The Developer-Financier
Why this chapter
To understand whose money buildings are actually built with, and why the buyer of an apartment that is still a hole in the ground is the least protected participant on the site.
An analogy
Imagine you have promised the neighbors a hundred pies by Sunday. You have no money for flour, and there are two ways to go. The first: collect prepayments from the neighbors and buy the flour with their money. The second: borrow from a bank, bake, hand over the pies and repay the loan out of the proceeds. On the surface the difference is small; in practice it is enormous. In the first case, if you go bust, the neighbors are left with no money and no pies, and there is nobody to complain to. In the second, the risk is taken by someone who counts risk for a living. The third chapter is about exactly this: who in a construction project is the lender, who is the borrower, and at what moment the buyer of an apartment quietly becomes both at once.
How it works
Project finance for construction: land → a bank loan in tranches tied to stages → sales to presale buyers → repayment. From here you keep two balance sheets: the bank's and the developer's — one deal looks different from the two sides.
Escrow: the presale buyers' money sits frozen at the bank (a liability of the bank), and the developer does not see it until the building is handed over — it builds on the bank's loan. The bank is calm: escrow is cheap funding and a guarantee of demand.
Without escrow (the Evergrande model): the buyers' prepayments are an interest-free loan to the developer from the public. It finances not “this building” but the purchase of the next plots. The pyramid works as long as sales keep growing.
The words of this chapter
Project finance
A loan made not against the developer's property but against the future building: the bank releases money in parts, tying each one to a stage of construction, and keeps an eye on the cost estimate.
It was invented because a construction project has no revenue until the very end. An ordinary loan is not made against a cash flow like that, and the money is needed from day one.
Escrow
An account with two locks: the buyer's money lies frozen at the bank, the developer does not see it until the building is handed over, and the bank has no right to release it early.
It was invented after too many building sites stopped with buyers' money inside them. It separates two things that used to be mixed together: paying for an apartment and financing the construction.
Presales without escrow
The old model: the buyer pays the developer directly, and the developer uses the money as its own — buying the next plot of land with it, for instance.
It appeared not out of malice but because this is the cheapest money on earth: an interest-free loan from households that nobody counts as a loan.
Mezzanine
Expensive second-in-line debt: it is provided when the bank has already given everything it is prepared to give and the project still lacks money. Such a lender has no collateral and stands after the bank in the queue for payment.
It was invented to close the gap between what the bank is prepared to finance and the full cost of the project, without diluting the owner's stake.
Two balance sheets
From this chapter on, one and the same deal is looked at from two sides: from the bank's and from the developer's. What is property for one is debt for the other.
Without the second view you cannot see where the risk actually sits. A bank's accounts can be flawless at the very moment the ground is burning under its borrower.
A tranche
A part of a loan released when a condition is met: the foundation is poured — the money for the walls arrives. Not met — it does not.
It was invented so that a lender does not hand over the whole amount at once against a promise. Every tranche is a new point at which you can stop.
What happens to the balance sheet
Compare the two constructions on one diagram. In the model with no protection the buyer's money goes straight to the developer and becomes the developer's free money: there is an obligation to build, and there is no lender with rights. In the model with an account with two locks the buyer's money stands as a separate line among the bank's debts, the developer never touches it, and the construction runs on a loan. Note where the risk sits in each construction: in the first it is with the family that bought the apartment, in the second with an institution that knows how to count it and holds a cushion against it.
Where the money comes from here
In this chapter the bank earns twice: on the interest on the project loan and on cheap funding, because frozen buyer money cannot be pulled out with a phone call. The developer earns on the difference between the sale price and the full cost of building, interest included. The mezzanine fund earns a high rate — the price of standing in the queue behind the bank and with no collateral. The one who loses in this construction is whoever paid up front and received neither a secured claim nor interest. Here is why this matters to you: if you are buying a home under construction, the only question worth asking is where your money physically sits until the building is handed over, and who is entitled to touch it. If the answer is “with the developer,” you have made an interest-free loan with no collateral and no place in the queue.
What people usually get wrong
The common belief. The building is built with the presale buyers' money — they all chipped in in advance.
What is actually true. In the protected model the building is built on the bank's loan, and the buyers' money lies frozen until handover. It works not as a building material but as proof of demand.
The common belief. A buyer's prepayment is simply paying for the goods in advance, as in a shop.
What is actually true. It is an interest-free loan with no collateral and no place in the queue. The developer has an obligation, and there is no lender with rights on anybody's balance sheet.
The common belief. A large developer cannot go bankrupt: it has too many projects and too many buyers.
What is actually true. It can, and precisely because of that. A construction in which new buildings pay off old obligations is solvent only while buyers keep arriving in growing numbers. Evergrande stopped with liabilities above 300 billion dollars and was wound up by order of a Hong Kong court in January 2024.
After this chapter you will be able to
- see the moment at which the bank creates money, and not confuse the deposit that was created with the institution's income
- judge what exactly the customer received in exchange for their money — a secured claim or a promise
- tell money that sits with an institution apart from money the institution is entitled to use
- recognize a construction that is solvent only while new customers keep arriving
- walk through a whole project cycle and count how much money the institution created, how much it destroyed, and what it kept for itself
Check yourself
The buyer's money sits in a frozen account at the bank. Can the bank use it to finance the construction?
As a source of funding, yes; to use as its own, no.
That money stands among the bank's debts and cannot be released to the developer ahead of time. But as a steady balance that cannot be withdrawn, it makes the bank's funding cheaper, and that is one of the reasons the rate on a project loan is lower.
A mezzanine fund gave the project money. Is there more money in the economy?
No.
A fund does not create money, it moves money that already exists: a balance simply changed owner. That is exactly why such money is more expensive than a bank's — the fund risks real money and stands in the queue behind the bank.
The building is handed over and the loan is repaid. What is left in the economy from this whole construction?
The building, the bank's interest margin — the difference between the lending rate and the funding rate — and the developer's profit.
The money created for the project was destroyed on repayment in exactly the amount in which it appeared. What remains is the building, the bank's income for the risk it took, and the developer's difference between the sale price and the cost.
In short
Buildings are almost never built with money that has been saved up — they are built on debt. In the protected model the buyers' money is frozen at the bank until the building is handed over, and the bank itself finances the construction. In the unprotected model the buyers' money goes straight to the developer, who can spend it on anything. In the first case, if the site stops, the bank loses. In the second, the family that paid up front does.
Reading is half the job. In the academy this chapter is worked through by posting entries: you run the operations yourself and see whether the balance sheet still balances.