Property Development Costs – Estimating Expenses is a Science Not an Art

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When a developer estimates his developments costs he must take into consideration both direct costs and indirect costs. The major reason why some projects fail is that the costs estimates were inaccurate. It is critical that your development costs are estimated as accurately as possible and that you have provided for backup funds to pay for unexpected additional cost overruns, which could be disastrous to your projected profits.

Being aware of development cost pitfalls will help make your project a success. The following are some basic cost factors:

What are Direct Costs? Development direct costs include land acquisition costs, engineering costs, construction costs and marketing costs.

What are Indirect Costs? Development indirect costs include fees for professional services for market feasibility analysis and appraisals, attorney’s fees, accounting fees and financing costs.

Feasibility Study: A feasibility study is done in the very beginning to analyze the demand and competition, present and future, to determine whether the project will be successful. The results of the study are used to help the developer make a decision whether to proceed with the development project.

It is critical that your development costs are estimated as accurately as possible and that you have provided for backup funds to pay for unexpected additional cost overruns, which could be disastrous to your projected profits.

Cost Analysis. It is recommended that you do a cost analysis to assess your primary development risks.

Pitfalls to Avoid:

1. Tax Pitfalls.

The first step before you get started, is to speak to your tax advisor and determine what type of entity you should select to operate the project that will save you the most tax dollars, i.e., corporation, LLC, individually, partnership.

2. Environmental Pitfalls

Assessing environmental issues impacting the property can be a major cost factor in land development. Phase I and Phase II Environmental Reports will help you to determine what costs may be involved in potential environmental cleanup issues. The Phase I report gives you information on present and past uses and whether any chemicals or hazardous waste has migrated onto the site. The Phase I will also recommend whether additional testing of the ground water and soils needs to be done and will provide you cleanup recommendations and/or other options. The Phase II report will give you detailed information on the level of hazardous chemicals in the ground water or soils.

Today the federal and state government agencies are more involved in regulating environmental issues such as wetlands and endangered species. You must assess the risks and costs involved early in your project to make sure what financial impact natural resource permitting will have on your project and whether you should go forward with the development.

3. Failure to Meet Delivery timelines

4. Construction Cost Overruns

5. Over Estimating Demand

Obtaining a detailed and accurate site analysis reportis crucial. The report will study and analyze the demand for the project in the area and how much competition is current in the area as well as future competition. Miscalculating this information can lead to project failure.

6. Unrealistic Pricing

This is tricky because if you start your project in a real estate upward cycle, your pricing will be at the high end. However, should the market turn to a real estate down cycle prior to or just after completion, then you are going to have to adjust your pricing accordingly. Especially if you are developing residential subdivisions.

By assembling an experienced development team of architects, developers, lawyers, project consultants, civil, soil, landscape and structural engineers and consultants to analyze and review design studies, applicable zoning and code requirements, environmental and legal issues, you will be able to determine your development costs and how to achieve the maximum development potential of the property.

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