Investment in pre-construction projects is very popular in the area. It is based on values increasing over time. What you reserve now at today's prices should be worth more when built.
You need a deposit, from 10% to 20%. In a nutshell, the idea is to invest $100,000 for a $500,000 condo today and sell for $750,000-$1,000,000 in 18-24 months when it is built. Though the market has significantly cooled down and a lot of these deals are falling apart, it is all about timing. When you buy at market low and sell at market high, you win. When you buy at market high, and you have to sell at market low, you at best not make money, and at worst you lose.  to go to Condominiums
PRE-CONSTRUCTION: MYTHS & REALITY
| Reservation Phase | When the developer plans a waterfront high-rise he has many hurdles to overcome, not least of which is financial. Financial backers want to make sure that there is interest in the project and require the developer to have reservations on a certain percentage of units before the project is given the green light. The developer needs pre-sales to secure the financing, so he has to offer units at earlier stage. In order to obtain financing, developers must prove that a demand exists for the proposed project. They create architectural renderings and floor plans, and begin to pre-sell units. Prospective buyers hold a "reservation" on a particular unit with a small refundable deposit, anywhere from $1000 to $10,000, which is placed in escrow. The "Reservation Agreement" is not binding for both sides. If the developer does not get the project approved the way they want, they can terminate the agreement and return the money. If the Buyer decides to walk away, he notifies the escrow agent in writing and gets back his deposit. The prices in the reservation agreement are not guaranteed. The developer has the right to adjust the prices. | | |
| Myth: | Because developer needs to get the financing he would give a deep discount | Reality: | The incentives are usually not that great, often limited to the customers, who bought in other projects of the same developer, and limited in time. The offering price could be available until the end of the first day of the sales, and then it goes up 5% or more.
Example: Ocean Sands was offered to preferred customers at 5% discount at the opening party at 5 P.M. on the Grand Opening. Next morning the price went to regular, and then the Developer raised the prices by a whooping $200,000 a unit. If there is a lot of interest, the market is so hot, that the project can be sold in one day. Why give discounts? Developers employ professional salespeople, who know the art of sales. They have their timeline, and they watch it very closely. If they are selling more units than planned, they would raise the price. Sometimes the developer has a group of investors who place bona fide reservations on all their units. They will then put the units for sale for higher price. This takes the developer seamlessly through the financing stage.
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| | Contract Phase | Once the developer has the required number of presale reservation agreements, and all the issues with the authorities are resolved, the Developer records the condo docs with the state. At this point you receive the Contract for Sale & Purchase along with a full Prospectus. You are required to come up with a down payment (usually 10-20% of the sale price), which in some cases can be in the form of a Letter of Credit issued by the bank. Florida law requires that prospective buyers of new condominiums d are given a 15 day "cooling off" period after signing the "hard contract" but after that you have a legally binding contract. It sets the price and the terms of your purchase. |
| Myth: | You can assign or sell your right (at a profit) before you go to closing | Reality: | The developer is using its own contracts. Usually, you can’t change anything. You either agree, or walk away. Be ready that the contract will not allow the assignment. You can still close the deal with the second buyer at the same closing table. It is simultaneous closing (sometimes called “Double Closing” or “Back-to-Back Closing”). Basically, you can’t sell (assign) and get your profit prior to closing. The money change hands at Closing. Sometimes developers will allow assignment after certain number of units is sold (90-95%).
