A Tale of Two Investors

It’s not often in life you get such a stark demonstration of how different decisions can lead to vastly different outcomes. But this was definitely one of those times, involving two property investors.

A client – let’s call him Andy – had entrusted Momentum Wealth to assist in the purchase of an investment property around two years ago. All up he paid $458,000 for the property, which was located in an established area of Perth. I was very pleased to discover that a bank had just recently ordered a valuation on this property and it came in at $585,000.

What made that moment particularly memorable, however, wasn’t learning about a client’s success but rather a sad email that I received. The email was from a financial advisor who was seeking some property-related advice regarding an investor – let’s call him Paul – who found himself in a rather difficult financial position.

Paul was sold an investment property by a well known ‘investment group’. The property, located in an outer-Brisbane suburb, was purchased sight unseen for $428,000 around the same time that Andy had purchased his property.

The shock came when I read the email further, which explained that based on recent sales evidence the property was now worth around $300,000. Paul was now in a difficult predicament, unsure whether to hang on to the property in the hope it will recover its value or cut his losses and sell.

While I hate to see anyone suffer such a loss (albeit on paper), it’s made worse when you think about the success Paul could of had if he had sought proper advice. In fact, if Paul had achieved similar returns to Andy, he would be somewhere in the region of $250,000 better off.

These companies typically operate with a very slick sales process with the ultimate goal of you buying a new property off the plan, sometimes in a distant location which you have been told is a “good investment”. The consultations and service is “free” as a hefty commission is loaded into the purchase price.

These companies spend a lot of time talking to builders and developers from around the country, trying to negotiate deals that involve high rates of commissions in exchange for providing an effective channel for flogging hard-to-sell property.

Investment groups only get paid when they sell you a property, so it’s not uncommon to experience high pressure sales tactics.

Many investors fall for this firstly because there is an assumption the purchase is free. Plus, it is very easy to get caught up in the excitement of buying a new property because it looks so good and offers benefits such as depreciation, low maintenance, and strong demand from tenants.

There are a few reasons why investments made through these companies often don’t live up to the promises that were made, particularly in terms of capital growth.

As with Paul’s case, not only did the property fail to increase in value but worryingly it is now worth around $130,000 less.

The poor capital growth performance of these investments is primarily due to the fact the properties are not what I would call ‘investment-grade’. They are in areas with massive supply potential, typically on the outskirts of major cities or in speculative locations. Additionally, the properties, which are almost always new or off-the-plan, have a high proportion of their value in the building which depreciates over time, limiting the opportunity for growth.

Making the situation even worse, properties sold through investment groups typically have inflated prices to cover the commission that will be paid by the developer or builder.

Clearly, the cost of ‘free advice’ offered by investment groups can end up with a rather hefty price tag. Consultants who represent these companies may say they are helping you but they are just helping themselves.

Any business of course needs to make money but there is a monumental difference between what an advisor does and what these investment groups do. A property investment advisor should offer simply that; advice on where and what to invest in and remain independent from any property sellers. There should be no financial incentive to push you towards one property over another and a buyer’s agent or advisor that you engage ensures this by charging you a fee for service plus there is a legal obligation to act within the best interests of their clients.

The other major difference is to do with transparency. Although employing a buyer’s agent involves a fee for the service clients are completely aware of this fee when they engage the service. Plus, when you consider the scale of the returns that a great investment can generate, as it did with Andy, it certainly highlights the true value of employing a professional who is working within your interests and providing sound property advice.

Finance: Exiting a Loan Can Still Be Extremely Costly

You’re probably aware of the fact that since the first of July 2011, lenders cannot charge “early exit fees” on variable rate home loans. But what some borrowers have forgotten is that the legislation doesn’t apply to fixed rate loans, which are growing in popularity due to the extremely low interest rates being offered.

Taking out a fixed rate loan can be a relatively easy process and deliver significant benefits to certain borrowers. However, breaking such a loan can still be very expensive.

How do you ‘break’ a loan?

There are a few scenarios that could trigger the hefty break costs associated with fixed rate loans. Repaying the loan before the end of the fixed rate period or switching to a different product within this time are the more obvious ones.

But even just making extra repayments on a fixed rate loan can cause some lenders to charge you penalties. While most lenders will allow you to pay a small amount off your loan each year without being charged, going above the accepted tolerance could prove costly.

Why are lenders allowed to charge for this?

A fixed rate loan is a legal contract guaranteeing that you’ll pay a fixed amount of interest on a loan for a certain period of time. Breaking this contract means your lender is entitled to be compensated for any losses incurred.

How much will you pay?

Calculating the costs involved with breaking a fixed rate loan can be quite complex. A key factor is how the interest rate on the fixed loan compares to current interest rates being offered. If interest rates are currently lower that the rate on your fixed rate loan, then the costs could be significant as the lender won’t be able to make as much money from re-lending the money.

On the other hand, if interest rates are higher, then there may be no costs involved with breaking the fixed rate loan. But borrowers don’t often exit a loan if they are paying lower than the prevailing rate.

The amount owing on the loan will also impact on the calculation of break costs, generally the more owed the higher the costs. Similarly, more time there is left in the fixed term of the loan the bigger the costs. Breaking a 10-year fixed rate loan therefore could be extremely expensive, which is why most borrowers typically choose terms of 2-5 years.

Here’s what to do

If you currently have a fixed rate loan and need to break it, before you do anything ask your finance broker to obtain a quote from the relevant lender regarding all break costs. From there you can make an informed decision about whether the benefits outweigh the costs.

If you are considering choosing a fixed rate loan for a new purchase or to refinance, think sensibly about the flexibility you’ll need in future and the potential costs you could face by locking in a fixed interest rate. Again, your finance broker will prove invaluable in helping you to make this important assessment.

Property Management: Is Now a Good Or Bad Time to Increase the Rent?

The rental market in Perth has changed considerably over the past 12 months. An extremely tight market, where rents increased more than 10 percent annually, has now been replaced by a far more balanced one.

One of the biggest changes has been the fact that the number of properties available for rent has been steadily increasing, with the Perth vacancy rate sitting just over 3 percent.

Why the slowdown? There are a few reasons. With historically low interest rates, many renters have decided to buy rather than rent, reducing the pool of potential tenants. The slowdown in mining investment has also had a flow-on effect on the rental market, but predominately at the upper end.

With more properties available for rent, tenants now have a greater choice than before and landlords must react accordingly. If you have a vacant property, you must be careful not to make your property uncompetitive in the marketplace. Your Property Manager should provide you with a plan outlining what the competition is, what the market rent is and what improvements and or lease conditions can be offered to minimise the vacancy period.

What about if you are renegotiating a new lease with an existing tenant? Again, if you price the property too much above the market rate then you risk the tenant deciding to leave. A vacant property can be costly, so you’ll need to consider the current market conditions to see if an increase is warranted.

The market is constantly changing and conditions can vary dramatically from area to area, so it’s best to rely on the advice of your property manager to set the correct market rent. A good property manager will always be able to show you evidence of whether or not an increase is supported by the market and what can be done to the property to make it competitive and appealing to tenants.

Understanding Motivation is the Key

It’s often said that most of the profit in property is made when a purchaser buys the property. While that isn’t always the case, being able to negotiate property deals is crucial to making a lot of money in property investment.

Most people go wrong in property negotiations by not understanding that the person you are dealing with on the other side is human just like you, who has needs and emotions. You will be a far more successful property negotiator if you understand the underlying positions of the other party.

