Take a long term view to property investment
Buying an investment property involves substantial upfront costs like stamp duty and legal fees, which alone can amount to several thousand dollars. Plus, when you sell the property, you’ll face other costs like the real estate agent’s selling commission, capital gains tax and sometimes advertising costs. You should usually budget for around 5-7% of the property selling price as additional expenses.
In order for you to make a profit on the sale, the value of your investment property needs to grow by more than the value of these costs and the after tax costs associated with holding onto the property. That’s why you should probably regard property investment is a long term strategy and be prepared to hold onto it for at least five to ten years. Sure, during periods of rapid market growth, you may be able to make a faster profit but this call for good research, good luck and good timing – something that can be hard to get right.
A sensible approach is to treat your investment property as part of your overall investment portfolio for the long term.
Contact us to find out how we can help you in getting the most suitable property investment loans from our lender panel.
Choosing the right investment property
When buying an investment property, there are certain criteria that you should look for to ensure you have found a quality investment.
Location is top priority
Location plays a key role in the success of your investment property, not just helping to attract quality tenants but also giving you a better opportunity to enjoy long term capital growth.
Look for locations offering good transport links and local amenities like schools, hospitals, shopping and leisure facilities. These features generally indicate an area with strong growth prospects. Speak to the local council or check out relevant Government websites to see if there are any development plans in place, for example the construction of a new shopping centre could make an area even more appealing in the future. Also check for new infrastructure such as rail lines and roads.
Suburbs that are experiencing population growth will also tend to perform better than those where the local population is in decline. The Australian Bureau of Statistics website is a good source of information on population changes to local government areas. Also look for areas that have historically low vacancy rates and check out the socio-demographics within each to see if the property is the ‘right type’ for the majority of people living in the area. If for example you are investing in an area dominated by families, a house, semi, or town house would be the most suitable while if the area you are investing in is dominated by single young professionals, an apartment may be most suitable.
Choose a property with tenant appeal
An investment property that is hard to rent out will prove a drain on your cash flow, so to maximise your rental return look for properties that appeal to tenants.
Opt for clean, secure homes with easy access, low maintenance outdoor areas, good light and airflow and plenty of storage space. For many tenants, their car is often their most expensive asset so a property with off-street parking, preferably in a garage or carport, is likely to attract more tenant interest than one without.
Will you be a ‘hands on’ landlord?
Some landlords like to take a do-it-yourself approach to their investment property and manage it themselves. This can save money but it may also take up a considerable amount of your time.
Being a landlord also involves strict legal responsibilities such as lodgement of rental bond with the appropriate authority, preparation of lease documents and attending to tenant requests for repairs and maintenance. Making a mistake here can prove costly in terms of lost rental income or even legal action instigated by the tenant.
Consider hiring a professional
Many landlords use a professional property manager to take care of the day-to-day running of the property. A property manager looks after issues such as re-letting the property, contacting tradespeople when repairs are required, dealing with other tenant queries and inspecting the property every six to 12 months.
You can expect to pay a fee for the service, often set as a percentage of the rent, usually around 7%. The property management fee can be claimed as a tax deduction however it will eat into your rental return.
Your choice of property manager is important, so it’s worth speaking to several potential candidates before making a final choice. The management fee varies between agencies and you may be able to negotiate this, however it is more important that your property is in the hands of a competent manager.
Some of the key questions to ask before you choose a property manager include:
Do you check tenant references?
How big is your agency’s rent roll? (If the agency has a large rent roll this may mean that property investors trust them and they have a good reputation in the market).
How many properties does each manager look after? (If an individual property manager looks after too many properties yours may receive insufficient attention).
How often do you conduct property inspections? Every six months should be the minimum you accept.
What is the average lifespan of an investment property under your management compared to the industry average?
Make an appointment with us to find out how he can help you getting the right investment property loans.
Negative gearing in property investment
‘Negative gearing’ is an expression often associated with property investment. Here we explain how it works and why it can make an investment property more affordable.
Very few of us can afford to buy an investment property with our own money. Most landlords need a mortgage to fund their investment property. That’s where negative gearing comes in.
The term ‘gearing’ simply means borrowing to invest. That’s what you’re doing when you use a loan to purchase an investment property. The appeal of gearing is that it lets you invest in an asset of far greater value than you could afford using your own money.
