Director's report - Is it too late to buy an investment property?
5 questions you need to ask that will give you the answer.
The general consensus is that the property markets especially in Melbourne and Sydney have peaked or are close to peaking and that property price increases in general will be lower than what we have seen over the recent past.
Does this mean you put the cue in the rack and wait for prices to slow down or maybe even drop?
History would suggest that when prices slow down or drop, within the next couple of years well located properties that are desired by home owners (not just investors) will recover those losses and increase again primarily because demand outweighs supply.
Now each individual or family are faced with different circumstances that change all the time but lets look at a scenario that many of our clients are in.
A homeowner with a home loan deciding whether to focus on paying the debt off or buy the investment property they have been considering for just about forever.
What is the right call?
The 5 questions you need to ask are the same now as they were when you first pondered buying that investment property?
How much can you contribute from your income to hold the investment property?
The average $500k investment property in Melbourne will cost you up to $10k per year to hold.
(Call us to understand the detail on that because different properties will cost more or less especially government changes handed down in the last budget)
If you have $10k ($200 per week) then that's a start.
If it's more or less you need to adjust your maximum purchase price.
The next question is What else you could do with that $10k?
If you paid that $10k into your home loan you would save yourself around $430 in extra interest. So you would be $10,430 better off.
So that investment property would need to increase in value by $10,430 over the next 12 months to break even.
But while property investment has been a proven tool to create wealth for a huge number of Aussies it still has some risks, so you would want a better result than break even.
What sort of return do you want? is the next question you need to ask yourself.
In this example your $500k investment property would need to increase by 2% per annum to break even.
My personal rule of thumb might be, I would want the property to increase by double that figure. When I consider the tax I would need to pay if I sold and any other risks I couldn't control compared to the safe as houses option of paying down debt. So in this example that is $20,860. A growth rate of 4% per annum.
Now this is very achievable in any one given year. The average growth rate for most major capitals in Australia is above this. So I am all good to go right?
Well that brings us to the next question:
How long do you intend to hold the investment property?
Property by nature is a longer term investment due to the costs associated with buying and selling and recouping them in the short term can be tough. Some say it's about time in the market not timing the market. In other words, it's about how long you hold the property, not when you buy.
I don't subscribe to that. I think both are important but ultimately, if over the time frame you wish to hold the property, it's been proven that the growth rate you require is realistic, then it's a sound basis for making your decision.
Last but not least the final question to ask is do you know your worst case scenario?
We always bang on about this at Financepath because we have seen time and time again smart decisions made when this question is answered.
My break even might be $10,430 in todays environment. But that would increase by around $3,000 if investment interest rates increased by 1%. It would also increase (albeit not by much) if home loan rates increased.
So I need to understand what my break even could increase to and in turn how much the growth rate would also need to increase by.
There are strategies to mitigate these increases and that is part of our role at FinancePath, to pose those questions and ensure you make smart decisions knowing all the information.
These questions will give you the right answer from a financial perspective. There are a number of other factors that also come into play that need to be considered.
We see our role not simply to help you get a loan. Yes its part of it, but our value is in helping you ask yourself better questions. With better questions, smarter decisions are made.
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