The Scottish Prison Service is investigating whether to place nearly 20 acres of land around HMP Edinburgh on the market.
The service faces a budget cut of 22 per cent for 2011/12 and the move would allow it to potentially make millions of pounds from the sale and free it from having to maintain the land.
Industry sources said the sale could bring the service between £600,000 and £1 million per acre. However, they said there are likely to be significant additional costs that come with undeveloped land.
Others warned the proximity to the prison is likely to result in a reduction in value.
Estimates have varied, but some experts say the site could cater for 250 family-sized homes, while others believe the site could be large enough for as many as a dozen blocks of flats.
The SPS is also currently taking steps to sell land at HMP Noranside, the open prison in Angus.
Philip Neaves, director of planning and development at property consultant CB Richard Ellis, said: “Many of the developers are struggling, so it’s only the best sites that are going at the moment. The sites with a question mark over them will be put on hold, and clearly not everyone is going to be queuing up to live next to a prison.
“That said, over time, it’s obvious this site at Saughton will be developed.
“If you think about Edinburgh there are very few pieces of unused land within the urban limits and there will be a premium on that kind of land regardless of the location.”
Mr Neaves said that there will be challenges to overcome the image of a residential development next to a major prison.
He added: “A lot of this will come down to how any future development is marketed. If the site is presented in the right way and the right transport links are put in place this will be developed regardless.”
Jason Hogg, director of development land at property consultants Jones Lang LaSalle, also said the demand for family housing could outweigh reluctance to live next to a prison.
He said: “On the face of it there are perception issues with living next to a prison, but if it’s well masterplanned and marketed appropriately, and the product mix is right, the fundamentals of housing in Edinburgh is hopefully strong enough.
“It’s something that can be overcome if it’s done with some thought and imagination. Anything within the bypass in Edinburgh that can tick the box of family-based housing will be a prospect for developers.”
A spokesman for the SPS said: “This is a preliminary step to identify and examine various options on how best to dispose of land that has been identified as surplus to the operational requirements of the SPS.”