The process of developing real estate in India involves a large amount of capital and is governed by multiple regulations. There is much investment required by developers during all phases of a project (land acquisition through to site completion). As a result, project funding (or construction finance) is a critical component for developers, as it provides them with a means to secure approved financing.
In the past, when developers obtained project financing, the funds would generally come from traditional bank loans; whereas, in today's market, there are many different structured financing alternatives available for developers. As such, there has been an increase in both the diversity and discipline of funding for the real estate development industry in India.
What is Project Finance and Construction Finance in India?
Project finance in India means that the lender will look at what revenue an asset is expected to generate in the future when determining whether to fund a construction project. Therefore, lenders also assess the viability of the project before they approve the funds for it.
Construction finance is a specific type of financing that is used by a builder to construct a residential or commercial building. A builder typically uses a construction loan, and these loans are typically disbursed in phases, according to how much progress has been made on the construction project.
In India, several types of lenders, such as banks, NBFCs, and housing finance companies, provide loans for the construction of properties, though they all conduct a stringent amount of due diligence (compared to other types of financing) based upon prior experiences in the sector.
Why Project Funding is Crucial in Indian Real Estate?
Timelines and regulatory approvals play an important role within the Indian real estate sector; delays in any of the funding can directly impact the time required to complete a project and whether it is completed on time.
There are many reasons why real estate developer funding is very important:
- A large amount of money needs to be paid before land can be acquired, especially in cities such as Mumbai, Delhi NCR, and Bangalore.
- Real estate developers need to obtain regulatory approvals to construct buildings, including obtaining approvals from RERA and applying for approval from local authorities.
- Costs for constructing buildings, such as labour and materials, require funding.
- Marketing and selling costs of buildings have to be considered.
- Working capital needs of real estate developers necessitate funding.
If developers are unable to secure proper financing, then their projects will be delayed or may become dormant.
Types of Real Estate Funding Options in India
Developers in India often rely on multiple funding sources based on their project's scale and financial stability.
1. Loans through Banks and Non-Bank Financial Companies (NBFC)
Banks and NBFCs provide traditional construction financing for developers.
The following loans are the most typical for constructing an Indian building.
- Term loans for building
- Structured project financing
- Loan secured by property
2. Private Equity and Institutional Fundraising
The majority of well-established developers reach out to private equity and/or institutional entities in search of funding.
The three main funding roles for developers are as follows:
- Equity is involved in structures
- Collaborations involving landowners
- Structured debt financing
The above functions now comprise a huge component of real estate developer funding in India.
3. Customer Pre-Payments (In India, developer pre-sales are critical)
- Developers acquire upfront deposits from purchasers.
- Developers create payment plans based on projects' completion timelines.
Developers are obligated to deposit pre-sale proceeds into the designated escrow account until project completion in compliance with the RERA regulation, providing additional confidence to purchasers that their funds are properly accounted for.
4. Equivalent Alternative Real Estate Financing Methods
Real estate developers in India now have more financing methods available than in the past. These financing alternatives are as follows:
- Real estate debt funds
- Alternative investment funds (AIF)
- Co-development agreements
Since the stricter co-development agreement standards have been enacted, there have been more options for financing available to full-time developers in India.
Eligibility for Project Finance for Developers in India
Securing financing for developments in India can be very challenging. Lenders have strict requirements for the projects they choose to finance. The things that lenders look at include:
- Developer's Experience
- Developer's Financial Position
- Developer's RERA Registration
- Sales Potential and Market Demand
- Project Location
- Project Feasibility
Since RERA has been implemented, lenders are prioritising developers who are well-established within the market and who have delivered successfully upon past projects.
Risks in Project Funding / Construction Finance in India
Even with growth, the sector continues to be subject to some risk.
The following types of risk have been observed:
- Delays in projects as a result of approval processes
- An excess of supply of units results in less cash flow.
- Lending at a high rate of interest.
- Changes in regulations
- A reduction in economic activity
In light of previous non-performing assets (NPAs) associated with the real estate industry, lenders are now exercising caution when lending for construction projects.
Tips for Developers to Secure Project Funding in India
To boost the possibility of obtaining funding, developers should:
- Make certain all required approvals and RERA compliance are met
- Keep complete and accurate financial records.
- Create an extensive project track record.
- Concentrate on providing realistic pricing and demand.
- Combine funding sources through a mixture of debt and equity.
Having a clearly defined funding plan gives lenders greater confidence in providing funds.
Conclusion
In India, project funding/construction finance forms the foundation of successful real estate development. Ongoing changes in regulations, coupled with the rise of other types of funding sources, have forced developers to change their behaviour toward financial discipline. Project funding for real estate developments, structured project financing for developers, or consideration of new funding options within the real estate market, when approached correctly, can provide timely completion of projects and ultimately lead to long-term success.
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