Build-to-rent development finance: funding the build and the hold

Build to rent development finance is the debt that pays for a purpose-built rental scheme, from buying the site to the point where the finished homes are let. GOV.UK's planning guidance describes build to rent as a distinct asset class within the private rented sector, and says schemes would normally remain in the rental sector, under common ownership and management, for the long term.

That long-term hold changes the funding. A build-to-sell scheme repays its development loan from sales. A build-to-rent scheme has no sales, so the development loan has to be repaid by refinancing onto investment debt sized on the rent. Our guide to development finance covers the development loan itself: staged drawdowns against a build programme, with interest usually rolled up and repaid at the exit.

1. Site purchase. Often with a land loan or a bridge, or the first drawdown of the development facility.
2. Construction. A development loan, drawn in stages as a monitoring surveyor certifies the work, sometimes topped up with mezzanine debt.
3. Lease-up. The homes are let. Interest may still be rolling up, so the development loan needs enough term and headroom to cover this period.
4. Stabilisation. Occupancy and rent settle at a level the term lender can rely on.
5. Hold. The development loan is repaid by a term loan or investment facility, sized against the rent, or the completed scheme is sold to an investor.

Larger schemes are often forward funded instead: an investor agrees before construction to fund the build and own the completed scheme, which removes the refinancing step for the developer. Smaller developers more often use a development lender and then refinance.

• Planning permission, the section 106 agreement and any conditions.
• A cost plan and programme from a quantity surveyor, with a contingency.
• A building contract, often fixed price or design and build, and the contractor's track record.
• Your development experience, and the professional team.
• Your equity in the scheme, and where it comes from.
• An appraisal showing the end value as a rental investment, not as unit sales.

The National Housing Bank, the government's housing lender, shows the shape of development lending in its published terms for smaller housebuilders: loans of £250,000 to £200m on schemes of at least 5 homes, at up to 90% loan-to-cost and typically around 80%, a typical term of 3 years, an interest margin of 3% to 7% capitalised quarterly and a 1% arrangement fee, lending senior and mezzanine only. Its page for smaller builders does not mention build to rent, so ask whether a rental scheme fits. For medium and large schemes, its structured finance page lists build to rent among the sectors it lends to, with senior and mezzanine lending.

If the senior lender will not go high enough on cost, a second-charge lender can close the gap. Our guide to mezzanine lenders lists UK lenders that publish mezzanine, stretch senior or high loan-to-cost development debt.

Planning obligations change the rent a scheme can earn, so they change how much a term lender will lend. GOV.UK's build to rent guidance says the policy requires a minimum rent discount of 20% for affordable private rent homes relative to local market rents, and that 20% is generally a suitable benchmark for the share of affordable private rent homes in a scheme, maintained in perpetuity.

The section 106 agreement should also include a clawback mechanism if affordable homes are withdrawn, and local authorities may set a covenant period during which the market rent homes stay in rental tenure. Lenders will read these terms closely, because they limit how and when the homes could be sold.

Stabilisation is the point at which a scheme is let and its income is steady enough for a term lender to underwrite. There is no single legal definition. Each lender sets its own test, usually a level of occupancy held for a period, with rents in line with the plan.

The term lender then sizes the loan on the net rent: rent collected, less voids, management, maintenance and other running costs. It usually applies both a loan-to-value cap and an interest cover test, so the smaller of the two decides the loan. Our guides to loan-to-value and interest cover explain both measures. For larger purpose-built rental schemes, the National Housing Bank lists the Private Rented Sector Housing Guarantee Scheme, which offers guaranteed lending to support the purpose-built private rental sector, among its existing programmes.

Smaller rental schemes held in a company are often refinanced onto buy-to-let or commercial mortgages rather than an institutional facility; our guide to buy-to-let through a limited company covers the smaller end.

Capzy is a credit broker, paid by the lender. We introduce developers to development, bridging and term lenders whose criteria fit the scheme. You can check your eligibility with a soft search that does not affect your credit score. Any offer is subject to status and lender criteria, and Capzy does not give legal, planning or financial advice. See our construction industry guide and the other types of finance for related options.