To understand the other parties’ position, you have to ask questions. If the seller is using a real estate agent then you can ask the agent those questions.

There are 7 important questions you must ask a seller. One of those questions is simply “why are they selling”. You want to ask this question for two reasons. Firstly you want to find out the other parties’ level of motivation. How desperately do they need to sell their property? Secondly you ask this question because you want to see if you can structure a deal that meets their needs and at the same time gets you a great deal as well.

Next time you go to a home open, ask the agent this question. Often you will get lots of information that can greatly help you get the best property deal.

An important area to property success is using contract clauses to protect your interests when buying. In some states, a standard contract is used in most property purchases. In other states, the contract is drawn up by the seller’s solicitor. Usually these contracts have one thing in common. They aren’t particularly friendly to buyers.

You need to insert your own clauses to protect yourself when placing offers. They are what I call are “get-out” clauses.

You also should be very wary of accepting real estate agents clauses for building inspections and other contract clauses. Don’t forget the real estate agent is representing the seller, not the buyer. Only a Buyer’s Agent truly represents you.

Property Tax Tips: Types of Investment Structures – Individual / Joint Names

Continuing on from our July edition regarding the factors to consider when choosing an investment structure, this month we’ll focus on the first type of structure – investing in your own name or in a joint name with a spouse or partner.

For most people the easiest way to acquire property is to purchase it in your own name or joint name with a spouse or partner. This is one of the most common structures and also one of the most simple.

Advantages

One of the biggest advantages is its simplicity and thus low cost. There is no actual structure to set up and no fees or compliance costs that other structures incur. You don’t need to take any specific action in order to purchase a property in this manner, you are ready to act immediately.

If you choose to sell your property, you are also able to utilise the full 50% capital gains tax discount (if you hold the property for more than 12 months). When you invest in your own name, you can take advantage of negative gearing by offsetting any losses against income such as salary or wages. Depreciation on your property also acts as a tax free ‘cash back’ each year. And lastly, you can pre-pay interest for up to 12 months and get an interest deduction.

Disadvantages

This type of structure has two main disadvantages, both of which can have long-term effects on your wealth. The first is that there is no asset protection. If you or your spouse or partner were to be successfully sued, your property may be taken to pay off your debts.

Secondly, it is quite an inflexible structure when it comes to distribution of income or capital gains which can have big tax implications. To minimise your tax, if a property was producing an income even after interest expenses on the loan, you would ideally distribute income to the person with the lowest taxable income. Likewise when you sell a property, you would also want the capital gains distributed to the lowest income earner as they will pay the lowest amount of tax. If you are making an income loss each year on your property, then you would want that loss to be in the name of the highest income earner to offset their income.

Unfortunately investing using this structure can only allocate the gain or loss to the named individual (or shared equally amongst the joint owners). It does not provide the flexibility to make any decisions about income allocation as your circumstances change with time (such as when a negatively geared property becomes positive or a partner leaves work to raise children).

With all structures there are always positives and negatives that need to be considered when assessing the right structure for you.

A Healthy Driver of Growth

It is estimated that around $5 billion will be invested in health care building projects in Perth over the next five years, but how will these significant projects affect the local property market?

Hospitals are rarely far from the news and it’s no wonder given the critical role they play in modern society. In Perth, much of the recent talk has surrounded the various major hospital projects that are planned or already underway.

A key question for property investors is how will these significant projects affect the local property markets? There will undoubtedly be both positive and negative consequences.

A quick summary

Let’s start by summarising the major hospital projects in Perth:

Fiona Stanley Hospital

The flagship project of the city is the $2 billion Fiona Stanley Hospital in Murdoch, which will be the state’s most sophisticated health facility. The hospital is one of the biggest infrastructure projects in WA history and is scheduled to open in October 2014.

New Children’s Hospital

A project that has seen its fair share of media scrutiny is the new children’s hospital, which will replace Princess Margaret Hospital for Children. Construction for this project began in January 2012 on the Queen Elizabeth II Medical Centre site in Nedlands and is due for completion in 2015.

Expansion of Joondalup Health Campus

The Joondalup Health Campus, the largest health care facility in Perth’s northern suburbs, has recently undergone an expansion and redevelopment worth around $393 million, delivering extensive new facilities and expanded services for public and private patients.

Midland Hospital

The new Midland Public Hospital, scheduled to open in 2015, will be the first new hospital in the area in more than 50 years and construction is already underway. The new facility will replace the existing Swan District Hospital, providing new and expanded services and a 50 per greater capacity.

Jobs, jobs, and more jobs

Hospital projects often involve enormous amounts of construction and therefore generate large numbers of construction related jobs, which can last many years.

But even after construction has finished, hospitals still require many permanent and part-time jobs making them a major local employer. It’s not just the obvious medical jobs required, such as doctors and nurses, but also positions in areas such as administration, cleaning, IT, security, accounts, legal, marketing, and HR. Jobs attract people and naturally increase the demand for housing.

Economic activity

The economic impact of a new hospital extends beyond the hospital itself. With its large workforce and ability to attract people from a wide area, a hospital can have a tremendous impact on the community in which it is located. It can spawn a variety of other businesses servicing the local population, from non-hospital medical services to cafes.

This increased economic activity not only injects life into an area and makes it more appealing, but it also creates even more jobs. A new hospital can also trigger new transport infrastructure, a further boost for the area.

The local property market

How does a new hospital impact on the local property market? Firstly, it could increase the demand for housing in the area, both from people who work at the hospital during or post construction, and from people who value living close to medical facilities.

New research has found that health infrastructure is a key driver of where Australians will choose to live, surpassing employment as the most essential consideration.

In a survey of more than 1,000 people by MWH Global, respondents were asked ‘Which of the following would improve the quality of your life if they were in closer proximity to you?’ The option ‘Better access to hospital/specialist medical care/24-hour medical care’ was chosen by 53 per cent of respondents.

The extra demand for housing triggered by a new hospital could put upward pressure on rents and property prices in the surrounding areas. And these areas should continue to experience the benefit of increased demand well into the future, fundamentally shifting the nature of the local market.

Any risks?

With the amount of people coming in and out of a hospital, there is a risk that increased road traffic could affect some properties in the immediate area. Previously quiet areas could suddenly experience more noise and congestion, devaluing properties.

Hospitals by their very nature can attract a certain degree of anti-social behaviour, which can spill out into local areas. This is especially true for hospitals in inner-city locations that report high incidents of drunkenness and violent conduct.

Could a new hospital encourage new housing developments that flood the market? While developers may be encouraged to build apartment complexes and other housing to cater to hospital staff, limited land supply often curtails the amount of development that is possible.

Is there a risk that a hospital closes down? Given the significant investment that goes into a new hospital and the vital services it provides, it’s unlikely that one would suddenly close down. But over many years, it’s possible that a hospital could scale back or move to another location. If this happened, there could be negative consequences for the local area.

Conclusion

A new hospital can certainly change the economic landscape of an area and therefore have a significant impact on the local property market. Buying close to the site of a future hospital can prove to be a wise investment, especially in the parts that will have good transport links, but the risks need to be carefully evaluated.

Perth Houses Leading the Way

Perth’s median house price rose 3.2% over the three months to April, according to Australian Property Monitors (APM).

This was the strongest amongst the capital cities, and took the annual growth in the median house price to 6.7%.

The unit market hasn’t performed so well. The median unit price rose a marginal 0.4% over the quarter, with the annual figure showing a drop of 0.6%.

