By its nature, a real estate deal is a very complex transaction, and, above all, it is a high-value transaction – purchasing a property of any kind requires a significant investment.
The importance of the capital is much greater in the world of real estate deals – the transactions are carried out on different scale, and capital is the fuel that powers the investor sector of real estate assets.
Financing real estate deals – a mission critical process
We cannot overstate the importance of financing in real estate:
Financing enables the actual execution of the transaction – the main reason for financing in real estate transactions is the ability to execute the purchase transaction – usually the investor or buyer completes it by financing the total cost of the transaction and at a certain level reduces the risk to its shareholders’ equity. Financing enables flexibility in the execution of payments according to the structure of the transaction and reduces financing expenses in accordance with the payments schedule in respect of the transaction.
Careful planning and calculation of the financing of real estate has a significant impact on the profitability of the investment. The ability to plan and calculate the amount of financing required for proceeding with transaction affects the ability to generate profit. Miscalculating the cost of financing may endanger the cash flow over the life of the investment and significantly reduce the yield as a result of higher financing expenses. An incorrect assessment of the value of the asset may result in a mistaken calculation of the financing ability and its cost, thereby adversely affecting the mix of loans and capital invested.
Assignment of the asset to the financing party – the higher the level of financing the level of the lien and the quality of the collateral required, the higher the cost of the transaction. The need to invest in insurance and in the types of charges makes it difficult to reach the expected yield targets.
An inappropriate financing combination – a misunderstanding of the structure of the real estate transaction, cash flow and the overall cost structure, may cause the type of financing for the transaction to be unsuitable for the structure of the transaction and the ability to meet the loan repayments. Financing based on periodic refunds rather than balloon mortgages or variable interest financing or changes in cash flow may result in failure to meet repayment dates and need for alternative financing or refinancing to meet the terms of the original loan
Financing is a leveraging opportunity to expand – financing enables the investor to leverage his equity through additional capital from the financing body. Thus, the financing allows the investor the ability to execute a larger real estate transaction with a greater profit potential than was not possible only through equity.
Performance flexibility in real estate transactions – The availability of financing for real estate activity enables the types of investment such as FLIP – acquisition of an asset, its improvement and then performing a rapid sale. For these deals, financing enables the execution of high-value activities such as the purchase and renovation of an asset in a relatively short period of time, thereby enabling entrepreneurial activity of quick real estate transactions.
Financing as a leverage for entrepreneurship – financing is a key tool for entrepreneurs who purchase land and are interested in starting a construction project. Through financing, the entrepreneur can enter into land acquisition, planning and marketing processes before beginning actual sales and generating cash flow from the sale of the apartments or buildings.
Proper understanding and planning of the financing element in a real estate transaction significantly reduces the level of risk in the transaction, makes it possible to calculate profitability and get better understanding of the structure of the cash flow and the income from the project. It also allows better analysis of profitability of the deals, and the ability to adjust investment and project to changing market conditions. Studying, understanding and receiving relevant professional advice regarding the financing aspects of a real estate transaction and understanding the significance of various types of financing is critical to the performance and success of real estate transactions in Israel and abroad.