Ep 278 – Rookie Mistakes To Avoid In Property Development

Introduction

Hilary: Hello and welcome to the Property Mastermind Podcast, episode 278. Today’s a little bit different. After more than 277 episodes, the same questions keep coming up. So we’re going back through the archive for our best answers on the rookie mistakes, the things we see most. I’m going to ask the question, and you’ll hear the answer straight from the episode it came from.

Hilary: You may have only jumped in today, and the best thing you can learn is sometimes something you’ve already heard more than once. So hopefully you find this format a bit of fun. We might do a couple of these, so let us know what you think. Send me an email or drop a comment below. So I’m going to ask Bob a few questions, and here we go.

Bob’s own rookie mistake

Hilary: Bob, what was your own rookie mistake back when you were learning it all on your own?

Bob: I didn’t even understand property cycles. I thought the market was always the same. When I entered the market, I thought, that’s the property market. I didn’t realise it ebbs and flows, that values go up and the market can get overheated and you can have corrections. I didn’t realise how interest rates fluctuate and how products are affected. When I was starting out, my projects were land subdivisions. My first was a four-lot subdivision. A couple of projects in, I thought this was going to go on forever. The way I was going, I thought I’d be retired at 30. I must be pretty clever, why doesn’t everybody do this? But it came home to roost, because that was on the Gold Coast, one of the most volatile markets there is. I found out how cycles can change, and I spent two years fighting my way out of a project, made a very meagre profit, and survived. I was just a few projects in, but that’s how naive I was.

Hilary: What did surviving mean for you? Were you married with children by then? Was that when you had to take on extra work?

Bob: It was. Interest rates went up and sales disappeared. It was very hard to sell vacant land, and hard enough to sell a house. Just to keep up with the interest, I needed a lot more money than I had. So I went out and bought a manufacturing business, totally outside what I was doing, that had the potential to grow faster. I went from one employee to nine really quickly and marketed my products hard. It became very profitable, but the bank sucked all the money out of me. At least I survived. Then I built on every block in that subdivision, one at a time, out of my spare funds and whatever borrowing I could squeeze, because I could sell houses on the land but I couldn’t sell the vacant land. It made me realise that if things get tough, you can’t rent out a block of land.

Skipping the right structure and accountant

Hilary: Bob, what happens when somebody skips the right structure and the right accountant on their first project?

Bob: I had a discussion once with somebody I knew. They’d done a spec house: bought a block, built a house and sold it. We got talking about tax, and I asked what entity they’d used. They’d used their own names, because they didn’t know any better. They’d never had an investment property. So they paid personal income tax, which was a lot worse than if they’d used another structure, a trust or a company. Then I asked how they’d dealt with the GST, and they said, what’s that? They would have needed to register for GST, because it was a profit-making enterprise and they went in with the intention of making a profit. They said that’s only for big developers. I asked where they got that from, and they said, our accountant. That’d be one of the bottom rung accountants who does nothing more than tax returns.

Hilary: So buying in your own name versus a structure has a different implication for GST?

Bob: Not for GST, for income tax. They blew it two ways. They paid more income tax than they should have because they did it in their personal names, and they didn’t pay the GST that they should have.

Commercial broker, not your home loan broker

Hilary: Why talk to a commercial broker, and not your home loan broker, before you look at a single site?

Bob: A retail finance broker typically helps you get a home loan, or maybe an investment property loan. A commercial finance broker is that plus. They understand commercial finance and property development finance, and that’s who you need to talk to. They look at your personal financial circumstances and come up with a dollar amount you could afford to spend on a project, how much you can borrow against what you’ve got, maybe using other property as well. Then you know you can do a project worth this much. It could be a two-lot subdivision, a three-lot, a duplex, or three or four townhouses.

Hilary: It’s really important to know that before you head off. When people don’t, they’re stuck. They run around like a chook with its head cut off and get nowhere, and they create a lot of drama for other people, real estate agents and finance brokers as well.

Bob: At its worst, I’ve seen people sign unconditional contracts when they couldn’t come good with the finance. They forfeited their deposit, and technically they can even be sued for specific performance. It’s not something you want to muck around with.

The research mistake when choosing your patch

Hilary: What’s the biggest research mistake people make when they choose their patch?