Most experts predict growth in the Perth market will slow over the remainder of the year, as the market responds to changes in the mining industry.

Large WA mining projects are transitioning from a construction phase to a production phase.

“What’s happening in WA is not an end to the mining boom, it’s an end to the infrastructure boom,’’ said RP Data analyst Tim Lawless.

“If you find some indicators are weakening, they’re actually weakening from an exceptionally high level,” Mr Lawless said.

Local market commentators are expecting a slowdown in growth in the Perth market overall. However well selected properties should still generate strong capital growth.

Property Acquisitions: Why it Pays to Understand the Valuation Process – Part 2

This month we will explain the role that sales evidence plays in the valuation process, some of the challenges faced by valuers and how investors can get the most out of their valuations.

There is a saying you often hear in real estate circles that a property is only worth what someone is willing to pay for it. But if the property hasn’t sold and isn’t even on the market, how does a valuer determine its value? Just like a crime scene investigator, a valuer must examine the evidence. Specifically, a valuer will look at recent sales of comparable properties in comparable locations.

By using the information uncovered during the inspection and comparing the target property to similar properties that have sold, the valuer can determine a valuation. Of course, the more similarities there are between the target property and those used for comparison, the more accurate the valuation will ultimately be.

At least 3 properties will typically be used as sales evidence and these properties must have sold recently, say within the last 6 months. However, depending on the state of the market and how rapidly it is changing, valuers may choose to only rely on sales that have occurred within the last 3 months.

With the analysis of sales evidence complete, the valuer will compile a report outlining the properties that were used for comparison and how these properties differ from the target property. The report, specifying the valuation figure, will be supplied to the person that requested the valuation. If the valuation was commissioned by a lender for a loan application, the borrower may not be given a copy of the report. The borrower can however ask the lender for the valuation figure.

One of the major challenges facing valuers is performing their role under immense time and cost pressures. Valuation fees are typically quite low and this means that valuers can’t always invest the amount of time they would like into each valuation. Some people describe the valuation process as a production line.

There are also legal pressures facing valuers. If a borrower defaults on a loan and the sale of the repossessed property fetches less than it was valued for, the valuer could potentially be sued by the lender. Although this is a rare occurrence, many people believe the threat of legal action causes valuers to be overly conservative. Examples have shown that different valuers can provide very different valuations for the same property.

Why is it valuable for investors to understand the valuation process? There are a few reasons. Firstly, understanding the factors that determine a property’s value can help you to spot a bargain and avoid overpaying for a property.

Secondly, having knowledge of the process can help ensure you get favourable valuations on your new purchases or existing properties. Providing the valuer with information relating to relevant sales evidence can help you make a strong case for a higher valuation. Pointing out positive characteristics about the property, which might not be obvious to the valuer, can also work in your favour.

It’s important to remember however that valuers are experts in their field, so you don’t want to patronise them. But if you have information that may save them time, most valuers would be willing to look at it.

Finance: The Weird World of Lender’s Mortgage Insurance

Lender’s Mortgage Insurance (LMI) is a type of insurance that has been used by millions of Australians who have entered the property market, but it’s a product that isn’t widely understood. So, what is it, when is it used and who is it actually for?

LMI is a type of insurance that is generally required when you are buying a home or investment property and you don’t have a large enough deposit. Generally, it kicks in when you are trying to borrow over 80 per cent of the property value.

LMI is arranged by the lender during the loan approval process and involves a one-off cost, which can often be added to the loan. The premium, which can be many thousands of dollars, is calculated based on a sliding scale that relates to the value of the property, the percentage of the purchase price being borrowed and the loan amount. However, there are other factors that can impact on the figure, such as the type and location of a property.

The biggest misconception about LMI relates to who it actually protects. Although it is paid for by the borrower, its purpose is to protect the lender in the case of a default on the loan. It covers any shortfall that may arise if the lender repossess the property and isn’t able to recover enough money to repay the loan and relevant costs. The clue is in the name. LMI doesn’t benefit the borrower as the borrower would still be liable for a default.

LMI should not be confused with Mortgage Protection Insurance, which covers your mortgage repayments in the event of death, sickness, unemployment or disability.

Some people believe that LMI is overly expensive, especially when you consider that default rates in Australia, even among first-home buyers, are very small. Another common gripe is the fact that refinancing a loan can trigger LMI, even if it was paid when the original loan was approved.

How do you avoid paying LMI? One way is to save enough of a deposit, generally at least 20 percent of the property value. Another way is to have a guarantor, perhaps a family member, provide security to cover an agreed portion of the loan.

As different lenders have different criteria and premiums in relation to LMI, it makes sense to consult with a finance broker who can discuss the pro’s and cons of LMI. Borrowers still may choose to pay LMI if it means getting their home or investment sooner, particularly where costs of a rising market may outweigh the time it will take to save a larger deposit.

Property Management: How Changes to the Residential Tenancies Act Will Affect Investors – Part 2

Now that July 1 has passed, a new set of laws have come into place that govern renting in Western Australia. We discussed some important changes last month and we now continue with this theme, focusing on pets, bonds, security and repairs.

Expanded use of pet bond

Prior to July 1, you could only charge your tenant a pet bond (to cover fumigation expenses) if the tenant kept a dog or a cat at the premises. Now, under the new laws, it’s not just limited to cats and dogs. A pet bond can be charged when your tenant (with permission) keeps any pet capable of carrying parasites that can affect humans. This, however, does not apply to guide dogs that are kept on the premises.

Increasing the security bond

One of the reasons why you might want to increase the amount of the security bond is to keep it in line with increases in rent. Previously, this could only be done 12 months after the start of the tenancy or 12 months after the last bond increase.

With the new laws, you will be able to increase the security bond every six months as long as there has been a lawful increase to the rent in that time. A minimum of 60 days written notice must be given to the tenant and, as before, the security bond cannot be more than the equivalent of four weeks rent plus a pet bond (unless the rent for the property is $1200 per week or more).

Minimum requirements for locks and security

Under the old laws, you were only required to provide normal locks to external doors and ensure all opening windows can be secured by catches on the inside.

The new laws contain far more detailed requirements by specifying the minimum standards that need to be in place to ensure premises are reasonably secure. The minimum security standards relate to door locks, window locks and exterior lights.

Under the new requirements, the main entry door must have either a deadlock or a key lockable screen door. Similarly, all other external doors must have either a deadlock or, if a deadlock cannot be fitted, a patio bolt lock or a key lockable security screen. This excludes balcony doors where there is no access to the balcony except from inside the premises.

The new laws state that your property must have an exterior light that can illuminate the main entry and be operable from inside the premises. However, this does not apply if a strata company is responsible for the lighting to the main entry.

Luckily, you will have two years from 1 July 2013 to make sure your property complies with these new security requirements.

Don’t have to repair everything

Under the new laws, if you tell a tenant that a fixture or chattel is not working before they enter into a tenancy agreement, or if it’s obvious that it was not working at the time they entered into the agreement, you will not have to maintain or repair these fixtures and chattels. However a property must be habitable and safe so you will not be able to contract out of those items being in working order.

