Build-to-rent development: Unlocking the opportunities and challenges
The global residential market is seeing a growing appetite for institutionally owned, professionally managed, purpose-built residential accommodation – otherwise known as build-to-rent or multifamily. A well-established asset class in the US, multifamily accounts for up to 25% of the $2 trillion USD institutional property investment – second only in size to office property.
The interest in this investment class is not limited to the US. In the European market, the multifamily asset class now accounts for 14% of total real estate investment in Europe and half of all real estate investment activity in Denmark, a third of the activity in Sweden, 23% in Finland, 22% in Germany and 17% in the Netherlands, according to international real estate advisor Savills.
Increased investment and international interest
One of the fastest growing markets for the build-to-rent model is the UK, with record investment rising 22% to hit £2.4 billion in 2017, according to CBRE. The UK development pipeline has grown fivefold in the past five years with nearly 20,000 units now built and more than 80,000 either in progress or planning. By 2020 investment in the UK build-to-rent sector is expected to hit £50 billion, as indicated by researchers at Knight Frank.
While UK investors such as Legal & General and M&G are particularly active, 41% of the investment came from investors in the US and Canada. Such international investors have seen the success of the more established equivalent multifamily model in their own regions and want to grasp the opportunities available in other emerging, less-established markets.
Finding potential in emerging markets
Other countries with more barriers to build-to-rent development still have a clear opportunity to build the market for this lucrative asset class. For example, ~40% of Australia’s population currently rent by choice and the proportion of households in the rental sector now equals the number of homes owned outright [footnote num=”1″]The Urban Developer. 2017. “Developer Backs Innovative Build-to-Rent-to-Buy Model” https://theurbandeveloper.com/articles/competitive-build-to-rent-model-emerges-in-melbourne[/footnote]. This creates a huge potential sector for institutionally owned residential properties for governments or developers who can come up with creative solutions to the existing barriers. For example, Mirvac has already forged a path with the engagement of UBS to launch a build-to-rent apartment vehicle with a potential value of AUD$750 million.
Understanding the opportunities:
The build-to-rent model presents a myriad of opportunities across global markets:
- Offers a long-term stable returns model
For investors, build-to-rent schemes offer long-term, index-linked income with lower volatility and good fundamentals. In established markets such as the US, multifamily property has a history of stable, long-term income returns with strong appreciation rates and cap rates anywhere between 4-10%.
- Delivers housing quicker and at a greater scale
Purpose-built rental has the potential to take pressure off the existing housing stock and meet some affordable housing mandates that are cropping up in global cities. This has been particularly successful in the UK at delivering a quick and easy solution to the housing crisis. Such schemes can be delivered faster and be let more easily than that of housing for sale. Investors will also often build larger schemes (i.e., implementing a 50-unit minimum in the UK) since they are more likely to find tenants than buyers for such property.
- Meet changing consumer housing needs
High housing prices and urbanisation across urban centres globally is driving the demand for rental units. Build-to-rent can provide secure, quality, long-term and professionally-managed rental accommodation in key urban locations that provide a financially viable alternative to ownership. For example, Toronto has one of the tightest rental markets and one of the most expensive homeownership markets in Canada. To meet the booming rental demand, there are 162 proposed rental projects across the GTA, which could add up to 34,054 units to the market.
Overcoming the challenges:
- High-equity financing models
Building and holding a development for rental typically means absorbing the land and development costs in favour of the long-term returns generated by rental units. As a result, traditional loan structures that are paid off upon the completion of certain stages or upon the sale of the units become less feasible. Developers must seek high-equity financing for such projects via forward-funding or joint ventures and partnering with asset managers who have expertise in the asset class.
- Legal restrictions & tax barriers
Government policies and tax structures have a huge effect on the immediate desirability of developing multifamily projects. In France, for example, a law passed in 2013 introduced tax breaks that are meant to encourage developers and investors to pair up to build new, purpose-built multifamily buildings.
Conversely, in markets such as Australia, the imposition of tax constraints, planning concerns and uncertainty around legislation create a barrier for developers, making build-to-rent uncompetitive relative to building for resale. In the meantime, regions and companies are creating hybrid and work-around models – such as the Communities Plus program in New South Wales and the Assemble Model by Make Ventures – to start to unlock the potential of build-to-rent.