The land development process is a departure from traditional exit strategies, but it’s a strategy worth considering, nonetheless.
Knowing how to develop land is attractive to investors for three unique reasons: it’s cheap, there’s not a lot of competition, and there are a lot of opportunities.
Developing land doesn’t need to be as complicated as many make it out to be, as long as you mind due diligence.
The raw land development process is often viewed as a complex investing strategy—one that only “experts” should consider taking on. While investing in undeveloped land is a complex strategy, beginners shouldn’t avoid it. In fact, I would argue that new investors can invest in raw land if they mind due diligence and are prepared for more work than what usually accompanies traditional exit strategies. If for nothing else, developing raw land simply comes with more steps.
There is no shortage of opportunity in the real estate industry as an investor. From investing in residential, multifamily and commercial properties, the real estate industry offers scores of options investors can pursue. One of the more under-utilized investment opportunities is raw land investing, and there is no reason to ignore it anymore.
Raw land development is the process of purchasing a parcel of land with the intent of either developing it and building on it, or holding onto it for long-term appreciation value. Raw land investing has an array of configurations, but will essentially provide a multitude of advantages from other types of investments; whether it be from selling the property, renting it out for passive income, or simply earning appreciation while performing little to no work.
The Raw Land Development Process: How To Develop Land In 6 Steps
The fact of the matter remains: undeveloped real estate has the ability to deliver the same consistent cash flow as any other type of investment opportunity.
Fortunately for investors, raw land is a limited resource, making it extremely valuable. If you purchase land in an area that is headed towards development and growth, there’s a chance your land can become worth even more.
Investors looking to develop raw land should mind their due diligence and thoroughly educate themselves on the market where they plan to invest. The best way to do so, is to pay attention to market trends.
If you can track the market’s cyclical movement, you will have a better understanding of when to buy. You must first examine the recent developments in your selected market. If there has been a recent surge in development projects in the area, it is likely that buyers will be looking for land. It is also smart to look at the growth in surrounding markets.
Now that you have an overview of raw land as an investment, we’re going to go through the raw land development process step by step:
Evaluate its economic feasibility
Determine the offer price
Find out what the land is zoned for
Secure your financing
Begin building within zoning laws
Market the land/property to sell
The first step of raw land investing is to determine its economic feasibility. Like any real estate investment, it’s critical to determine your desired return on the property before getting started. This is important because it will not only lessen the uncertainty of the market, but it will also provide a model of the costs versus profit aspect to your investment. Although the numbers will simply be an estimate, understanding the feasibility of your project—including the estimated costs, revenue and overall return—will better assist investors to succeed.
Once you understand the costs you’re likely to encounter—including what you should receive in return—you can better determine the offer price. It’s important for investors at this stage of the process to have contractors submit actual bids for the project. This will not only provide estimated costs for the project, including the numbers of what you’re expected to spend, but also a max offer price.
Stage three of raw land investing deals primarily with the design of the land. In essence, this pertains to what type of property should be constructed on the parcel, including taking a look into local zoning codes.
Depending on the type of property you’re looking to construct, or how you intend to present the property to buyers, zoning will play an important role in how you proceed. Zoning codes will essentially determine what types of properties—whether single-family, multifamily, condominium or commercial—can be built on the lot. As an investor, this could ultimately hinder your investment approach. When getting started in raw land investing, it’s vitally important to understand the zoning laws in the area.
Like all real estate investments, the way in which you intend to use the property will dictate the type of financing you obtain. The one aspect investors should care the most about is the loan-to-cost ratio (LTC). In essence, the LTC is the amount of money the lender will provide for the project, which will generally depend on the type of construction and use of the property. Although the majority of lenders will only provide a percentage of the overall costs (generally between 80-85 percent), owner-occupied homes are eligible to get standard bank financing.
The second-to-last stage of the raw land development process is construction. In most cases, this will consist of horizontal development—like grading for roads, curbs and utilities—and eventually building the property from the ground up. One element investors also need to be aware of is the construction financing aspect of the project. Generally speaking, contractors will be paid in increments of duties performed, including phases of the project. In many cases, construction lenders will hold back approximately 10 percent of the construction loan until the project is completed.
The final step to the land development process is marketing. This is where stage-one is of critical importance. Researching the neighborhood, the market price, and demand for rentals will pay off when determining your marketing strategy. Investors should also have a marketing plan in place to attract buyers to the property. This may include working with a realtor, online listings, the MLS, advertising in newspapers, and even social media.