Property Tax Tips: Choosing the Right Investment Structure

It’s one of the most important decisions when buying an investment property. What structure should you use to hold the investment? Given that the there are numerous investment structures available including Individuals or Jointly, Partnerships, Companies, Fixed or Unit Trusts, Discretionary (Family) Trusts, Hybrid Trusts, and Superannuation Funds, how do you decide? Here are some important considerations:

Accessing negative gearing benefits

If you purchase property in a trust or company and the property is negatively geared, the losses will be trapped at the trust or company level (unless you have other income, such as business income you can “inject”) and cannot be offset against income derived by a beneficiary or shareholder. However, an individual (including a partner) can offset negative gearing losses against other income.

Whether the 50% CGT discount can be accessed

Companies are unable to access the 50% Capital Gains Tax (CGT) discount and superannuation funds are only eligible for a 1/3 discount. Individuals receive the full 50% discount and trusts can pass out the CGT discount to individuals.

Ease of accessing equity

As property prices rise, you may seek to draw down on the capital (by refinancing, for example) to use for other purposes. However, capital can generally only be accessed tax-free from discretionary trusts and by individuals (including in partnership). Capital cannot generally be accessed tax-free from a company, as any payment is generally treated as a dividend. In relation to unit trusts, any drawings by the beneficiary will reduce the cost base of the units, potentially triggering a CGT event.

Asset Protection

In an increasingly litigious society, protection of assets from lawsuits and creditors is an increasingly important consideration for people who may be at risk. Professionals, such as doctors or dentists, due to their exposure to professional negligence, may have asset protection as their main aim. Different structures offer different degrees of asset protection.

Ultimately the decision will be between you and your Accountant as to which structure is most suitable for you. However it’s important that you choose professionals such as finance brokers who understand the different structures so they can work with you to ensure you are structuring your loans in the most appropriate manner for you.

How an Off-The-Plan Apartment Can Instantly Lose Value Even in a Healthy Market

The value of an off-the-plan apartment can drop instantly, even without dramatic changes to the overall market. But how?

There are many reasons why an owner-occupier may be attracted to apartments that are being sold off-the-plan. They may desire, for instance, to choose a preferred position in the building and have an influence over the interior fit-out.

Off-the-plan apartments can also be enticing to investors looking to sell for a profit. The idea is that the value of the property will hopefully increase in the time it takes to complete the development, which could be several years. By selling the apartment after settlement, the investor can turn a relatively small deposit into a substantial profit, all while avoiding those nasty holding costs.

Of course, there are many potential pitfalls when buying off-the-plan, but I want to focus on what can cause the value of a recently completed apartment to seemingly drop in an instant. I’m not talking about a decline in the overall market but rather the things that can play havoc with the value of a property even when the market is healthy.

An overcrowded market

Generally speaking, the more supply there is of a particular product, relative to demand, the lower the price will be. When it comes to apartments, excess supply can certainly drive down values by increasing the competition amongst sellers. For an investor looking to sell a recently completed apartment, competition can come from three areas.

Firstly, there is a good chance that other investors who purchased in the same complex have had a similar idea to buy off-the-plan and then sell for a profit on completion. This means a number of almost identical properties would come onto the market at the same time.

Secondly, even if a large proportion of the development was sold off-the-plan, the investor’s property may still be competing against the remaining developer’s stock, which is probably untenanted.

Thirdly, depending on the location, there is a chance that other apartment complexes may have been built nearby, which only adds to the glut of properties and drives down prices. A classic example of oversupply happened in the Docklands area of Melbourne, where apartment values were significantly less than what investors paid at settlement.

Different buyers

With Australia’s growing population, strong economy and robust property ownership laws, Australian real estate is well regarded on the international scene.

Foreign investment regulations in Australia say that foreign buyers can only invest in Australian real estate if that investment adds to the housing stock. In other words, they can only buy new or off-the-plan properties. This is why apartment developers and marketers like to specifically target foreign buyers, particularly those in China and other parts of Asia.

Many foreign buyers have plenty of money to invest but not a lot of knowledge about the local market they are entering. Relying on advice from salespeople, these buyers can easily pay too much for their off-the-plan apartment.

Furthermore, foreign buyers may have unique motivations for buying property in Australia, such as a desire to emigrate in the future, help out a relative or get their money out of an unstable country. Again, this extra motivation can lead to overpaying.

Sales to foreign buyers at inflated prices can have a knock-on effect for local buyers, as the sales become a precedent for the remaining properties. Buyers naturally feel more confident with a purchase knowing that others have paid a similar price.

Valuers may also use sales to foreigners to justify the valuations required by lenders, further compounding the problem by giving buyers a false sense of security that the value ‘stacks up’.

But it’s not just misleading sales evidence that can hurt investors of off-the- plan apartments. There is also the fact that cashed-up foreign buyers are not permitted to buy established dwellings, so the ‘resale’ market comprises only of local buyers.

With weaker demand and potentially excess supply, properties will inevitably adjust to real market value and this could be significantly less than what investors paid.

Where’s the incentive?

It’s common for off-the-plan apartments to be sold with some sort of incentive, such as a rental guarantee or furniture package.  These bonuses can be used to justify a high price, or they actually inflate the price by adding additional costs.

The problem is that these incentives are no longer there when the apartment is resold by the original purchaser.

Subsequent purchasers don’t have the same incentives attached to the purchase and this will be reflected in the price they are willing to pay.

Conclusion

It’s easy to see how the value of a recently completed apartment could drop, seemingly instantly, to the shock of the investor who made the off-the-plan purchase. Even without any dramatic changes to the overall market, a newly purchased property can appear to lose its value either because the investor overpaid to begin with or because of different market dynamics.

For investors who plan to buy and hold an off-the-plan apartment, the damage can still be significant. A poor valuation after completion can affect the investor’s ability to access equity, which could halt the wealth creation process and take many years to recover.

Most Movers Want to Stay In WA

In a sign of the strong ongoing demand for property in WA, of the nearly half a million people in WA who plan to move house in the next three years, 87 per cent intend on staying within WA.

In a sign of the strong ongoing demand for property in WA, of the nearly half a million people in WA who plan to move house in the next three years, 87 per cent intend on staying within WA.

The figure comes from the 2012 WA Housing Motivations and Intentions Survey released recently by the Australian Bureau of Statistics. According to the survey, there is a strong push by renters looking to buy, with just over half of those intending to move being renters.

Of the 429,000 adults planning to move within WA, 61 per cent intend to move within the Greater Perth area and most said they would prefer their next dwelling to be a separate house. Interestingly, 47 per cent planned to move within the next 12 months.

The main reasons people gave for wanting to move were relating to the appearance and layout of their existing home or simply a desire for a better quality residence.

When choosing a future location, familiarity with an area was important, as well as being close to family or friends. Having access to facilities and services such as shops or schools also mattered to a high proportion of people.

Why it Pays to Understand the Valuation Process – Part 1

How does a professional valuer perform a valuation on a property, what are some of the challenges, and how can property investors use knowledge of the valuation process to their advantage?

The formal valuation process is an integral part of property investment and it pays for property investors to understand the ins and outs.

In this two part series we will look at how a professional valuer performs a valuation on a property, what challenges they face, and, importantly, how property investors can use that knowledge to their advantage.

What is a formal property valuation?

Put simply, a valuation is the estimated market value of the property on the date of valuation, based on what it would sell for under normal circumstances where both the buyer and seller are acting knowledgably and without undue pressure.  A valuation is performed by a professional valuer who has no stake in the property and the valuation is generally valid for a period of up to three months.

The difference between a formal valuation and a market appraisal (typically done by a real estate agent) is that a formal valuation can only be done by a qualified valuer with the prescribed education and training. An appraisal is intended to be more of a guide to what the property may fetch if it was sold, based on local knowledge and recent sales evidence.

