10 Things You Need to Know About Financing Your Project

ABOVE: Velma Skingsley built a six bedroom, 267m² family home for just £115,000 through careful budgeting and seeking out the best deals from builders and suppliers. Read more about this project.

Get the budget right

Any self-build or renovation project begins and ends with the budget. If the finance isn’t in the right place at the right time, there won’t be any plot purchase and there certainly won’t be any building work. Although it may seem fairly mundane to have to deal with these issues when the real excitement seems to be in finding a plot, choosing the design and sourcing builders, getting the budget right at the outset will pay dividends.

Most potential self-builders have some idea of the amount of equity they have in their existing home. The budget is always going to be made up from this equity plus any savings you may have, together with the amount of mortgage that you can either service or are prepared to take out.

Get the price of the land right

Aside from the actual cost of the land itself, there are two other elements to the ‘land value’ equation. Firstly, build costs can be obtained by referencing The H&R Average Build Cost Guide, published each month in the back of Homebuilding & Renovating. This build table lists the type of building, the specification, the area where the house is to be built and the method of construction. It is remarkably accurate. See the final point for more on this topic.

The last element of the equation is the margin. Some self-builders may choose to ignore this figure and pay the whole of the residual value – i.e. the difference between the build costs and the finished value – for the land. Most would expect some financial reward for their efforts. But this figure is adjustable, as are all the others. So if the land is a little bit more expensive, then the build costs could be lessened by building a smaller home, or the margin could be shrunk, or both. Or maybe the price of the land is too much. In any event, the addition of the first three elements must add up to at least the answer if negative equity is not to be built in.

Get your borrowing sorted out early

For decades lenders worked on the principle of ‘income multipliers’, with the eventual loan being so many times the borrower’s income or incomes. Typically that meant 3.5 times a single income or, for joint incomes, 3.5 times the main income plus the secondary income, or 2.75 times the joint income, whichever was the greater. However, with house price inflation seemingly endless, it became relatively easy to obtain up to five times an income.

All of that came to a grinding halt with the credit crunch and what we now have is the concept of affordability rather than the pure application of an income multiplier. This means that two couples with the same income might not necessarily be able to borrow the same amount of money, and a number of issues – such as family circumstances, other commitments, disposable income and credit score – will be taken into account. The process of determining just how much you can borrow has, therefore, become much more intrusive, which is why you do need to talk to a qualified mortgage advisor.

There is no doubt that the maximum loan to value of self-build mortgages has come down in recent months to around 75-80%. However, as most self-builders are still able to experience a gain in equity on their project, this does mean that even a mortgage of 95% on both land and build costs is likely translate to a loan to value mortgage of around 66%.

Make sure the end value is right

Any building project is going to be made up from three distinct financial elements. The first of these is the price of the land; the second is the build costs; and the third is the margin, profit or increase in equity that most self-builders can look forward to.

All building land gains its value by reference to the value of the house that can properly be built upon it and there is a simple equation that self-builders must learn: The land cost + the build costs + a margin of between 20% and 30% = the finished house value.

Once you have committed this equation to memory, you will need to learn how to juggle the figures. Firstly, the answer to the equation – the finished value of the house – is the starting point. This figure can usually be gleaned by reference to other similar properties in the area, by looking in estate agents’ windows or from studying the detail on the Land Registry website of actual transactions that have taken place.

Fixed-rate or tracker mortgage?

Right now money is cheap with the Base Rate being 0.5%, and for those worried about outgoings there is no doubt that a tracker mortgage is advantageous.

Two-year tracker mortgages are available at between 3.33% (2.83% above base) and 3.69% (3.19% above base). But if interest rates rise then the mortgage payments will rise accordingly.

Right now the consensus seems to be that interest rates will remain low for the foreseeable future and possibly for the next two years. But there is no certainty on this and some might feel that now is the time to take advantage of the fixed-rate mortgages that are on offer.

Two-year fixed-rate mortgages are available at between 3.69% and 4.04%. Three-year fixed rates are available at between 3.89% and 4.79% and five-year fixed rates between 4.55% and 6.04%. If nothing else then these figures indicate the way those in the lending market feel things are going to go.