Bob: People jump in without doing the right research: the market analysis, what the market wants, and due diligence.

Hilary: Is there mining subsidence in the area? Or trees: it’ll be all right, I can just lop that down. Well, not necessarily.

Bob: Not without a fine, and the fines can be pretty heavy. It depends a lot on local legislation, so you have to be careful there. When you choose the patch you’re going to develop in, you have to research it thoroughly, including the product. You might be thinking of doing apartments, but is there a demand for apartments? Are there too many coming through? Should you be looking at townhouses, or small subdivisions and building houses? Even the choice of product within an area matters.

Never gamble on due diligence at auction

Hilary: Why should you never gamble on your due diligence, especially at an auction?

Bob: You have to do your due diligence before the auction, work out what the property is really worth, and not go over that.

Hilary: Like the mining subsidence story we’ve told on the podcast. He was running out of time, desperately wanted the site, and took the gamble before the report had come back. It wasn’t okay. He was hoping to get five townhouses and ended up with none. Imagine going home and telling your husband or wife that you’ve bought that property.

Bob: I spoke to a guy once who’d bought a property that floods. He didn’t realise at the time. It goes under water all the time, and you can’t build anything on it. So do your due diligence on everything, including flooding. It matters most at an auction, because normally it’s a 10 percent deposit and an unconditional contract on the fall of the hammer. There’s no backing out. Your head’s in the guillotine, so it had better work.

The feasibility check that stopped a bad deal

Hilary: Have you ever saved somebody from a bad deal just by checking their feasibility? To be honest, this happens a lot.

Bob: At one of my workshops, a fellow came up in a break and said he was doing a nine-townhouse project in a particular suburb. I knew the suburb, and it’s hard to make townhouses work there because the sale prices are so low. It costs you the same to build a townhouse in a low-priced area as it does in an expensive one. That’s a big takeaway: in a low socioeconomic area, sale prices are so low it’s very hard, if not impossible, to make a profit. He was due to go unconditional the next Wednesday, so I offered to look at his feasibility. I went straight to the big numbers. His sale prices were close, maybe a fraction optimistic, and he’d probably paid a bit much for the land. Then I could see why it worked on paper: his build cost was way too low. I asked where he got it from, and he said a mate. I asked if his mate was a builder or a quantity surveyor. No, he’s a dentist. That construction price was five or six years old. When I put the real number in, the thing barely broke even.

Hilary: And the point I like to make is that he never would have got it financed. He would have been stuck with a piece of land and no way to fund the construction.

Bob: Then you don’t have a development site, you just have a piece of land. It was a larger block with an old house and no development permit. He would have got his permit for nine townhouses, then gone to the financier for construction finance, and that’s when the wheels would have come off. They’d have sent him to a valuer, the valuer would have put the real numbers together, and it would have quickly shown the deal doesn’t stack up and doesn’t make any money. He’d have been stuck with a lemon.

Hilary: And that’s what we call a wood duck.

Too much time or too little?

Hilary: Do people usually allow too much time in their feasibility, or too little?

Bob: Most people simply underestimate the time a project takes. I see that far more often than the other way. It’s a lack of understanding of all the components. Say you’re getting a development permit for some townhouses, and your town planner and architect say it takes about six months to go through council. So in your feasibility you allow six months. But that’s six months from lodgement. What about the lead-up? You need a survey, then the architect’s concept designs, often three stages of design development before you have the design you want to lodge. The landscape architect needs the architect’s plans, and the town planner needs both to complete the report.

Hilary: And we don’t even consider the human element. Someone’s always on time, and then something happens in their life and it slows down. Consultants have families and things go on.

Bob: Or they take on more than they can deliver. In that example, it could be two months just to get ready to lodge, and it wasn’t accounted for. It’s the same once you have your building permit. Some people allow a few weeks to get a builder started. It’s more than that. The builder sends everything out to suppliers and subcontractors for pricing, and you’re only as fast as the slowest price. If you’ve got three quotes, you have to compare them, talk to the builder, and prepare a contract. Some feasibilities have the builder starting two weeks after the building permit, when it’s more like two months.

Hilary: I often see time frames too short rather than too long.