There are a few different types of valuations, including a Kerbside Valuation, which involves no internal inspection of the property, just a ‘drive-by’, and a Desktop Valuation, which simply consists of research done at a computer. However, let’s focus on a Full Valuation, which involves the valuer undertaking a full inspection of the property, including an internal inspection.

Who uses valuations?

Valuations are most often used by lenders to determine the value of the assets being used as security for a loan, and to calculate how much they are willing to lend. Buyers, sellers and property owners may also order valuations to determine the value of their existing assets or those they plan to acquire.

The inspection process

Let’s take a common scenario where an investor is seeking a loan for a recent house purchase. Before the loan is approved and the amount of the loan finalised, the lender will order a valuation from an independent valuation company selected from its panel (list) of valuers.

The valuer will visit the property and conduct an external and internal inspection, taking pictures and even asking the owner questions about the property. The valuer will evaluate the land component of the property, which can make up a significant proportion of the property’s total value. Among other things, the valuer will assess the size, shape, aspect, and topography of the land as well as the zoning and development potential.

Inside the property, the valuer will measure the size of the building and take note of the number and type of rooms, the property’s age and condition, its fixtures and fittings, its design and layout, and any unique characteristics that could affect the value.

Interestingly, valuers look at many of the same things that a prospective home buyer would look for when assessing a potential purchase. The reason is that overall home buyers make up the majority of the market for real estate and therefore play a major role in determining “market value”.

Valuers are often acting under specific instructions from a lender. For example, they may be instructed to value the property as a single residence even if the property has potential as a duplex or triplex development.

Next month we’ll explain the role that sales evidence plays in the valuation process, some of the challenges faced by valuers and how investors can use this knowledge to their advantage.

My Credit Cards aren’t a Problem Because I Wipe Them Every Month, Right?

There is a common misconception amongst borrowers that if you pay off your credit card every month, it won’t impact on your application for a property loan. While some lenders may ignore credit cards that have been paid off in full for three months in a row, the reality is that most won’t.

The way most lenders treat credit cards when assessing a person’s liabilities for a loan application is to assume that the credit cards are fully drawn to their limit. Sound absurd? Perhaps a little, but the reason is understandable. Credit cards are a quick and easy source of unsecured credit. With one simple swipe, the bower can accumulate a lot of high-interest debt, which would affect his or her ability to repay other loans.

Even if a borrower doesn’t use a particular credit card, the card’s limit – not its balance – will be taken into account, most likely reducing the person’s borrowing capacity. It’s seen as a liability that the person may have in the future whether it is used or not. How much of a liability? Lenders can count as much as 60 per cent of the credit card limit as a yearly repayment. So, it’s easy to see how a credit card with a large limit can dramatically reduce someone’s borrowing capacity.  Every $1,000 of credit limit can reduce a person’s borrowing capacity by $5,000. A limit of $50,000 can reduce borrowing capacity by $250,000!

Credit cards can’t be “hidden” from lenders as they appear on your credit reference, so having numerous credit cards can cause a lot of problems when it comes to getting a home or investment loan. Ironically, some people believe having many cards means you are a good borrower with low risk. But generally speaking, lenders don’t like to see too many credit cards, as it implies a lifestyle supported by credit

What can you do to maximise your borrowing capacity? Speak to your Finance Broker before applying for your loan. They will be able to advise you on your credit card limits and how they will affect your borrowing capacity. This will give you time to adjust your limits if required.

How Changes to the Residential Tenancies Act will affect Investors

What are some of the more important changes to the Residential Tenancies Act and how they will impact on landlords?

Renting in Western Australia is governed by the Residential Tenancies Act 1987 (The Act). After a recent comprehensive review by the Department of Commerce, many of these laws will change as of the 1st of July this year.

Over the coming months we will discuss some of the more important changes and, specifically, how they will impact on landlords.

Making changes to a residential tenancy agreement

Previously, the owner/agent and tenant could agree not to comply with specific sections of the Act, as long as the tenancy agreement is in writing and signed by both parties. This process of ‘contracting out’ was discouraged but allowed if all parties understood the changes.

Any tenancy agreements entered into from July 1 must use a prescribed tenancy agreement and the clauses in a prescribed tenancy agreement will not be able to be altered.   You can add additional clauses into a residential tenancy agreement (Part C), but only if these additional clauses don’t diminish or detract from the prescribed agreement or attempt to ‘contract out’ parts of the Act.

For existing residential tenancy agreements entered into before July 1, which contain clauses that ‘contract out’ parts of the Act, the contracting out will continue to apply, but only for the term of that agreement.

Property condition reports

Previously it was strongly advised that a property condition report (PCR) be prepared at the start and end of a tenancy agreement. From July 1, this will be made compulsory.

At the beginning of the tenancy, 2 copies of the PCR must be given to the tenant within 7 days of them moving in. If the tenant disagrees with the contents of the PCR, they have 7 days from receiving the PCR to mark any changes on both copies and then send one copy back to the agent. If they don’t send anything back, they are considered to have agreed with the one you gave them.

At the conclusion of a tenancy, the tenant must be given reasonable opportunity to be present at the final inspection and must receive an updated PCR within 14 days.

Rent increases when you renew a fixed term tenancy agreement

Currently, if a fixed-term tenancy agreement reaches the end of the fixed-term and both parties wish to renew, all conditions including the rent can be renegotiated at the time of renewal. This means that a rent increase could take effect from day one of the renewed agreement.

From July 1, if a fixed-term agreement is being renewed, the rent cannot be increased in the first 30 days after the new agreement begins.

We’ll discuss more changes next month.

Suburb Snapshot: Spearwood

There are certainly many reasons for investors to take notice of Spearwood, as an abundance of activity increases the suburb’s appeal and desirability.

Spearwood is located around 20 kilometres south of the Perth CBD and 7 kilometres south of Fremantle. Part of the City of Cockburn, it borders North Coogee and Coogee to the west, Hamilton Hill to the north, Bibra Lake to the east and Munster to the south.

Rich in history and heritage, Spearwood was originally known for its market gardens but few of these gardens are left in the area with the land taken up mostly by housing. The suburb consists mainly of older, separate houses from the 1970s and 1980s, however newer housing is emerging.

There is a large, district-level shopping centre in the suburb, Phoenix Shopping Centre, as well as a smaller neighbourhood centre in the south. There are three primary schools, numerous sporting fields and clubs, and parks located within the suburb. Spearwood is also home to the Spearwood Library and council offices.

From within Spearwood, there is direct bus access to the city and to the nearest train station, Cockburn Central, as well as good access to major roads.  However, access to the freeway is a little convoluted. Residents of Spearwood have excellent access to medical facilities in nearby Fremantle and Murdoch, including the new Fiona Stanley Hospital.

There is relatively steady demand for property in Spearwood from buyers and tenants due to its excellent location near shops, the coast, schools and major employment areas. It particularly appeals to first home buyers.

Property in Spearwood is reasonably priced, with the median sale price below the Perth average and prices generally cheaper than the neighbouring coastal suburbs. The median sale price for a 3 bedroom house is around $453,500, and this sort of property would rent for around $415 per week. The median sale price for a 4 bedroom house is around $525,000 and this would rent for around $500 per week. Newer houses can sell for as much as $900,000.