(NB: These rates may fluctuate)

Relate prices received to the budget

As any building project progresses, things are going to change. Some things are going to be cheaper. Many will be more expensive, if for no other reason than the self-builder’s higher expectations of what they want.

But the budget is king. When prices are received for labour or for materials, these must be related back to the budget and, if necessary, some things may need to be trimmed to accommodate them. That might mean that more money needs to be allocated to the project. If that’s not possible then some parts of the project might have to be sacrificed with, perhaps, the garage and the landscaping being left until a later date.

Keep a running total

Buy a cash book and write down all expenditure as it’s made. In one of the columns write down the quotations received that have yet to be paid out and/or the budgeted figures for both labour and materials. This will allow you to keep a running total of your actual and anticipated expenditure so that you always have a figure of just how much you’ve got left in the kitty.

It is a recipe for heartache if you can’t achieve what you’ve set out to do. But it’s a lot more embarrassing if you suddenly find out that you’ve made commitments that you can’t honour.

Think about cash flow

The amount of money that’s going out on the project is finite. But how it goes out is just as important. Labour and builders will require payment at agreed times and if their money isn’t available then they may well walk off site. Materials are another matter. Most self-builders can open an account with a major builders’ merchant that allows for payment at the end of the month following the month of invoice. That means that if you time an order correctly, up to eight weeks’ credit is available.

Keeping your building account in positive cash flow is an undoubted advantage and that is why many self-builders choose an advanced or accelerator mortgage, whereby the stage payments are drawn down in advance of their requirement. It does mean that as each amount is taken out, interest will have to be paid; but the advantages in the ability to maintain continuous work on site and the ability to be able to take advantage of special offers or bargains far outweighs this downside.

Keep VAT records

There is no requirement for the private self-builder to collect taxes from those who work on their site. Nevertheless, the self-builder will want to ensure that they are able to reclaim the VAT paid out on either labour or materials used in the construction of the home.

New build is zero rated which means that no VAT is paid out to labour-only or supply-and-fix contractors. It is paid out at a standard rate on materials purchases made by the self-builder, but can be recovered at the end of the project under the VAT Notice 719 scheme (hmrc.gov.uk). Converters do have to pay out VAT on labour-only and supply-and-fix contracts at the rate of just 5% but they recover that, together with any VAT paid out on materials, under the same scheme. Renovators cannot usually recover VAT paid out at the standard rate for both labour and materials unless the property has been empty for more than two years, in which case a VAT-registered builder can rate the work at 5%, or if the property has been empty for more than ten years, then the self-builder can treat the project as a conversion and recover the VAT paid out.

Make sure you pay the right amount of VAT. You cannot recover VAT paid in error from the Excise.

Estimate your build costs

How much will your project cost? Unless you’ve built or renovated before, you may not have much of an idea of what to expect. What’s more, getting a good idea of what your project will cost is essential to making sure you can finance the project along the way, and that it will be viable for you in the long run.

So how do you find out? First of all, use this website. You can find cost details of hundreds of projects in the Self-build Projects section. Find ones which are similar to yours, including the build route, and take a note of approximate costs. Bear in mind that location, specification and the year of build will all be differentiating factors.

Secondly, you should use The H&R Average Build Cost Guide — which will give an accurate guess (if that’s not an oxymoron) of the costs/m² that you should expect. They are extrapolated from figures published and updated by the Royal Institute of Chartered Surveyors (RICS) for the use of surveyors estimating rebuilding costs.

Thirdly, you could use one of several estimating tools. Estimators Online does a labour and materials estimate (estimators-online.com); you can buy HBXL’s EstimatorXPress software package (hbxl.co.uk); and Easy Price Pro offers its New Houses & Extensions Estimator (easypricepro.com).

And, finally, you could use a quantity surveyor to give your project a work over. Some architectural practices have a qualified quantity surveyor in the office; if not, getting someone in will cost around £500.

Further reading:

• The Build Cost Calculator
• How to Build a House on a Budget
• Discuss build costs with other self-builders in the Homebuilding Discussions Forum