As inflation, rising interest rates, tighter bank lending rules and higher building costs begin to bite, some property developers are facing the unthinkable – being unable to settle their purchases.
Bryce Town, a partner at Morrison Kent and convenor of the ADLS Property Law committee, says he knows of no actual defaults – yet. But inexperienced developers and first-home buyers who purchased off-the-plans are vulnerable in the current market.
Confronted with the prospect of being unable to settle and the consequences – crippling penalty interest and losing their deposits – developers are casting around for options, Town says. These might include bargaining with the vendor for more time or trying to set up special partnerships with private investors to finance their projects. And there’s always bridging finance – if you can afford the repayments and find a bank that will play ball.
“Some are going to be in a difficult position because they’re going to ask for further extensions, but the vendors are also going to ask for a further deposit,” Town says. If the deposit was $100,000, a vendor would probably want that amount again.
“So, it’s going to be challenging for those developers. The reality is, though, a lot of them will just walk away from their deposit and if they’re using a company with no other assets, you can’t sue them.”
If he were acting for the vendors, Town says he’d probably advise them to sell the property themselves – the traditional way to mitigate losses – then sue the defaulting developer for any shortfall.
Town concedes, however, that if the purchaser was a limited liability company with no assets, “it’s all a bit of a waste of time. It’s a bit like lawyers and leases. People aren’t that interested in personal guarantees these days. They know we’ve all got our assets in trusts, so they want bank bonds to get their hands on the money a lot quicker if things go wrong.”
There are other complexities. For example, young people who’ve bought apartments or townhouses off-the-plans with pre-approval from their bank are finding they no longer meet the bank’s stress test requirements, and their mortgage is declined. Developers see their pre-sales evaporating and, as a result, can’t complete settlement. So, they put the properties back on the market at a discount which discourages other purchasers in the development from settling at the full amount.
“There will be some blood out there and it affects a lot of people, not only the developer,” Town says. “There will be a lot of smaller law firms that are heavily reliant on conveyancing transactions who must already be hurting. Some of their clients, who tend to go for the cheaper prices, will be under some stress.”
Developers in the worst position are those who’ve started construction but cannot complete the project, so can’t get code compliance.
“So, we’re going to see quite a bit of carnage, I think, in some sectors. It’s a bit of a contagion,” Town says.
Litigation
Joanna Pidgeon, a director at Pidgeon Judd and a member of the ADLS Property Law committee, says her firm is seeing developers who purchased at the height of the market with indicative finance but are finding six to 12 months later that they can’t borrow as much because values have dropped, funding is twice as expensive and properties are harder to sell.
With some developers, she suspects this might be a cynical bid to renegotiate a price reduction.
Vendors, Pidgeon says, have decisions to make if their purchaser can’t settle. Do they sue for specific performance? Or cancel the contract and re-sell, then sue for any loss?
Even if the developer has purchased via a $100 shelf company, this will still have directors who have Companies Act duties not to enter into obligations without a reasonable belief that they can fulfil them.
“I think we may see people pursuing directors personally if they think they have been too nonchalant in entering into an agreement,” she says.
Right now, it’s too soon to tell if proceedings will ensue as the problem has arisen only over the past month. “And if you’ve had a decent deposit, say 10%, you may think you’ve been compensated enough but it depends on what the gap is on your resale price.”
Along with that “decent deposit”, Pigeon says vendors might want to seek extra security, such as personal guarantees from directors, if they’re selling to $100 shelf companies.
Risk reduction
Town has some risk-reduction advice for those purchasing off-the-plans. Rigorously check the quality of the build, he says. “Be very wary, there’ll be a lot of rubbish out there.” Ask where the deposit will be kept. It should be in a solicitor’s trust account. Find out if the bank will actually lend. And have a plan B if everything turns to custard.
If things do go wrong, Town advises to settle the purchase then either put the property back on the market or rent it out. Don’t move in yourself.
“That’s what I recommend for people who suddenly find themselves very stretched through loss of a job or an inability to sell their own house. Just suck it up for a while till you’re back on your feet.
Be prepared to do it tough if things go wrong and don’t expect the banks to bail you out. They won’t.”
0 Comments