How Lenders Treat Land Equity In A Real Estate Development Transaction

by Bruce Kirsch on May 6, 2012

Land Equity Defined: In the context of a real estate development transaction, Land Equity is non-cash equity credit given to a land owner if the land owner elects to contribute the land as equity instead of selling the land for cash to the developer. The “credit” is given by both the developer (project Sponsor) to the land owner, and by the lender to the Sponsor. Whether the amount of credit given by both Sponsor and lender is identical depends on the individual transaction circumstances and is the result of negotiation.

How Land Equity Is Represented In A Real Estate Development Pro-Forma:

Within The Uses of Funds:

  • Contributed Land Equity Value (instead of Land Cost)
  • Hard Costs
  • Soft Costs
  • FF&E
  • Financing Costs

Within The Sources of Funds:

  • Contributed Land Equity Value (instead of Cash Equity above and beyond the amount represented below)
  • Contributed Cash Equity
  • Debt Financing

How Lenders Treat Land Equity: Land equity is addressed differently by different banks and differently for different transactions. Typically, a Lender will give a Sponsor credit for Contributed Land Equity that is based in part on:

If the land has traded recently, 100% of the Purchase Price at which the land traded in an arms-length transaction. However, if the transaction was not arms-length (say a Master Developer entity sells the land to its owned Vertical Developer entity for a Purchase Price of $10.00), or if the land has been owned for a very long time and has such a low basis that it is not a reasonable number at present, then the Lender will base the amount on:

  • A stated value based on recent comparable land sales (an Appraisal is not always ordered by the Bank if comps are available), or
  • Some percentage (less than 100%) of an Appraised value.

The final dollar amount for which credit will be given for Contributed Land Equity will be the result of a negotiation between the Sponsor and the Lender, and will be influenced by:

  • the track record of the Sponsor
  • how aggressive the current lending environment is, and
  • the amount of Contributed Cash Equity from the Sponsor.

The Lender’s Loan-to-Cost % will be applied against the Total Project Cost inclusive of the Contributed Land Equity Amount even though the Land is not a cash cost. As a result, the Lender will have a first lien on the land.

Do you have a different view on or experience with this? Let’s hear about it in the Comments section below.

  • dwayne smith

    this is a good article about Land Equity, thanks for this all needy information. Actually I’m also Investor and I decided to invest some money in Real Estate Development Company. So if there is any reference for me?

  • Anonymous

    Hi Dwayne, thanks for the feedback, glad it’s helpful. I don’t have any immediate resources for investing in a real estate development company, but will look around. – Bruce

  • shaira

    I have land that I am planning on building a house on very soon. I have applied for a construction loan and have been approved for nearly all products the banks are offering. One product in particular is land equity as a down payment. how exactly does the land tie into this? Does it just mean I can get better interest rates?

  • Sales Ardevelopments

    this is a good article about Land Equity.. I have own Real Estate Development Company.

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