The differences between residential and commercial development lending has been long debated, however Development Finance Today has questioned experts why one may be preferred over the other.

Development Finance Today talked to those at the heart of development finance in order to find out the key differences between the two, along with which area they prefer to specialise in.

Director of Finance 4 Business, Russell Martin, described the difference between the two as vast due to commercial developments being far more complicated as there are many risks involved.

“Commercial developments are without doubt more difficult to fund,” said Russell.

“In today's market, lenders are more likely to consider funding a ground-up commercial development if there is a pre-lease in place with a tenant providing a good covenant strength.

“In the event that the development is speculative, the lender will have to consider the demand for the finished unit.

“If the unit is empty it will still be subject to business rates which can become extremely costly over a period of time with no income generated by the asset. This cost would become due from the lender in the event of repossession.”

Regentsmead Chief Executive, James Bloom, stated both are specialist fields and lenders must understand the nuances of both before funding.

“Commercial funding is usually yield and covenant driven whereas residential is much easier to fund on a speculative basis,” said James.

“They are completely different, there are similarities in terms of property funding but they need to be approached differently.

“With commercial property it is very important to look at whether there is a pre-let and the length of lease/quality of the covenant.”

Head of Communications at Omni Capital, Robert Sturges, believes the question has less to do with which is more difficult to fund, and more about the right expertise and risk appetite.

“It's perfectly feasible to lend in both sectors, but to do so successfully requires discrete skills applicable to each. Having a single lending department straddling both just won't work,” said Robert.

“The residential market is considerably bigger than its commercial counterpart, offering lenders a much wider choice.

“It is also generally better understood, largely because of our own personal experience with property. Crucially, residential more frequently presents 'bargains' or opportunities to invest in, or purchase property at, below-market-value price.

“But we should be careful about our definition of 'commercial' lending. Some would argue that the residential tag should be applied only to owner-occupier lending and not to investment lending, such as buy-to-let or development funding with immediate sale as the exit.

“For us, commercial lending means providing funding for property that is intended exclusively for commercial purposes, e.g. offices or factory space.”

Zed Lorgat of JM Financial also believes that experience is usually a key factor as to whether a funder will agree to lend.

“Commercial development funding can also entail that there are tenants or buyers in place. Route of exit will almost always be necessary to complete the funding,” said Zed.

“There [is] a wider choice of lenders available for residential projects, whereas for commercial projects the appetite can tend to be more for the commercial banks to fund.”

Victor Jannels of Atom Limited added: “It depends upon the individual deal and the nuances that sit behind it. Every enquiry is different and this relates not only to the property type but the individuals seeking to purchase too.

“Logically, a residential mortgage transaction should be simpler and usually is. However, regardless of commercial or residential, the property type, the client’s circumstances, the term and age will all play a part.

“That said, commercial developers tend to have more experience and understand the requirements of lenders and usually have their processes and plans already in place.”

When we asked our industry experts which area they preferred to operate in, the respondents swayed more towards residential development, however, Russell revealed there has been a rise in commercial development proposals this year.

“We have seen a huge upturn in development finance enquires over the last 12 months and interestingly the number of commercial proposals has increased disproportionately since the turn of the year,” said Russell.

“F4B are seen by many as true commercial finance specialists and choose to introduce this type of case to us as we do achieve great success in the area.”