How developers value development land: the residual method explained

What is the residual method of valuing land?

The residual method is the standard way developers work out what they can afford to pay for a site. Instead of starting with the land, they start with the finished scheme. They estimate what the completed homes or buildings will be worth, take away every cost of getting there, take away the profit they need for the risk, and whatever remains – the residual – is the land value.

That is why development land has no fixed value per acre. Two fields of the same size can be worth very different amounts depending on how many homes they can take, what those homes will sell for and what it costs to build them. It is also why a developer's offer moves when planning or cost assumptions change.

Surveyors cross-check residual figures against comparable land sales where good evidence exists, but for most development sites the residual appraisal is what drives the offer.

What goes into a residual appraisal?

A typical appraisal has two halves: what the scheme is worth and what it costs to deliver.

• Gross development value (GDV): the expected sale prices of the open-market homes, plus the value of any affordable homes (usually sold to a housing association for less) and any commercial space.
• Build costs: construction, external works, roads, drainage and utility connections.
• Abnormal costs: anything unusual, such as demolition, contamination, poor ground, retaining walls or long service runs.
• Planning costs and obligations: application fees, consultants' reports, section 106 contributions, Community Infrastructure Levy where the council charges it and, in England, biodiversity net gain.
• Professional fees, finance and sales costs: architects, engineers, interest on borrowed money, marketing and legal fees on the home sales.
• Developer's profit: the return needed to justify the risk, usually expressed as a percentage of GDV.
• Acquisition costs: the buyer's legal fees and Stamp Duty Land Tax in England, or Land Transaction Tax in Wales.

Government viability guidance for England, written for plan-making, refers to 15–20% of GDV as a suitable return to developers. Individual developers set their own target depending on the size and risk of the scheme.

What does a worked example look like?

Illustrative example only. The figures below are round, made-up numbers chosen to show how the arithmetic works. They are not market values, they are not an offer and they do not describe any real site.

Imagine a site with planning potential for ten homes.

Now change one input. If the ground needs piled foundations that add £150,000 of cost, the residual falls by about the same amount. If the council requires another affordable home, GDV falls and so does the land value. If the layout can fit eleven homes instead of ten, it rises. Because land is what is left over, small changes elsewhere have a large effect on it.

What pushes a land value up or down?

Most of the movement comes from a handful of factors:

• Number and type of homes: density, house sizes and the mix of houses and flats.
• Local sale prices: what new homes actually sell for nearby, not asking prices.
• Planning status: land with a detailed permission carries less risk than land with outline permission, which in turn carries less than land with none.
• Policy requirements: affordable housing, section 106 and CIL, design standards and, in England, biodiversity net gain unless the site is exempt.
• Site constraints: access, flood risk, ground conditions, trees, ecology, heritage and utilities capacity. Our guide to what makes land developable covers each one.
• Time: the longer it will take to get planning and start building, the more finance cost and risk a buyer has to price in.
• Market conditions: build cost inflation, interest rates and buyer demand can all shift the figures between first offer and exchange.

Risk works in both directions. Once permission is granted and the main conditions are understood, much of the uncertainty falls away, and buyers can usually afford to pay more than they could for the same land before planning.

Why do two developers offer different prices for the same site?

Because each one runs the appraisal with its own assumptions. One may plan twelve homes where another plans nine. One may build for first-time buyers and another larger family homes. Build costs differ between a national housebuilder, a regional firm and a small builder, and profit targets differ with each company's appetite for risk.

Offers also differ in structure. A higher headline figure that is subject to planning, with costs deducted and a long timescale, may be worth less to you than a lower unconditional price paid sooner. When comparing offers, look at the conditions, the deductions, the deposit, the timetable and who carries the planning risk – not only the number at the top.

The different routes are set out on our how we buy page, and our guide to selling land with or without planning compares them in more detail.

How do planning rules and viability testing affect the price?

In England, national planning practice guidance on viability says a benchmark land value should be based on the land's existing use value plus a premium for the landowner, often called EUV+. The same guidance says the price paid for land is not a relevant justification for failing to meet plan policies. In practice, a buyer who overpays cannot expect the council to cut affordable housing or other obligations to compensate.

That is one reason sensible offers start from policy-compliant assumptions. Wales has its own planning policy, set out in Planning Policy Wales and each council's Local Development Plan, and affordable housing and infrastructure requirements are set locally there too. The English biodiversity net gain metric does not apply in Wales; Planning Policy Wales instead expects development to deliver a net benefit for biodiversity. Planning permissions also last longer in Wales: five years to start, against three in England, unless the decision says otherwise.

How can you check whether an offer is fair?

Ask the buyer to explain its main assumptions: number of homes, sale values, abnormal costs and planning obligations. A credible buyer should be able to talk you through the key lines of its appraisal, even if it keeps the detail confidential. Useful questions include:

• How many homes, and of what size and type, has the offer assumed?
• What sale values has the buyer used, and what evidence supports them?
• Which abnormal costs has it allowed for, and which surveys could change them?
• What affordable housing, section 106 and other obligations has it assumed?
• Is the price fixed, or can it be reduced after surveys or planning?
• When would you be paid, and what conditions must be met first?

It is sensible to take independent advice from a chartered surveyor or land agent who acts only for you, and from a solicitor and tax adviser before you sign anything. If a buyer offers to pay some of your professional costs, ask for that in writing.

If you would like a starting point, you can request a free, no-obligation site appraisal from us. There is nothing to pay us, and you are under no obligation to accept any offer that follows.

Questions

Sources

• Viability – Planning practice guidance (GOV.UK)
• National Planning Policy Framework (GOV.UK)
• Understanding biodiversity net gain (GOV.UK)

This guide is general information, not legal, planning or tax advice. Always take independent professional advice on your own circumstances.