In Mexico, pre-construction opportunities are often the best deals because they allow the buyer to buy cheaper, which translates into instant equity. Moreover, the lower maintenance and operating costs of brand new properties and the lower purchase price both translate into higher rental yields. However, buying pre-construction following the traditional approach adds some significant risks to the purchase. In this article, we look at risks, prices and financing of pre-construction properties.
Pre-Construction Risks in Mexico
Unlike what many people think, the main risks of buying a pre-construction property (or any other property for that matter) in Mexico have little to do with corruption or drug cartels. They have most to do with the developer and the fact that you have to advance a significant amount of money against just a piece of paper without any guarantee that you will get either your property or your money back.
There are actually two distinct risks here.
Risk #1: Dishonest Developer
The first developer-related risk associated with any pre-construction purchase/investment is the developer being dishonest. He could either scam you or use your money for other purposes than the construction. It is therefore very important to find out whether the developer is trustworthy. We realize that it is easy for us to do thanks to our network on the ground and that it could be much harder for you. Yet, you can do online searches, use your common sense and/or reach out to people like us for help.
I was recently asked what I thought about a particular development. I looked at the website and I saw beautiful renderings. Yet, I didn’t let that distract me and the first thing I wanted to know is who is behind the development to see if I knew about them or if somebody from my network would. I was flabbergasted to see that there is no “about us” section and absolutely no information about the developer anywhere. This tells me one of three things: either it’s a scam or the developer has something to hide, has nothing in his background to justify that he could make the project a reality or the developer doesn’t think it’s necessary that he gives any information about himself, which amounts to gross incompetence. Whichever it is, I don’t know about you but I’ll give that project a pass, even if I find it attractive.
Risk #2: Inability to Complete the Project
Now, onto the second developer-related risk associated with a pre-construction purchase/investment. Let’s assume that you found a great project with a trustworthy developer. You decide to purchase and you start making payments, alongside with other buyers. The developer cannot wait to make his money as quick as possible and move onto the next project. Therefore, he is going to start construction as soon as he gets some money. This is a problem because if he cannot sell enough units, he will have to halt construction when he runs out of money, his project is going to go bust and the buyers will lose their money. This is the main reason why a project would fail and that is probably what it is when you see idle building frames in the landscape.
There is another version of that same risk when the developer uses the money from his first buyers for anything other than the construction like personal expenses for example. He might think it is ok to do that because he is going to use the money raised from future sales to complete the construction. By doing so, he is putting himself and his buyers at great risk of having the project go bust, as there is no guarantee he will sell any more units. I recently spent some time on the ground in Mexico and I was able to catch up on the latest gossip. I was flabbergasted to hear that even some of the largest and most experienced developers are doing that, on top of some other shenanigans.
By the way, this should not discourage you from buying in Mexico because the majority of the Mexican developers are honest. It is the few that are not who account for the horror stories you might be hearing or reading about from time to time. As suggested above, you can substantially decrease that risk by knowing who you are dealing with.
Risk Mitigants
To mitigate those risks, you should try to make sure that you deal with an honest developer and try to buy into a project that is almost fully sold. The problem here is that, as the developer sells units, he will raise his prices. Therefore, while buying in an almost fully sold project reduces your risks, you might have to pay significantly more, which kind of defeats the purpose of buying pre-construction.
The conclusion from this is that the ideal project is one that sells out quickly. However, do not forget that the unit you buy has to make sense for you and make sure that it is not overpriced. If you trust the developer and its ability to sell, you could be one of the first buyers though.
Pre-Construction Prices in Mexico
Mexico Is Very Cheap by International Standards
The building quality in Mexico is top notch and Mexican architects are as good as their American and Canadian counterparts. Yet, similar properties are much less expensive in Mexico than in the United States or Canada. While Mexico is already much cheaper than Florida, the comparison is even more striking with California, with a pricing differential that could be as high as 1:10.
Significant Discount to Mexican Prices
While Mexican properties are already cheap by international standards, one of the main advantages of buying pre-construction is the possibility to buy at a significant discount compared to Mexican market prices. This will result in a higher return on investment (ROI) for those who want to rent their property when they are not using it.
As a result of these substantially lower prices, the total purchase price of a property in Mexico will be as low as the down payment on a similar property in the US or Canada. Same down payment but no debt and therefore a potentially much higher ROI! Many developers offer a very large discount if the buyer pays 100% of the purchase price or at least a large part of it at the signing of the contract or at the early stages of the construction. Typically, the more and/or the earlier you pay, the higher your discount and your ROI will be.