The revitalisation that is happening both within Spearwood and in surrounding areas should be of great interest to investors. The nearby Port Coogee Marina will eventually provide many shops, restaurants, and cafes. The Cockburn Coast development just north of Spearwood will revitalise the old industrial area along the coast and transform it into a cosmopolitan hub of activity

A transport project of particular interest is the planned extension of Roe Highway that will extend the major arterial from the freeway to Stock Road, which will give residents of Spearwood direct access to the freeway. This project is still in the planning phase and a construction timelines has yet to be set.

Within Spearwood, a council-initiated revitalisation strategy is helping to improve the area by increasing density by around 50 per cent. Higher density is focused around the Phoenix Shopping Centre and allows many landowners to subdivide their properties.  Revitalisation is also happening in nearby Hamilton Hill and Coolbellup.

There are certainly many reasons for investors to take notice of Spearwood, as activity within the suburb and surrounding it gradually increases the suburb’s appeal and desirability. With a good location and steady demand for property, it offers sound investment options particularly for those looking to buy, hold and develop down the track.

Source: REIWA.com.au, May 2013

Property Development: Doing a Pre-Acquisition Feasibility Study – Part 1

You’ve been given a hot tip about a great development project that has just come onto the market. But before you rush in with an offer, it’s vital you do a pre-acquisition feasibility study to see if the project stacks up. Get it wrong and you could end up with a project that loses money.

It goes without saying that thorough research will be required. And you’ll have to do a substantial amount before you even place an offer to avoid wasting your time and the seller’s. Firstly, make sure you check the state zoning rules and regulations. You also need to check local council planning policies and guidelines. You’ll need a good understanding of building and subdivision costs and a fairly accurate idea of how long the project will take to develop. But one of the most important areas of assessment  is to complete a Real Estate Market Analysis, which involves  looking at ‘the 4 P’s of marketing’, namely Product, Price, Place and Promotion. In this month’s article, we will look at the first two of these and conclude our discussion next month.

Doing a Product analysis involves considering the type of product you should develop and the likely demand for that product. What product will be suitable for that specific area? Is it houses, units, apartments or townhouses? The choice of product will largely be determined by the type of buyers in the area. Are they first home buyers or investors? What do buyers look for? Be as specific as you can when specifying your product. How many bedrooms and bathrooms will it have? What level of finishes will your market demand? It’s also important to consider the supply side of the equation as well. Make sure there is not an oversupply of the type of product you are looking to develop.

If you are planning to hold your development over the long term, you’ll need to consider whether your product will still be in demand in 20 years time. To do this you’ll need to understand demographic trends and how these will affect the demand for property. Demographers tell us that our population is getting older, that people are getting married later and having fewer children, and that there are more singles and group sharing. It’s important to consider how these trends will affect the demand for your product.

Doing a Price analysis involves determining how you will price your product. Broadly speaking your development will be either a “price maker” or a “price taker”. If you develop a product that is fairly common in the market, your development will typically have to “take” the price that the general market is willing to pay. Comparable sales will largely determine the price you charge for your development. If, however, you decide to develop a very high-end product that is unique in the particular market you are targeting, your development could be a “price maker”. That is, you’ll have to set the price yourself based on what you believe your specific buyer will be willing to pay. While it sounds great to be in a “price making” situation you have to remember that your pool of buyers may be so small that it takes a great deal of time to sell your development. And when selling a development, time is money.  The vast majority of development projects are price takers.

It’s worth mentioning here that when you are doing a feasibility study, start with the estimated sales price and work backwards to include all costs and a profit margin to figure out what you can afford to pay for the development site. Do not start with the costs and add your desired profit to determine your sale price. This is a common mistake made by first-time developers.

Many beginner developers also come unstuck by over-valuing their final sale price. Make sure your analysis is supported by comparable sales evidence.

ALWAYS do your projections based on today’s market prices. Any growth in prices should be looked at as a bonus, not as part of the feasibility process.

Next month we’ll look at the two remaining P’s of the Real Estate Market Analysis.

Double Delight – Renovating for Profit in a Rising Market

Purchasing a property, fixing it up and then selling it for a tidy profit can be a solid business plan. But there are times when renovating seems even more appealing, such as when the market is rising. So what are the pros and cons?

It can strike at any time and it affects people from all walks of life. It’s the renovation bug and it becomes particularly active when the real estate market is buoyant and prices are rising.  Seemingly ordinary people wake up one day and decide they want to buy, renovate and flip a property for massive profit.

In Australia, renovating is a popular pastime and has been around since the seventies. We spend tens of billions of dollars on it every year, normally to make improvements to our own home. However, renovating can also be a good pathway to making money if it is done right. Purchasing a property, fixing it up and then selling it for a tidy profit can be a solid business plan. The reason for this is fairly obvious.

Firstly, the potential gains are substantial if the property you are renovating for sale increases in value both from the renovation and the natural increase of the market. I have witnessed firsthand people walk away with over $100,000 profit after a single renovation.

A rising market is also very forgiving, particularly for novice renovators who are likely to make a few mistakes here and there. Even if costs blow out a little or the renovation takes longer than expected, there is a good chance of still making a profit. But renovating for profit in a rising market is certainly not a fool proof strategy for wealth creation.

Whenever someone plans to buy, renovate and sell a property, timing becomes a particularly important issue. Rising markets don’t rise forever so there is a risk that while a property is being renovated, the market turns and values start to fall. Anyone who was renovating for sale as the GFC hit would have definitely been nervous.

Renovations can take time and the schedule can easily blow out without careful planning. There can be delays in obtaining materials, finding the right trades or having to correct previous mistakes. For many novice renovators, the reality is that a renovation almost always takes longer than expected.

Ideally, you would want your property to be ready for sale at the time the market is at its strongest so you can maximise your profit. But nobody knows how long an upward cycle will last or when it will turnaround.

Perhaps the biggest risk when renovating for profit is that of overcapitalising. There is a danger that you will spend money on the renovation that won’t be recouped after sale. Ideally, a renovator would like to gain $2 in value for every $1 spent but there is a point in every renovation where an extra dollar spent doesn’t generate a return and this is often dependant on the location.

For every property in a given location, there is a ceiling price the market is willing to pay. Spending, say, $20,000 on a new kitchen may raise the value of a property by $40,000 but a $50,000 kitchen may only raise the value of the property by the same amount. Renovators must understand how much they can spend on a property given the area, type of property, the expected sale price, the purchase price and the desired profit margin.

Before deciding to purchase a property to flip, astute investors will start their calculations with a likely final sale price in mind. They will then minus the purchase price, all the costs associated with buying, selling and holding the property, and the likely renovation budget. If there is healthy profit left over then they may consider buying the property.

The difficulty of course is being able to estimate all these figures before committing to the strategy, which is why many people end up overcapitalising on a renovation. In a rising market, people tend to become more complacent with their planning and due diligence which leads them into trouble.

Another less risky option than renovating for sale may be to renovate and hold. This strategy helps investors to increase their rental returns, attract better quality tenants as well as boost the value of their property. Executing this strategy still requires sound decision making but the margins aren’t as fine and the pressure isn’t as great as when renovating to sell.

Western Australia Remains in the Fast Lane

Western Australia has once again come out on top as the country’s best performing state when it comes to economic activity, according to the latest CommSec State of the States report.

The report highlights the widening gap between WA and the eastern and southern states.

“Arguably the size of the gap between Western Australia and Tasmania can’t get any greater,” said Craig James, chief economist at CommSec, who expects even more marked divergence among Australia’s regions in the future.

The quarterly State of the States report measures each state on eight separate economic factors, and averages out performance among each.

