BUYING INVESTMENT PROPERTY
Buying investment property continues to be one of Australia’s most popular investment choices. At the heart of this lies a desire to increase wealth and secure our financial future through an asset that can bring both a rental return and growth in capital gains.
Within this popular asset class, the common misconceptions are that property will always deliver fast capital growth and positive cash flow. While this may have been true for many property investors, and will no doubt continue to be the experience of some property investors, as with anything people who know how to do something correctly seem to make it seem so much easier (to others) than it really is. People who can sing, dance or ride a horse make doing those things look easy. Investing in property to create financial success is not an automatic road to instant riches, however when approached responsibly and with the right support and assistance, property investing has clearly been the catalyst for many, many wealthy people’s financial success.
IF YOU ARE A PROPERTY INVESTOR YOU ARE ACTUALLY IN BUSINESS
Understand that as a property investor you are a business owner and, as such, you need to run your business in a commercially viable way.
It is very important that you structure things correctly from the outset. Structuring your finances properly will mean subsequent investment property purchases will be easier and less expensive. Are your investment purchases being made in your own name, in a company or trust structure or inside a self managed superannuation fund (SMSF)? Having the right advice up front around these and the many other variables that impact your investment property portfolio, with due consideration for your current situation and your future financial goals, will go a long way to helping you avoid costly mistakes and reach your financial goals sooner.
OWNERSHIP OR CONTROL?
While we tend to refer to ‘investment property ownership’, the goal is not so much about ownership as it is control; at least in those early years of accumulating the properties that will make up our portfolio.
Most astute investors leverage against an existing asset (or assets) and qualify with banks and non-bank lenders to have their name placed on the title deed of yet another investment property. While the bank holds the title and thus ownership of the investment property, the investor controls the asset and forever onwards (or until they sell) owns any increase in value of the property. That ought to be your goal as a property investor, control over many assets rather than ownership of merely one.
Initially a property investor’s loan to value ratio (LVR) may be 80 per cent or more, meaning the bank owns 80 per cent or more of the investment property. Using small levels of equity or cash to leverage into property means an investor can in fact have control (have his or her name on the title deed) of more investment property than would otherwise be the case.
When an investment property doubles in value a lender’s 80 per cent share of ownership will be reduced to 40 per cent - the same level of borrowings but a smaller portion of the property’s new value. Believe it or not, it is actually time and inflation that has delivered such a windfall; that is, the difference between what is owed and the new value of the investment property.
Now imagine if you had the right investment strategy, the right finance structure, a concise (investment property) business plan to follow and the right team partnering with you on your investment journey, you were able to control three, four or more investment properties in your property portfolio. Perhaps you have heard the term that a rising tide lifts all ships, the same is true when it comes to building your wealth with property. No one can say with any real accuracy how long it will take a property market to double in value, but they can say with great certainty that property markets will (double in value). So whether it be seven, 10 or even 15 years from now, would you rather own 80 per cent of one investment property today and pay it off during the time the market took to double OR would you rather owe 80 per cent of three investment properties and just service the interest on the loans?
Assuming for this example that the property market doubled and your $400,000 investment properties doubled over a 10 year period, here are the results:
Example One: 20 per cent borrowings and one investment property only. In 10 years time you would have an asset worth $800,000 with no debt against it.
Example Two: 80 per cent borrowings and three investment properties. In 10 years time you would have assets totaling $2.4 m and still owe $960,000 (i.e. 3 times 80% of $400,000).
The property investor in example one would have $800,000 of investment property net wealth while the property investor in example two would have $1.44 m of wealth, net of all debt.
BUY AND HOLD, WITH SELLING AS A LAST RESORT
In each of the two examples above many might be tempted to cash in on their profits, however, there is a strong argument for drawing down on some of your equity for things you want to spend cash on, while maintaining control of the asset.
Lets assume that these properties doubled again in value but to be conservative took 15 years to do so.
The $800,000 debt free investment property would be worth $1.6 m and the investor who achieved that would be very pleased with him or herself, rightfully so. But, the property investor who held onto the three investment properties would have a total asset base of $4.8 m and the really, really exciting part is that the total debt would still only be $960,000 (unless he or she had drawn down on some equity along the way). That means after two doubling cycles, over 25 years, the property investor with the three properties would have amassed $3.84 m - a 240 percent better return than the other investor.
INVESTMENT PROPERTY OWNERSHIP
Hopefully from the examples above you will gain a clear understanding of the advantage of controlling multiple property assets over the argument of owning one. For the purpose of this section however, we will use the term ‘owning investment property’ regardless.
The costs of owning an investment property can be as surprisingly low as the price of a cup of coffee a day. Especially after you take into account the amount you are receiving as rental income, depreciation and the tax deductions you are entitled to, which offset the ongoing costs.
With increasing competition within the property investor market and more and more Gen-Y being encouraged to buy their first home, it’s never been more paramount to:
Plan out your property investment strategy
Calculate your expenses and income
Ensure you get the right finance
Ensure you have your investment finances structured correctly
Buy the right property in the right area
Be guided by professionals who know rather than become one yourself on the back end of years of expensive mistakes and avoidable opportunity costs
Treat everything you do around building and growing your investment property portfolio as a business.
The MRD group of companies first launched on 15th May 2002. Trading as MRD Partners and with 13 years of experience, we've partnered with and assisted our valued clients to ‘check all the boxes’ and move steadily towards achieving their retirement and lifestyle goals.