An investment property is ‘negatively geared’ when the cost of owning and maintaining the property (including interest on the loan but not repayments on the principal loan amount) outweighs the rental income you receive. The difference is a loss that can be claimed as a tax deduction, and this deduction reduces the tax payable on other types of income including your regular wage or salary.
How does negative gearing work?
Let’s see an example of how negative gearing can be used in property investment
Bill’s annual salary is $90,000. On this amount he pays income tax (plus the Medicare levy) of $22,600. Bill decides to invest in an investment property using a loan of $300,000. The property generates annual rental income of $15,000, but the loan interest totals $21,000 each year. He also pays other property expenses (rates, insurance and so on) of $2,000 annually.
As a result of his property investment Bill’s annual income will rise to $105,000 (salary plus rent). However, he can claim an annual tax deduction for rental property expenses totaling $23,000 (loan interest plus other costs). This reduces his taxable income to $82,000. On this amount Bill will pay tax (plus the Medicare levy) of $19,500 - reducing his annual tax bill by $3,080. This is a saving that Bill can put towards his loan payments, invest elsewhere or simply to pay off some bills.
The result is summarised below:
| | Without an investment property | With a negatively-geared investment property |
| Annual salary income | $90,000 | $90,000 |
| Rental income | - | $15,000 |
| Total income | $90,000 | $105,000 |
| Tax deductions (loan interest & other property costs) | - | $23,000 |
| Taxable income | $90,000 | $82,000 |
| Tax (plus Medicare) | $22,600 | $19,520 |
| Tax saving from negative gearing | - | $3,080 |
Which expenses can be claimed on tax?
The ATO classifies the costs associated with owning an investment property as either revenue costs or capital costs. These costs can be claimed at different stages of ownership of the property.
Revenue Costs
Revenue costs are the expenses associated with earning a rental income and can be claimed on an ongoing basis. They can be classified as cash deductions or non-cash deductions.
1. Cash deductions
Cash deductions are available irrespective of the age of the property and include expenses such as loan interest, maintenance and repairs, property management fees, landlord insurance, water, council fees, land rates and unit strata levies. Finance set up costs, such as establishment fees, and the cost of the Quantity Surveyors Report (required by the ATO to determine the value of non-cash deductions) can be claimed as one-off cash deductions in the year they are paid.
2. Non-cash deductions
Non-cash deductions include depreciation-related expenses for the building as well as fixtures and fittings (also known as plant and equipment). They vary according to the age of the property and the specific items in the building that wear out over a period of time.
Building depreciation is an allowance available for the cost of constructing the building. It is set at 2.5% of the building cost and is claimable every year for 40 years. The cost of the building is determined by a Quantity Surveyor.
Plant and equipment depreciation is an allowance for items in the building that wear out over time, e.g. carpets, blinds. The depreciation rate of each item varies according to its effective life, i.e. the estimated period over which it can produce an income.
Capital costs
Capital costs include the costs involved in buying and selling an investment property (e.g. solicitor’s fees, agent’s commission) and major improvements such as renovations. They cannot be claimed until the property is sold.
Your accountant can provide advice on the different types of deductions and when they are claimable.
Are all investment properties negatively geared?
Not at all. If your investment property delivers a high rental income, or if you have a small mortgage, chances are the property will be positively geared – in other words, it generates a profit each year, whereas negative gearing means you are incurring a loss.
Positive gearing isn’t a bad thing. Some property investment gurus say an investment should deliver a positive result over time, and it may be unwise to select an investment property based solely on the tax benefits it can provide through negative gearing.
Contact Us to find out how he can help you in getting the most suitable property investment loans from our lender panel.
The above information is provided for general education purposes only and does not constitute specialist advice. It should not be relied upon for the purposes of entering into any legal or financial commitments. Specific investment advice should be obtained from a suitably qualified professional before adopting any investment strategy.
Use existing equity to buy investment property
If you are already a home owner you may not need to provide a deposit to fund the purchase of an investment property. Instead you may be able to harness the power of your home equity.
Home equity is the difference between your home’s market value and the balance of your mortgage. If you have owned your home for a few years there’s a good chance you have built up some reasonable equity, and this can be a valuable resource when it comes to property investment.