Why Buy Land? Top 5 Benefits Of Developing Land
The attraction to the land development process is easy to see: this undeveloped asset not only costs less to purchase than a developed lot, but also is generally less expensive to own over time. There is more to like, however: it offers appreciation potential whether or not the vacant area is improved upon. While there are many risks and rewards in real estate investing, raw land is one of the more secure investments to make. To gain a better understanding of the investor appeal, here are the five main advantages to raw land development:
Raw land investments are typically less competitive than residential real estate
Sellers of raw land investments can be more likely to finance
Purchase price and holding costs are lower with raw land
The appreciation potential can remain high even with less than stellar market conditions
There are countless development opportunities for raw land
Unlike regular real estate investments, which are currently experiencing higher-than-normal competition in most markets, raw land has virtually no competition to deal with. In most cases, investors are looking for established properties, such as residential or commercial properties that provide an immediate source of income. Unless optimized to do so, undeveloped land will generally not earn income on a regular basis.
Opportunity For Seller Financing
Raw land investments award owners more opportunities to use seller financing. Since traditional lenders (i.e. big banks) are often more hesitant to loan money for vacant land, you—as the owner of land—get to act as the bank. If someone is in the market for raw land and can’t acquire a loan, you can lend them capital but charge them higher interest rates. This is a win-win situation for every party involved.
In comparison to acquiring a developed property, buying raw land is relatively inexpensive to acquire and own. It not only has minimal carrying costs, including lower property taxes and insurance, but maintenance costs are modest. In fact, performing maintenance on undeveloped land isn’t required, as a vacant lot can be purchased and held on to until appreciation rates reach a level where it can be sold for a profit. In addition, undeveloped land owners are generally highly motivated to sell because they are typically absentee owners with little-to-no emotional connection to the property. That said, the right property can provide immense upside for investors with a strategy in mind for the land.
Arguably the biggest benefit of investing in raw land is its appreciation potential. Even in times of economic uncertainty, raw land is a hard asset. Since land is such a scarce resource, it will always be valuable, even if market conditions are rough. Raw land will always be needed, regardless of whether or not it holds economic value. On the other hand, if the economy is thriving, there is a higher probability that your land’s value will appreciate. As land continues to be developed, vacant property becomes harder to come by. Consequently, the vacant land that is left over becomes more of a commodity, especially if it’s in a popular area.
As an investor, the allure of raw land investing is in the opportunity it holds. Aside from earning long-term appreciation, the land can be developed into further possibilities, like a single-family home, multifamily property, or condominium. Although zoning and building codes may limit an investor’s opportunities depending on the location, raw land offers the ability for investors to choose and develop their own investment path from scratch.
5 Pro Tips For Land Development Investors
Raw land development is not for the faint of heart. The process can require extensive time and research, especially when compared to a traditional residential investment. However, as I mentioned above, the right preparation will make a raw land investment well worth it. Read through the following tips on developing raw land before you get started:
Learn To Calculate Holding Costs: If you are making the jump from one investment strategy to another, make sure you understand the differences in holding costs. Building and zoning permits take time, meaning it may be a while before your raw land investment begins generating its own cash flow. Make sure you are prepared for the “in between” stages by accurately calculating the holding costs associated with raw land, particularly when it comes to loan repayments.
Keep Your Finger On The Market Pulse: The most savvy investors will know if and when to start a raw land development, and with the right research there is no reason you can’t either. Conduct a full market analysis before entering a raw land deal and monitor conditions over time. It is even a good idea to pay attention to other land development projects in the area. By doing so, you will know when to start (or finish) your raw land development.
Understand The Potential Risks: Despite the many benefits of raw land developments, this strategy is not without risk. There are several worst case scenarios that can and do happen. For example, you may start a development project only to discover it is actually located within a flood plain. The only way to mitigate potential risks such as this is to complete as much research as you can before entering a deal. That way you are prepared for any obstacles you do encounter.
Watch Out For Time Consuming Zoning Issues: Depending on your plans for the land, it may need to be rezoned. This requires a fair amount of paperwork and in most cases: time. The best way to avoid this waiting game is to plan out what you want to do with the property before you actually purchase it. This will allow you to make an informed decision either to commit to the zoning process, or move on to another investment. Let me be clear: rezoned developments can be highly lucrative, as long as you account for the process beforehand.
Work With Professionals: Real estate investors can’t know everything, or be in every place at once—no matter how much they might want to. When it comes to land development projects it is crucial that you have a reliable, skilled set of professionals to help your project along. This applies to anyone from construction workers to contractors to project managers. Raw land development requires a big team, so make sure yours is as good as it can be.
If you are looking for a profitable real estate investment strategy, it may be time to consider a raw land development. Investing in land has a number of advantages over other investing opportunities. Follow the steps outlined above if you hope to realize any level of success with raw land development. Separate yourself from the competition and add a raw land investment to your portfolio.
Have you ever thought about developing raw land? What step would you like us to go into more depth on? Please feel free to let us know in the comments below.