Second to WA on the economic leader-board is the NT, whose massive growth is underpinned by a single $34 billion natural gas project. However, WA, whose economy has grown by 13 per cent in  a year, is performing better across a range of measures including population growth, investment, construction activity and retail spending.

In particular, WA is the clear leader when it comes to population growth.

“Not only is the annual growth rate of 3.45 per cent the strongest in the nation, it is also more than 48 per cent above the decade average,” said James.

Home prices increased in all states except in Hobart, with the strongest growth being in Darwin, up by 7.3% and in Perth, up by 5.8%.

Acquisitions: Working With a Buyer’s Agent – Part 3

Last issue we looked at what’s involved in sourcing suitable investment properties through both on-market and off-market channels. In this final issue we’ll explain what happens after an offer is placed on a property.

As previously discussed, once the investor is interested in purchasing a particular property, the buyer’s agent will meet with the investor to discuss a ceiling price for the property and devise an optimum negotiation strategy for acquiring the property at the best possible price and with the most favourable terms and conditions.

Critically, when the buyer’s agent submits an offer on behalf of the investor, the offer may include a special clause that essentially provides a set period of time in which to conduct building, termite inspections and other research.

These additional clauses protect the interests of the investor and are a far safer option than relying on the regular clauses provided by selling agents.

As soon as an offer is accepted, the buyer’s agent will put together a comprehensive research report on the property and organise inspections, giving the investor all the information needed to make an informed decision.

Once the investor is satisfied with the outcome of the inspections and the research, the purchase can proceed to settlement. At this point, the investor would typically engage the services of a professional property manager to handle all the leasing and management requirements for the property.

Finance: What’s an Assessment Rate and Why Could it Affect Your Ability to Borrow?

Lenders don’t use the current interest rate when assessing a borrower’s capacity to make payments. Instead, they use what is called an assessment rate, which can impact on a borrower’s ability to get a loan and the amount that can be borrowed.

Before deciding to lend money to someone, say, for the purchase of investment property, the lender will carefully evaluate the borrower’s ability to make the necessary interest payments. The size of these payments, as we all know, is determined by the loan size and its particular interest rate.

But lenders don’t use the current interest rate when assessing a borrower’s capacity to make payments. Instead, they use what is called an assessment rate which is typically between 1 per cent and 2.5 per cent higher than the interest rate on the loan.

Why do lenders use this inflated interest rate? They do it to allow for any future movements in the interest rate or, more specifically, to ensure you can still afford the loan if interest rates increase.

Each lender will set their own assessment rate so the rates will vary from lender to lender. Plus, one lender may have different assessment rates for each of their loan products. Sometimes, for instance, a fixed rate loan will have a lower assessment rate than a variable loan because the interest is locked in for a set period of time. An assessment rate can also vary depending on whether it is for a new or existing loan.

Clearly, assessment rates can impact on a borrower’s ability to get a loan and the amount that can be borrowed. It’s worth noticing, however, that lenders have a whole series of internal lending policies that will determine whether a loan is approved or not, or how much can be borrowed. For instance, it may hinge on what percentage of rental income the lender will accept towards servicing, or policies regarding credit cards.

Assessment rates, which aren’t typically publicised, are one of the reasons why online calculators can be extremely misleading. If users input into an online calculator the current interest rate when assessing their borrowing capacity, they may later be disappointed when their capacity to borrow is much less than expected. It’s worth remembering that online calculators are a sales tool and should only be used to determine a ballpark figure.

Since different lenders have different assessment rates and will offer different amounts, it clearly pays for borrowers to contact an experienced, qualified finance broker who can guide them towards the lender that is most suited to their needs and situation.

Property Management: Mind the Gap

Every investor will inevitably find themselves in a situation where their tenant is vacating for one reason or another. In a perfect world, you would have one tenant move out and another move in on the same day, thereby minimising the “changeover time” when no rent is paid. But this is rarely possible and for good reason.

It’s far more natural for there to be a few days, before a new tenant can occupy the property. For starters, it’s extremely rare that the new tenant’s timetable will be perfectly aligned with the needs of the landlord, given that there is often a notice period that needs to be served with the previous landlord. Sometimes it may just be a slow market or the need to undertake work on the property that extends the changeover time.

While every landlord wants to minimise the changeover time between tenants, there are important processes that need to be followed, which take time. So, what does a property manager do when a tenant vacates? There are many things.

One of the main goals at the end of a tenancy is to make sure the property is adequately cleaned by the vacating tenant and prepared in a suitable condition for the new tenant. This involves conducting the final inspection. The final inspection will enable the property manager to evaluate the condition of the property according to the Property Condition Report (PCR) created at the start of the tenancy.

The property manager will look out for any excessive wear and tear and any areas inside or outside the property that require further cleaning or tidying. The property manager will also make sure that nothing has been wrongly removed or added to property, the correct keys are returned and that items such as appliances are in good working order.

In some cases, the outgoing tenant may have to go back to property and address the issues that were uncovered during the final inspection. After this has occurred, the property will then need a reinspection by the property manager.

When everything has been completed to the satisfaction of the property manager, the bond can be finalised and the appropriate amount returned to the tenant. At this point, an updated PCR can be created for the new tenancy.

While the changeover time allows for key processes to take place, it also provides an opportunity for the landlord to conduct any maintenance or repairs that may be necessary or desired. Some jobs are better done when the property is vacant, especially things like flooring and painting.

Although vacancy periods cost landlords money in terms of lost rent, it’s easy to justify a brief changeover time when you consider the important processes that need to be followed. These processes are ultimately in the interest of the landlord and the long term success of the investment.

Property Tax Tips: Repair or Improvement? Getting it Wrong Could Cost You

It’s one of the most common traps property investors fall into when it comes to tax time: incorrectly claiming property improvements as repairs rather than as a capital cost. So when conducting work on a rental property, how do you know what you can claim as a tax deduction and what you can’t?

Expenses that relate to repairs and maintenance of a rental property will usually be deductible when they are incurred, but any work that is considered an improvement, such as installing a new kitchen, will not be deductible and instead deemed to be a capital item that may be subject to depreciation.

There are a few important points to consider:

• A repair is the replacement or renewal of a worn out or dilapidated part of something, but not the entirety. For example, if some part of the carpet needs to be replaced that would be a repair, but if you replaced the entire carpet throughout the house, that would be an improvement and not immediately deductible (but may be depreciable).
• An item of expenditure is considered to be a repair when it brings something back to its operational efficiency, but does not significantly improve it. For example, a few light fittings may need replacing. Normally this would be considered a repair, but if you put in expensive chandeliers, it would be considered an improvement and not a repair.
• Initial repairs after you buy a property will often be considered capital improvements. The courts consider that these repairs would have been factored into the purchase price and therefore are considered capital in nature.

Generally it is wise not to conduct any repair work for some time after you purchase an investment property, unless it is of course necessary for safety issues. There is no fixed time specified by the law, but if you were to claim a large amount of repairs in your tax return the first year you purchased a property, it could certainly arouse the interest of the Australian Taxation Office.

Thinking of Investing in Property Using a SMSF? Be Careful who you Trust

It seems everywhere you look at the moment there are people and businesses proclaiming the benefits of investing in property using a Self Managed Super Fund (SMSF). SMSFs have definitely grown in popularity with property investors, especially since regulations changed in late 2007 allowing funds to borrow money to invest.