Here’s how it works. Let’s say you want to buy an investment property with a market value of $400,000. There are also additional purchase costs (legal fees, stamp duty and so on) of $20,000, bringing the total cost to $420,000.
Assuming that you meet the loan approval requirements, a lender will fund 80% of the property’s market value (potentially more if you are prepared to pay Lenders Mortgage Insurance). That is, the bank will lend you $320,000 to buy the investment property. As the total cost of the property is $420,000 you still need an additional $100,000 for the deposit.
This can come from the equity in your existing home.
Let’s say the market value of your existing home is $500,000 and the balance of your mortgage is $300,000. The difference between the two is $200,000, which is your home equity.
As an investor you can access up to 80% of your home equity, which equates to $160,000 in this example (without the need to take out LMI). Instead of coming up with a cash deposit for the additional $100,000 needed to buy the investment property, you can take this from the $160,000 of accessible equity in your existing home.
The below tables show how this is calculated.
Property investment loan
| | Investment |
| Market value of investment property | $400,000 |
| Additional costs | $20,000 |
| Total costs | $420,000 |
| Loan amount (ie. 80% of market value) | $320,000 (ie. $400,000 x 80%) |
| Shortfall (ie. Total cost - Loan amount) | $100,000 ie. $420,000 - $320,000) |
Tapping into home equity
| | Existing home |
| Market value of existing home | $500,000 |
| Balance of loan | $300,000 |
| Home equity (ie. Market value - Balance of loan) | $200,000 (ie. $500,000 - $300,000) |
| Accessible equity (ie. 80% of home equity) | $160,000 (ie. $200,000 x 80%) |
You should note that many property investment gurus say it is important to repay the loan on your home as soon as you can. The equity that is drawn down from your home to purchase an investment is tax effective, however any remaining debt on your home is not. Therefore the loan on your home costs you much more on an ongoing basis than the loan on your investment property.
The property that you live in is not the only source of home equity. You can also use the equity in an existing investment property to help fund the purchase of another investment property.
FINWEB can help you work out how much equity you have in your property and how it can be accessed as a source of funding for your investment property.
Warning
The above information is provided for general education purposes only and does not constitute specialist advice. It should not be relied upon for the purposes of entering into any legal or financial commitments. Specific investment advice should be obtained from a suitably qualified professional before adopting any investment strategy.
Co-ownership in property investment
You can pool your resources with friends or family to help you get into property investment. (Note that there is a significant risk in group investments like this. These risks include risks of disagreements in relation to investment strategy and the risk that one investor could become bankrupt or otherwise need to sell the investment at a time when values are down). An initial visit to the solicitor should result in a contract that outlines who pays what and how much of the property each applicant will own after paying off the mortgage.
There are two forms of property ownership in Australia:
- Joint Tenants
- Tenants In Common
(The term “tenants” here, is not to be confused with the term tenant used in the contest of renting!)
The benefits of co-ownership are numerous; as are the potential pitfalls.
Getting the ownership structure right, as well as being fully aware of the risks; is just as crucial to the overall success of the investment, as is the property itself
Choosing the right investment property loan
The way you fund your investment property will impact on the returns you receive, so the type of loan used to buy the property should be chosen carefully.
An investment mortgage works in much the same way as a home loan. You can choose from a variable rate, fixed rate, combination between variable and fixed rate, principal and interest or interest-only loan, often enjoying a range of loan features that are especially useful for investors.
FINWEB can advise you on the type of loan suited to your investment needs.
Professional help in property investment
Use a buyers agent/property finder
Seek advice about the type of investment property that will maximise your investment. For example, if your repayments are at an interest rate of 8% then you would need a property to secure you, as an average over the entire loan term, an annual return on investment (ROI) that is higher than the costs i.e. if net rent is 4% and the interest rate is 8% then it only needs to grow at more than 4% to be a sound investment. Buyers’ agents know the market better than most and are a valuable resource to use for advice or for negotiating with property sellers and/or their agents.
Visit a financial adviser and/or accountant
You also need to discuss your full monetary situation with someone with experience in advising on diversified investments. That’s because you need to make sure that your financial situation is improved by an investment property and that you can afford repayments without stretching the budget uncomfortably. Remember, you must make this investment work for you and your long-term strategy.
Make an appointment with us to discuss with us further, how we can get you the right property investment loan for your needs.
