By Philippe Brach, CEO, Multifocus Properties & Finance
A chef’s kitchen and a double garage may be on your wish list as a homebuyer but, as an investor, it pays to focus more on the numbers than the individual property features.
I am often asked questions about the ‘right’ way to invest in property. In fact, one of the most common queries I field is: “Should I buy for cash flow or capital growth?”
The answer? Capital growth over time is what is going to increase your wealth, but you need to be smart about your cash flow while you wait for the property to grow in value. Investors who concentrate purely on cash flow will never get rich, but investors who look for capital growth AND manage their cash flow smartly will be successful.
Capital growth is about locations close to economic hubs, e.g. commutable distance to capital city CBDs but, if you are too close to a CBD, rental yields will be very low and cash flow can hurt you.
To achieve an acceptable cash flow, whilst staying within commutable distance to a CBD, your primary focus needs to be on locating properties just that bit further away, where yield increases and cash flow becomes kinder to your back pocket. Of course you still need to do the usual due diligence. For example; what is the local vacancy rate? What types of properties are most sought-after by prospective tenants? Do they want extra bedrooms or is a backyard for pets and kids more important to renters in that area? Are average rental returns growing or have they been stagnant?
By focusing on the numbers you can get a clearer idea of the exact type of asset you need to buy and, right now, the best investment for most investors tends to be a new property.
Nudging investors toward new properties
We are all aware by now that depreciation rules changed in 2017. Following the Federal Budget in 2017, investors buying second-hand properties no longer have access to depreciation on plant and equipment items included in the property (carpets, blinds, etc.).
This announcement rattled many landlords and would-be investors, but keep this firmly in mind: investing in property is all about the numbers, rather than the real estate.
In the current marketplace, the numbers are clearly directing investors towards new properties, for several reasons:
New investment properties attract full depreciation benefits. As a guide, if you decided to buy a townhouse today that was built in 2014 with good quality finishes, it would deliver depreciation benefits (capital works) of around $5,000-$6,000 per year. The same property bought brand new today would attract depreciation (capital works and plant and equipment) of $11-14,000 – around double.
As a result of the higher depreciation benefits mentioned above, landlords who own new properties have better cash flow, particularly in the first seven to ten years of ownership. Let’s say your top marginal tax rate is currently 39% (37% plus 2% Medicare levy). Your depreciation related tax refund on the 2014 property would be around $2,000-$2,400. On the new property, it jumps up to $3,900-$5,500.
In addition to the depreciation and cash flow benefits, a new property generally requires less maintenance. With less repainting, air-conditioning units to replace and fewer faulty taps & pipes to repair, your investment will cost you less to own and maintain.
Premium on purchase?
A common argument I hear is that buying new means you pay a premium compared to an existing property. Of course you do! A new product is always more expensive than a second hand one and there’s nothing wrong with that. If you pay $20K more for a property because it is new (don’t forget you have near zero maintenance for some time, it is a more desirable property for tenants - who will be prepared to pay more rent for it - and there is more depreciation available to you), does it really matter when the property doubles in value in 15 years?
These are the types of facts and figures I encourage my clients to focus on when deciding what type of property to invest in, and more often than not, they lead investors towards new properties rather than secondhand. This is because, by adopting a ‘bigger picture’ view, you can consider the positive impact your investment could have on your lifestyle not only in retirement, but also in the present.