseMe sells about 200 units a year, up from roughly 50 three years ago.
Glover is frustrated at the lack of financing available for relocatable properties. He says banks will not lend until the properties become “permanent” dwellings.
“They [the banks] want it to be fully consented, and you have to spend money upfront. You could end up spending more than the value of the home, around $100,000, just to get financing. The dwelling is only $70,000, so it’s not exciting [to investors]. The financing policies don’t align with purchasers’ goals.” He adds lenders often require investors to have equity elsewhere.
Glover says financing restrictions leave many prospective buyers in a difficult situation. “Finance companies and banks won’t lend unless it is a consented permanent dwelling, which goes against the reason people are buying them – because they are portable.” In his view, financing restrictions are holding the relocatable market back. “Only 10% of the people who want to buy the units have equity elsewhere. If, for example, your son wants to buy one and put it in the backyard, you, as the property owner, will have to put their name on the document.”
Alternative lender Oxford Finance has provided lending on relocatable homes, but has “tightened up” in recent months, he says. Likewise, some peer-to-peer lenders, such as Harmoney and Squirrel offer products, but often have strict caps.
Windler says clients encounter difficulties getting loans for prefabs and relocatable homes. “The issue here is that borrowers have to pay for the prefab as it’s going up, and for its transport. The bank doesn’t recognise the improvement of the value of the land until the prefab or relocatable is on site. It is another one of those situations where having equity elsewhere is useful.”
It is also challenging to finance tiny homes, Windler adds. “Let’s say you’ve got an $800,000 property and you want to put a $100,000 tiny house behind it. The owners would need existing available equity. The additional property would only be considered part of the overall security value if it was connected to services and was issued with code.” However, some home builders do offer finance for transportable products such as Keith Hay Homes, who bridge the lending gap by providing finance for the build progress payments until the transportable home lands on site.
Addressing The Problems
While most banks have strict policies on unusual properties, Westpac took a tentative step into the non-traditional finance market earlier this year.
The bank launched Westpac Prebuilt, a product to help people buy prefabricated homes. The pilot scheme is designed to help buyers with the upfront cost of a prefab before it is moved to a section. The bank takes security before the home is delivered.
Westpac NZ head of home ownership Mark Dunmore says that what they are doing is treating the house as inventory during construction and securing it accordingly. “It means buyers and builders who meet certain clear and transparent criteria will be lent the money by Westpac to cover the build, giving a sense of assurance to both parties.”
Westpac also lends on tiny homes that meet lending criteria. The homes must be a permanent dwelling and sit on freehold land owned by the borrower. Some borrowers may also be able to take out an unsecured personal loan to buy a tiny home.
Dunmore admits that banks find it difficult to lend on small properties. “While we recognise the evolving demands of housing types across the community, some very small dwellings may be less suitable for home loan lending, because of the current lower demand for such dwellings, which could affect resale value.” With a noticeable financing gap for unusual homes, will banks make more of an effort to lend outside of the box? The industry is not convinced.
Glover says there is no sign of progress on relocatable homes: “No one is doing [lending]. No one has a silver bullet, and everyone is struggling.”
In Windler’s eyes, tiny homes and apartments will remain challenging to finance, but investors will face fewer barriers with new apartments, which tend to be over 40m2. “Around the 2000s there was a proliferation of small dwellings, but recent developments are a more generous size, and that gives us more chance of them being a standard security.”
Meanwhile, Hoey is calling on banks to change their thinking on apartments. He believes lenders “need to be aware that small apartments are wise investments. Whether it’s for family studying at uni, or an investment for the future”.
Honeybone goes further. He believes first home buyers and investors should be allowed to borrow 100% LVR for apartments large and small. He suggests this could help to ease the housing crisis. “It would open up the market for home ownership, particularly in Auckland.”