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Buying an Investment Property

Once you have bought a home for your family, the next step for many people is to expand their investment portfolios by buying and renting out investment properties. But there is a lot to think about when it comes to buying an investment property so we’ve put together a guide that covers everything from choosing the property to renovations and tax issues.

Choosing your Investment Property

There are several factors to consider when choosing your investment property.  The first is buying in an area that will net you the most capital growth.  This is best achieved by buying in an area that is showing strong growth signs.  Once you have done this, look at the facilities available in the area itself.  Is it close to public transport, schools, shopping centres, recreational facilities, and so forth?  All of these factors are very attractive to renters.

One decision that you will need to make is what type of property you will buy – a house, townhouse, duplex, unit, etc.  whatever you choose, try and ensure that the property has a view of something more than a brick wall or the bins.  Tenants love a good view.  If you are considering buying a unit, try and secure one that has facilities such as an internal laundry, balcony, undercover parking, and security.  If buying a house or townhouse, try and find a property that has good sized living areas and bedrooms, as these are more likely to be rented out by families.

Once you have found the ideal property, you will need to find out if it is worth what you are paying versus the amount that you will get in rent.  There is no point in buying a fancy property if you will not be able to tenant it.  An older unit in a good area is going to rent for more than a flash unit in an awkward suburb.

Securing Finance for your Investment Property

After you have found the perfect investment property for you, you will have to secure finance for it.  There are several options available but you need to remember that securing finance for an investment property is essentially the same as it would be if you were securing finance for your own residential property.  However there are some differences.  For starters, some lending institutions may charge a higher interest rate if the loan is for an investment property.

A good option for investors is an interest-only loan.  This is where you don’t actually pay off any of the amount of the loan itself, you just pay the interest.  An interest-only loan can make it easier to judge the true returns that you are getting from your investment property.  Also, interest payments are tax deductible, while paying off some of the initial loan itself is not.

Managing your Investment Property

You have two options when it comes to the management of your investment property – managing it yourself or having a property manager do it for you.  If you decide to do it yourself, you will save yourself the property management fee.  However, be aware that it can take a lot of time to manage a property and you will be dealing directly with your tenants, which can make it hard to stay emotionally detached, especially if a lot of things go wrong with the property at the same time.

Property managers know what is happening in the rental market and they also have a good idea of what rent prices potential tenants are willing to pay.  They will already have a list of prospective tenants and because they manage properties for a living, they will know how to choose the most suitable tenant for your property.  They are also able to access the services of tradespeople at a cheaper price as they generally use companies to complete work on several properties.  Property management fees are tax deductible.

What you need to know about Capital Growth

Capital growth is the increase in the value of your property as time goes on, and it is the primary reason that people choose to invest in real estate.  Capital growth has been healthy in Australia with the growth rate being around nine percent.  However, because property operates in growth and resting cycles, property should not be thought of as a short term option for making money.  It should be thought of as having a turn around time of at least ten years.

The best way to maximise your capital growth is to carefully research before buying an investment property and buying a property in the right area and at the right price.  This research will mainly focus on the current house prices.  Speaking to a real estate agent is the best way to achieve this.

What you need to know about Capital Gains Tax

Capital Gains Tax (CGT) is charged when you sell an asset, including investment properties but not your residential home, that you have purchased after September 1985.  CGT needs to be paid when capital gains are higher than the capital losses on a property.  The capital gain is the amount of money that you have made from your investment property after the “cost base”, the cost base being the initial purchase price and the money you’ve spent on any renovations.  Therefore, it is important to keep good records of these expenses.  Because CGT is so complex, it is a good idea to get expert advice from an accountant.

What you need to know about Positive Cashflow

Positive cashflow occurs when the amount of money that you get from the rental property is more than the amount that you spend on the costs of having your property – such as mortgage repayments, repairs, maintenance, and the fee you pay to your property manager.  Positive cashflow is great if you need a steady, readily available source of income. 

To maximise the chances of achieving positive cashflow with your investment property, look for properties that are located outside of the major cities.  Regional areas that have universities are a particularly good prospect.  If you have chosen to negatively gear your property, it may take years, but it is possible to make it a positive cashflow property as you pay off your mortgage and so forth.

What you need to know about Negative Gearing

Gearing, in its simplest terms, means borrowing money to invest in a property.  Negative gearing occurs when the costs of investing in a property are higher than the amount of money that you make from the property.  In the terms of an investment property, negative gearing is achieved when the annual net rental income is less than the amount of interest that you pay on a loan as well as the deductible expenses associated with property maintenance.

If you negatively gear your investment property, you are able to deduct the costs of owning an investment property against your income, thus reducing your tax bill.  This is of the most benefit to high income earners.  Also, even though you are recording a loss of income from the property, the capital growth or gains should make your investment a worthwhile exercise.  However, it is important not to overcommit yourself as you still need to make the mortgage repayments!

What you need to know about Depreciation

When it comes to tax time, there are certain things that you are able to claim as the owner of an investment property.  These include the depreciation of items such as stoves, any furniture in the property, and refrigerators or other big appliances.  To claim the depreciation, you will have to write off the item over its effective life, usually a set number of years.  For example, if you have a stove with a life of 12 years, you will be able to claim one-twelfth of its cost every year as an expense.  There are two types of depreciation – for assets, and for capital works.  To get the maximum benefit from depreciation you should talk to a quantity surveyor or other specialist.  The higher the depreciation that you claim, the more you will have to offset against your income if you choose to go the negative gearing route.

What you need to know about Insurance

Once you have bought your property, you will need to insure it.  This will help to mitigate the financial risks that you have undertaken.  Tenants are responsible for insuring the contents of the property but you, as the landlord, are responsible for insuring the building itself.  It is also a good idea to get landlord’s insurance.  This insurance will cover you against any accidental or malicious damage to the property, as well as legal liability in the case of a tenant injuring themselves or lost rental income if tenants stop paying or move out without notice.

What you need to know about Renovating

You may think that it is a good idea to buy a place that isn’t in the best of condition and renovate it before installing tenants.  While this is often a good strategy, you need to be careful as the investment property only needs to be suitable for your tenant.  Your personal preferences should not come into play.  Renovations are best undertaken if it means that the property will not stay vacant or if it will significantly increase the amount of rent that you can ask for.  For example, it is not a good idea to spend $10,000 on a new kitchen if you will only be able to claim $10 per week more in rent.  It is important that you do not overcapitalise on your renovations.

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