Property options are a way to control development sites with potential. In a flat property market, some developers are using property options to give them the right to purchase a property they believe offers opportunities for development.
When investors take out an option against a property it gives them the right, but not the obligation, to purchase the property within a defined time period, often 12 months, usually for a pre-agreed price.
The idea is that during the life of the option the investor will explore opportunities to develop the property, for instance by seeking to have a development application successfully approved by council or by having a property rezoned. An example is a church an investor wants to have rezoned as residential and develop into apartments.
In a nutshell it’s a way of a developer securing a property before the potential of the property is fully known. If the development application is approved, the investor will generally go ahead and exercise his or her right to acquire the property.
“If the option isn’t taken up the seller retains the option fee,” says Richard Taylor, director, Taylored Financial Solutions, which advises investors on transactions involving property options.
“It’s a method of tying up a property for a period that works well in a stagnant market. It’s not generally as popular in a bullish market unless the agreed purchase price is at the upper end of the market,” he explains.
Indeed, the key downside to an arrangement such as this is that it commits the vendor to a particular buyer during the term of the contract. And, if the option is exercised, the vendor must sell the property.
Often, says Taylor, the option will be owned in a company structure. If the development application passes through council, the owner of the company will often sell the company, which means the vendor will often not know who has purchased the property.
A company structure also means the purchaser of the company generally avoids having to pay stamp duty over the property given it is held in a company structure and there is no stamp duty payable on the sale of a company.
The option contract will generally specify terms and conditions such as the length of time after the contract is signed the potential purchaser has to engage an architect and lodge a development application with council. Usually the vendor will receive a higher price for the property than if it had been sold on the open market.
Extension of contract
If the development application has not passed through council successfully within the life of the option contract normally the potential purchaser can apply for an extension of the contract, for an additional fee.
“As a potential purchaser it’s important to ensure the term of the contract is long enough so that you have enough time to do the required due diligence on the property,” says Taylor.
“For vendors, the potential downside is that they have to wait to sell the property. But for the potential purchaser it’s an effective tool to control a property you don’t own for a known price,” he says.