Some Realtors suggest that you can buy a property in the name of an LLC, which you form for that particular reason. Then your LLC will have the right to a unit, and if you sell LLC, you can get the money as the proceeds from the sale of a company, where the buyer will keep the right to the unit. In this case you need to consult the attorney. |
| Construction Phase | Construction usually takes from 6 months to 2 years. Check the contract for the completion date. Do not be surprised that it can be delayed. You might be required to add another 10% either at start of construction, or at time of pouring concrete on your floor, depending on the developer. Usually, these funds can be used by the developer in the construction. During this period, if there are unsold units, you will likely see several price increases as completion nears. At any point, you can resell your rights to the unit and upon closing, realize the profit. |
| Myth: | You can start advertising the unit and get the Buyer prior to the completion of the construction | Reality: | The insurance policy, that the Construction Company has, prohibits anyone, who is not part of the Construction crew, on the site. You might have difficult time showing the property. When the construction nears the end, and the doors are locked, you will not have a key until the unit is ready for a walk-through right before the Closing. |
| Closing Phase | Once construction is complete and you have not assigned the contract, you will be expected to close on the unit. If you don't, you forfeit your down payment. For this reason, it is advisable to contact a lender and get a commitment letter from the Lender prior to completion of your unit, so that you can close if you do not have the Buyer, who could close on the same day as you are scheduled. You can extend the Closing date usually for 2 weeks, but this depends on the developer. You need to check who is paying what. In resales in Florida the Seller usually pays Documentary Stamps on the Deed, and Owners Title Insurance Policy. Developers often make the Buyer pay for that, or can chose to pay for one, and not the other. Doc Stamps are $0.70 per $100 of value, and Title Insurance can run about 1% of the Purchase Price. You might also need to pay 3 months of maintenance fee towards working capital of the Association, so your Closing Cost may be higher that you expected. |
| Myth: | At closing depending on your choice in markets, you can actually leave the table owning a condo with significant equity and some money in your pocket. Let’s assume the unit that you reserved for $299,000 is now priced $379,000 at completion. You put 20% of $299,000 ($59,800) down upon signing the "hard contract" (either by cash or letter of credit). You owe $239,200 + closing costs (approx $5,000). At closing your lender appraises the property at $379,000 and will lend you 80% of that or $303,202. You only owe about $244,200 as stated above, so you receive $59,900 + interest on your down payment. | Reality: | When you apply for financing, the Lender will order the appraisal. If this loan requires 20% down payment, the lender will loan either 80% of the appraised value, or 80% of the purchase price, whichever is less. Do not expect the appraisal to come higher just because the resale value is higher. Remember, at this time no sales have been yet recorded in the county, even if there are hundreds of units in MLS with incredibly high prices. These are not yet sales, and the appraiser may not use them. They use the County records and at that time there is nothing recorded. Be aware that it takes time for recording to be seen on the Internet. Therefore, if there were closings yesterday, the Appraiser may not see them for another month or longer. |
| Risks | As with any investment, there are risks in pre-construction purchases. The developer may be unable to complete the project and go bankrupt. If you invested 20% in the project, and the Developer could use 10% for construction, you may be risking your 10%. Real estate values may not increase as rapidly as you had hoped. If your intention is to sell or re-assign your interest before construction is complete, you still should be able to close yourself. The market may slow down. Though the values will eventually go up again, you might need to hold to the investment property for longer than you planned. If you can't keep up with the carrying charges, you may be forced to sell for less or lose the property to a foreclosure. |
| | Myth: | You can always sell before taking it into your own name | Reality: | Even if you can, don’t bet on that. 75%-78% of today's investors buy properties for resale. With many units on sale prior to Closing, the prices are at their lowest. Even if you sell, for example, for $30K more, it will be eaten by the closing costs and commissions. Holding the unit for 6 to 12 months usually increases your chances to greater return. Holding the unit for 12 months or longer also creates a better tax situation for the investor, as he/she would have to pay capital gain tax and not have the profit taxed as ordinary income. It is risky to use all your cash on down payments. If you are not able to close, you can lose your money. Therefore, it may be not a good idea to invest in multiple units in one development. The Closings come at the same time, and you are left with several properties to sell. If you invest in two properties and the Closings are 12 months apart, you might be able to sell one of your units and use the proceeds to close on the other one. You need time to close your first unit. The risk is in the fact that more and more people turn to investing in pre-construction. According to the studies in Miami, about 70% of condo buyers are investors. This is a very dangerous situation. There is no indication of the real absorption rate, if something goes wrong in the marketplace, it may be catastrophic. Often times the second purchaser is also an investor. If there is no balance between the number of units bought as investment and as primary residence, there may be a big surprise. Keep in mind that Lenders require the disclosure from the Condominium Association as to the ratio of investors and residents. It can make it difficult for a buyer that you find to finance the unit. Be aware that legislature in many states wants to look closer at flipping properties and there also could be changes. |
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