Lenders’ preference for luxury units a blow to housing supply hopes
Sparklingly landmark views from 201 & 202/99 Spring Street, Melbourne. Photo: Kay & Burton

Lenders’ preference for luxury units a blow to housing supply hopes

In a blow to the Albanese government’s plan to deliver 1.2 million new homes by 2029, cautious lenders are shunning larger, more affordable housing projects aimed at first home buyers and focusing instead on funding smaller, luxury developments with bigger profit margins, according to leading commercial mortgage broker Stamford Capital.

The firm’s managing director, Peter O’Connor, told The Australian Financial Review it had a pipeline of projects on its books with a gross end value of $5 billion, but not one of them was an affordable development.

“Feasibilities just aren’t stacking up for more affordable developments given high land prices and increased construction costs in our major capitals,” Mr O’Connor said.

Instead, lenders are more comfortable funding boutique projects aimed at the wealthy downsizer market where profit margins are far greater and the risks are lower.

The federal government’s ambitions to build 1.2 million new homes over the next five years to ease a housing supply crisis are heavily reliant on the delivery of large-scale apartment projects.

Of the 240,000 homes needed to be built every year between now and 2029, about half will need to be apartments.

However, a decision by lenders to focus on providing construction finance for smaller projects at the luxury end will make it even harder for developers to get bigger projects to the construction phase.

Response to insolvency surge

This shift in lender appetite is being driven by a more cautious approach to construction finance, Stamford Capital’s latest Real Estate Debt Capital Markets survey found.

  • Related: House builders can’t compete with states’ cash splash
  • Related: Access the digital version of the May 2024 leasing feature
  • Related: Demand for housing and sheds to drive Frasers forward

Based on a survey of more than 100 lenders including banks, non-banks and super funds, it found that eight out of 10 real estate financiers had elevated their due diligence processes in response to a surge in builder insolvencies and high construction costs.

Cory Bannister, chief lending officer at Brookfield-owned La Trobe Financial, said the lender always adopted a comprehensive due diligence process.

“I’m sure it will come as no surprise that there has been a heightened focus on the assessment of construction risk, builder capability and solvency, specifically in light of the well-publicised challenges facing the construction industry generally,” Mr Bannister told The Australian Financial Review.

He said that like many other lenders, La Trobe’s target market was the small- to medium-scale suburban infill market.

“This does tend to favour boutique projects that deliver high-quality stock, whilst generating good returns for developers. We see this as an important and enduring opportunity,” he said.

Focus on contractor risk

In NSW, Stamford found that a third of lenders were taking the state’s iCiRT builder and developer ratings into account (or planned to do so this year) when assessing loan applications. Of those lenders using the ratings tool, 43 per cent had rejected a loan because of a poor iCiRT rating.

Lenders were also asking to see the financials of builders assigned to projects, a request that was generating a lot of pushback, Mr O’Connor said.

“Lender due diligence has picked up across the board. Contractor risk is the key risk. Previously, the concern was about the level of pre-sales,” he said.

Stamford Capital’s Peter O’Connor.
Stamford Capital’s Peter O’Connor.

As a result of this increased caution, finance application times had blown out by 53 per cent to about 220 days (from the time a developer engages a broker to finance being approved) compared with two years ago, Mr O’Connor said.

“Heightened due diligence is being experienced across the board, within both banks and non-bank lenders, and causing significant delays in loan applications,” he said.

While luxury projects were also struggling to achieve pre-sales as they waited for Baby Boomers to sell their homes before buying, prices and profit margins in this market remained elevated.

But developers delivering more affordable housing were not moving forward with viable projects because profit margins were not high enough given the heightened risk from construction prices and builder collapses.

According to the Stamford survey, almost half of lenders perceive the elevated cost of construction to be the biggest barrier to affordable housing delivery.

This is unlikely to improve, with 39 per cent of lenders surveyed by Stamford expecting construction costs to increase further in the next 12 months.

Despite the increased caution, the Stamford survey found that appetite to provide credit was high: 90 per cent of lenders surveyed planned to increase their loan book.

This appetite was especially high among non-bank lenders, and two-thirds of them said they would increase their construction lending this year.

“There is a massive appetite to lend, compared with this time last year. The market is very liquid,” Mr O’Connor said.

“In 2023, some non-banks were really struggling for backing, whereas now there’s an insatiable thirst in the private market for credit. This means non-banks now have a lot of funds they want – and need – to put to use.”