While still cheap, prices in Mexico have risen over the years (which you want as an owner). This, combined with the necessity to have a sizable amount of cash to purchase a property, has priced some would-be buyers out of the market.
Not All Mexican Properties Are Cheap or Great Investments
Overall, Mexican properties are cheap by international standards and they can be great investments. Yet, many are not and it is important to be able to tell the difference, especially if you want to make money with your property.
For example, I am often asked my opinion on 2-bedroom condos in Tulum in the upper $300k – $400k range. Such high prices would lead to a low ROI and would only make sense if they are bought for lifestyle and, even in that case, you could most likely find a much better deal. Such condos are meant to be second residences, not rentals. One of the problems here is that you buy by the square footage (and the fanciness) and you rent by the number of bedrooms. As a result, the smallest condos in a given category will generally be the most profitable investments. So, if you absolutely want to spend $350k – $400k, you might as well buy two smaller condos instead of one, which will increase your return and decrease your risk.
Now, a word about the fanciness aspect. Mexico has a lot of great architects and the quality of the construction in the higher-end of the market (foreigners and upper middle-class and wealthy Mexicans) is very good. The beauty and the quality of many developments is impressive and it is hard to resist the call of the beautiful renderings. While it will make you feel great to have an exceptionally beautiful condo, you will have to pay a significant premium, which you will be unlikely to profitably recoup through your rental income.
Let us finish on this topic with an important distinction. If you buy a property for lifestyle that you might be happy to rent as well to cover your costs or even make a small profit (or not rent at all), by all means buy that more expensive beautiful property, which would still cost you significantly less than a similar property in a comparable US location. If you buy a property mostly as an investor, try to buy at the best possible price, without sacrificing excessively on the quality. This will be the main determinant of your ROI, alongside financing if you need and can get any.
Financing Pre-construction Purchases in Mexico
It is possible but not easy for foreigners to get financing in Mexico and it will be much more expensive than in the United States or Canada. As explained in our article on “How to finance real estate in Mexico”, this does not prevent Mexican properties from being more profitable than mortgaged properties in the US or Canada.
Aside from the price, the other main advantage of buying pre-construction is the possibility to get financing from the developer, although it is not very common and less and less so as the market gets hotter.
For example, the buyer would pay up to say 50% of the purchase price by the time the property is delivered. Then, the developer would give the buyer say 5 years to pay the remainder of the price. If the buyers buy the right property, the cash flow should be more than enough to cover all the costs, including that of the financing. Such a situation would result in a potentially very high ROI.
Do you have a good deal if the developer offers it to you? All other things being equal, you do of course. However, it is not a good thing if the only reason behind the financing is the inability of the seller to sell without it. In the same vein, developer financing does not transform an otherwise bad deal into a good deal. Therefore, developer financing in itself is not a good enough reason to buy a property.
Developer financing is a perfect solution for those who do not have the money to buy 100% in cash as it allows them to buy and benefit from leverage as it increases their ROI. However, if you can pay 100% in cash, you could do it as well and the earlier the better as you could get a significant discount that would also increase your ROI but without you having to pay any interest.
Beware that some developers are offering what we call fake financing. Fake financing is allowing you to pay in installments but entirely by the delivery date of the property as opposed to paying 100% at the signing of the contract! This is no financing from the part of the developer. Real developer financing only exists when you can pay back after the delivery of the property, using the rental income for that purpose.
A Word of Caution
Make sure you do not get taken advantage of. When anybody promotes anything to you or refers you to anybody, make sure that they disclose any financial interest they might have when promoting or referring. While you might think that there is nothing wrong about getting paid for a referral as long as it is good, the problem lies elsewhere. It is important to understand that their opinion or advice could be biased and first and foremost in their own self-interest, especially if they are not disclosing their financial interest.
Is Buying Pre-Construction a Good Idea?
Buying pre-construction is very attractive as prices are typically lower than market prices and the difference can be significant. Moreover, having a brand new property translates into lower maintenance and operating costs and a property that is more popular with renters and resale buyers.
You need to consider the risks and be cautious though. Do proper due diligence on the project and the builder. If you do not find any major issues and if you can pay cash (the earlier the better) or get financing, you might have gotten yourself a fantastic deal!
Speaking of which, the issues with risks, prices and financing are the very reasons why we decided to use our experience and connections to create a unique pre-construction project in Mexico. We are creating projects in which we have removed the two main pre-construction risks, we offer prices below market (for the same quality) and we provide/arrange financing when needed (if not, the price can be even lower).
If you want more information on this topic or any other topic pertaining to buying or investing in real estate in Mexico, reach out to us through the contact form.
