Property investment is seen by many as the ticket to riches – a foolproof way to make serious money. And when done right, that’s exactly what it is. Unfortunately there are plenty of ways to do it wrong.
The truth is that 90% of Australian property investors will never own more than one or two investment properties. They fail to make the step from part-time investor to property mogul.
So what does a first time investor need to know in order to find themselves in that top 10%? Let’s take a look at a few of the core property investment principles that you need to know before diving into your first purchase.
Types of investment property
‘I’d like to invest in property’ you declare. But what shape does this property investment take? The following considerations should be made when choosing which type of investment property you’d like to purchase:
- Short-term or long-term: Are you a long-term investor looking to reap the benefits of capital growth? Or are you a short-term investor hoping to ‘flip’ property?
- New or established: Should you buy an old property or a brand new one? While you’ll have to pay a premium for a new property, the positives are that it’ll be ready for tenants, and the ongoing maintenance costs will be lower.
- House or apartment: Will a house or apartment make for a better investment? The answer will depend on your budget, the area you’re looking to invest in, and what you’re hoping to do with the property.
The 5 ways a property investment can make you money
Before you invest it’s important to understand the ways in which that investment might be paid back. There are five main ways that your property can generate income:
- Capital gains: Your property appreciates in value over time. To be a truly successful investor the value of your property needs to grow at a faster rate than average.
- Rental/leasing income: The steady cash flow generated by tenants is incredibly useful in building your portfolio.
- Accelerated growth: Renovating, subdividing and/or developing your property can manufacture instant capital growth.
- Inflation: By using other people’s money (a mortgage) to fund your purchase, you can leverage inflation. Let’s say you took out a $400,000 interest-only mortgage on a $500,000 home in 2004. 15 years later the property might be worth close to $1 million, and inflation means that the same mortgage would today have increased in value to $574,000. But the loan remains at the 2004 rate of $400,000.
- Tax savings: While one of the last considerations a good investor will make, a property investment can decrease your tax obligations, thereby increasing your income.
At its bare bones property investing is a simple game of numbers – money in and money out. We’ve looked at the incomings of your investment property, but what about the outgoings?
- Mortgage: The most obvious cost, a mortgage is made up of principal (the amount borrowed) and interest (the fee you pay to be able to borrow the principle), and also may include things like loan servicing fees and lenders mortgage insurance. Some investors choose interest-only mortgages, relying on capital growth to (more than) cover the principle when they sell.
- Local government taxes and fees: You will need to pay land tax and council rates on your property.
- Body corporate fees: If you purchase an apartment or townhouse you’ll be required to pay body corporate fees every quarter to assist with the upkeep of the building and land.
- Building/landlord insurance: If something major goes wrong with or within the property, building or landlord insurance will limit the financial impact.
- Property management costs/fees: You may choose to employ a professional to manage your property (we’ll go into this in further detail later).
- Repairs and maintenance: One of the most difficult costs to budget for, property repairs and maintenance will be required on an ad hoc basis. These costs will be far greater for an old property than they will for a new one.
Property investment and tax
While property investors have access to a wealth of tax benefits, the best investors will never see tax as the sole (or even a major) reason to invest in property. If anything it’s the last consideration – a nice little cherry on top of a delicious investment cake.
For the period that your property is rented out you can claim any management and maintenance costs (deducted against that year’s income) as well as borrowing expenses, depreciation and capital works spending (deducted over a number of years).
The other major tax perk is negative gearing, which allows an investor to offset any shortfall between rent and expenses on your personal income tax.
Managing your property
Property management is the task of ensuring that your property is well maintained and always tenanted. You can choose to either use a property manager or manage the property yourself. Property management responsibilities include:
- Advertising your property
- Vetting potential tenants
- Detailing the terms of the occupancy
- Collecting rent
- Maintaining the property
- Paying taxes and maintenance fees
While possible, it’s uncommon to manage your own property. Professional property managers bring their own networks of tenants, tradespeople and solicitors to the table, as well as a wealth of experience and expertise. Life will be far harder for you, the independent property manager who may not have done the job before.
Selling your investment
When you’re ready to sell your investment it’s not as easy as making contact with a real estate agent. There are a number of considerations that a property investor will need to make:
- Is the property tenanted? The procedures of selling a tenanted property vary from state to state, so you’ll need to check local legislation to ensure you do everything by the book and avoid potential litigation.
- Should you wait until the property is empty? An untenanted house gives you the freedom to present the property however you wish, and removes the headaches of working open inspections around your tenants. You will lose rental income however, and there’s no guarantee that your property will sell quickly (or indeed at all).
- Have you given notice to vacate? A minimum period will be stipulated in the rental contract. No matter whether you evict your tenants before or after your property is put up for sale, you’ll need to accord them this amount of time to find a new home.
This is by no means an exhaustive list of things that a first time property investor should know, but it does form a good launching pad for anyone looking to take that first step onto the property investment ladder. If you want to keep on climbing, and be one of those multiple-property investment successes, it’ll be up to you to gain a deeper knowledge of the market, and play it smarter than your fellow investors.
That’s the difference between the 90% of investors who own one or two properties, and the 10% who own many more.