Choosing a builder on more than price

Hilary: What’s the rookie mistake people make when they choose a builder?

Bob: Don’t always go for the cheapest builder. The cheapest could still be good, but don’t decide purely on price. While you’re in the approval process, getting your development permit and building permit, that’s when you should be out talking to builders, because you’re not far off needing one. Look at their jobs, visit them on site, get referrals, and get to know a few so they can quote as soon as you have your approvals. Do good due diligence on the builder as a person, not on the car they drive or the shoes they wear. Communication matters too. When people in our mentoring program are getting prices from three builders, I ask what the communication has been like. I’m not even interested in the price yet. If a builder takes a day or two to return calls, that’s not good. If they return calls quickly, explain things and have been really helpful, that’s a really good start. They might not be the cheapest.

Hilary: The rookie mistake is choosing the wrong builder, but a lot goes into choosing the right one. How do they communicate, have you talked to people who’ve worked with them, and what was their experience? Sometimes people are nice when you first meet them and don’t turn out to be that nice. We’ve all seen it.

Designing for yourself, not the market

Hilary: What happens when a developer designs for themselves instead of the market?

Bob: I met a guy once at an event where I’d been asked to speak. He was an old farmer who’d sold his farm and had quite a bit of money, and he was doing a fairly large project, about 20 townhouses. He was so excited, and he showed me his plans: two-storey townhouses, three bedrooms, one bathroom and big balconies. I asked who did the design, and he said a building designer, but it was all his thoughts, everything he wanted. There was a big covered balcony downstairs and another huge one upstairs. He said he’d come off the land, where they had verandas on four sides and spent so much time out there. He was recreating his old life, and covered balconies are under full roof, so they’re expensive and you won’t get your money back. And only one bathroom in a three-bedroom, two-storey townhouse, no ensuite. He said, you can only use one toilet at a time, why would you want two? The rooms were oversized too. They were big enough you could have made them five bedrooms, or added an ensuite. Everything he wanted, he was trying to bring to the city and make people buy his dream.

Where emotion costs you money

Hilary: Where does emotion sneak in and cost new developers money? Someone buying a house is making an emotional purchase. Buying a development site is not. When you fall into that emotional category, because you can see it and feel it and you’d live there, it’s a slippery slope. Treat the development as a factual, non-emotional piece of work. It has nothing to do with how you feel or how you’d want to live.

Bob: I’ve seen people get over-optimistic. They want the deal at any cost, so they inflate their sale prices and deflate their build costs. Even on deals that go ahead, the standard of finish and fittings has to be what the market wants in that area. I’ve had to say to people, are you going to live in this? No? Then stop putting in expensive things you won’t get your money back on. You’re overcapitalising because you’re carried away emotionally and want it to look Instagram-worthy. That can cost you. Be real about the market, understand it, and match the standard of finish to it. Don’t get emotional about it.

Bob’s mistakes choosing consultants

Hilary: Bob, what did you get wrong when choosing consultants in your early days?

Bob: I probably went too much on price. I was focusing far too much on money and not enough on the quality of the work. Price is what you pay, value is what you get. Sometimes I just chose the cheapest consultant, and they weren’t always the good ones. Another mistake was becoming friendly with a few and automatically giving them the next job, instead of keeping friendship separate from the professional side. You can mix them. My lawyer has been a good mate for about forty years. But get the best consultant you can. We’re doing that right now with architects on a particular project. Certainly not the cheapest, but we’ve seen the quality of their work and we need it. If you had a brain tumour, you wouldn’t seek fee proposals from brain surgeons and push for the cheapest. It’s really important in property development too. That doesn’t mean going to the overpriced ones. But I was driven by the dollar, and that’s a regret now. I got bad service on some things that could have been done a lot better.

Hilary: That happens to everybody. We all make mistakes like that, and we learn from them. And don’t necessarily choose your mates.

Where to find the full episodes

Hilary: That’s it for today. If you want the conversation behind these answers, the full episodes are in the show notes. We’re great at helping people learn how to do property development properly, and we make sure you actually do a deal. If you’d like to talk to somebody on the team about how we may help you, reach out. We also have our masterclass coming up, and we’d love you to join us. It’s full of great content and you’ll learn loads. I’ll catch you next week. Bye for now.