This change essentially created a massive pool of money that many property developers and marketers want a piece of. With many companies claiming they can help investors set up a SMSF and manage the entire purchase process, it’s important that investors stay vigilant and put their trust in the right people.

The main trap is assuming that a company promoting the benefits of investing in property via a SMSF is qualified to offer property investment advice, which isn’t the case. While SMSFs are a financial product and heavily regulated, property investment advice isn’t. This means that just about anyone can advise you on where and what to buy without worrying about the consequences.

The risks that come with obtaining inadequate advice are significant, especially when the advice involves a SMSF. As with any form of property investment, there are obvious risks, such as paying too much or acquiring a poor performing asset. But there are other risks such as choosing a type of property that isn’t right for your long term retirement plan. Given the strict nature of SMSFs, it becomes even more important to make the right investment decision as it may be very difficult to correct the problem later on.

Who should investors rely on to guide them through the process of investing in property via a SMSF? Many investors are confused.

A problem in the SMSF space is the ‘promoters’ who take advantage of ill-informed investors. With the natural complexity that comes with investing via a SMSF, it’s easy to see how investors could be vulnerable to unscrupulous operators who have a financial interest in leading investors to a particular type of property.

Property promoters can be very persuasive and it’s clear why they would target people with a SMSF or those looking to set one up. The problem lies in the fact that these promoters will often have either direct or indirect links to a developer who is looking to sell property new or off the plan. On the surface, this property may seem to stack up as a good investment but the reality is that it often turns out to be dud.

In their haste to get a slice of the SMSF pie, some property promoters haven’t fully understood the many regulations governing SMSF investment, especially when borrowing is involved. This can lead to all sorts of problems for the investor. The trustee of a SMSF has various obligations under the law and if the fund is structured or managed incorrectly, problems may arise that can’t corrected without unwinding the fund and selling the asset. There can even be penalties for the trustee.

Another major risk for investors with a SMSF is that their “advisor” hasn’t bothered to understand the investor’s broader financial circumstances and long term goals, making it impossible to determine whether or not the investment decision makes sense.

While property is a long term asset, this isn’t an excuse to be careless with investment decisions, hoping that everything will work out over time. The long term nature of property investment means there is a significant need to make the right decisions as they will likely impact directly on your retirement years when your financial position is more restricted. Property investing with a SMSF is not a get-rich-quick scheme. It takes careful planning, dedication and requires a detailed understanding of the asset in question.

Property investing with or without a SMSF is a significant step and it’s important to get the right advice from the right people. Investors should seek appropriate specialist financial and legal advice to set up a SMSF, then a property investment expert to help identify and secure the right type of property. A finance broker should be employed to assist with obtaining finance and ideally a property manager would take the responsibility for the management of the property.

Investors should also be aware that investing via a SMSF can be quite complex and take longer than it would buying property outside of a fund. So it’s important to get reliable, independent advice before making an offer on a property. And this advice must be consistent with your plan for retirement. Your property advisor should understand your financial obligations and what you want to achieve in retirement before discussing what types of investments can provide for that goal.

Confidence in WA is Rising Along with the Median Price

People’s fears about the economy are fading quickly and being replaced with an increased sense of optimism, as the property market continues to rise.

Consumer confidence has bounced back in Western Australia, according to the latest Curtin Business School-Chamber of Commerce and Industry (CCI) survey.

The survey confirms what many people already suspected, that people’s fears about the economy are fading quickly and being replaced with an increased sense of optimism. In fact, Western Australians are now more optimistic than they have been for nearly two years.

Survey results show that the proportion of households expecting economic conditions to improve in the next three months had effectively doubled since the last survey. Furthermore, the number of households that think economic conditions will get worse has plunged to a record low of 8%.

CCI chief economist John Nicolaou said households were feeling more confident about their finances after almost two years of consolidation through increased savings and paying down debt.

This is a very good sign for the housing market, which is already seing upward movement. According to the Real Estate Institute of Western Australia (REIWA), the median price in Perth hit $500,000 in the December quarter, higher than originally reported and 6.4% higher than the previous year.

Based on preliminary figures for the first 3 months of 2013, REIWA expect the median price will hit at least $510,000 in the March quarter, which was the previous record high from early in 2010.

The rental market also continues to see growth. In the three months to February, REIWA figures show metropolitan rents increased by 4.4%, lifting the overall median from $450 to $470 per week, which is $60 more than the same time last year.

Property Acquisitions: Working with a Buyer’s Agent – Part 2

Last month we discussed the first step in working with a buyer’s agent, which focused on goal setting and the gathering of requirements. With a personalised plan in place, the next step concerns the property search.

This stage involves the buyer’s agent sourcing suitable investment properties through both on-market and off-market channels, focusing on the areas recommended in the first stage. A good buyer’s agent has a detailed understanding of what’s happening in different areas that could potentially impact on property values and will exploit this knowledge for the benefit of the investor.

The buyer’s agent will scan the market for suitable properties, making initial enquiries with real estate agents and visiting home opens, in order to find properties that both meet the criteria and are competitively priced. Buyer’s agents are property experts who keep up to date with price movements and so they can recognise when a property is competitively priced.

Most buyer’s agents will have established relationships with sales agents who will inform them about properties before they are launched to the market.

Depending on the type of property being sourced, a buyer’s agent may also attempt to identify property that may be purchased off market (i.e. not listed with a real estate agent). These off-market properties are purchased directly from vendors and can often be acquired at an excellent price as the seller isn’t paying a sales commission.

After some preliminary research, the buyer’s agent will form a short-list of suitable properties and present the investor with a key summary about each property. This summary will include an appraisal of the property using comparable sales data to determine its market value. The buyer’s agent may also provide information uncovered during initial investigations such as why the seller has decided to sell and the history of the property.

The investor will then review the information and select which of the properties are of interest. Some investors may choose to inspect the property before an offer is placed, others will leave everything to the buyer’s agent. The investor isn’t obligated to proceed and can instruct the buyer’s agent to continue with the search should no property be of interest.

Once there is a property of interest, the buyer’s agent will meet with the investor to discuss a ceiling price for the property and devise an optimum negotiation strategy that will ensure the property is acquired at the best possible price. Representing the best interests of the investor, the buyer’s agent will also look to secure the most favourable terms and conditions.

Next month we’ll explain what happens when an offer is placed on a property.

Does Splitting a Loan Provide the Best of Both Worlds?

One of the major decisions a borrower will have to make is whether to go for a variable rate loan or a loan with a fixed interest rate. But why choose one when you can have both?

There are many different loans available to property buyers, each with different features and advantages, which can make choosing a loan a difficult process. One of the major decisions a borrower will have to make is whether to go for a variable rate loan or a loan with a fixed interest rate. But why choose one when you can have both?

There are many borrowers who are opting to split their loans into two accounts, one on a variable rate and one on a fixed rate. Loans can be split in many ways dependent on the needs of the borrower, such as 60% variable and 40% fixed, but 50/50 splits are most common.

The reason for splitting a loan is to provide the security of a fixed rate home loan with the added flexibility of a variable rate loan. It’s a form of hedging that may be useful in times of economic uncertainty, particularly when interest rates are rising. Someone with a split loan will be less impacted by rate rises as it will only affect a portion of their loan. However, by maintaining a portion of the loan with a variable rate means the borrower still benefits from rate reductions.

Another benefit of a split loan over, say, a 100% fixed loan, is that the borrower still has the flexibility of a variable loan, such as the ability to make additional repayments and redraw (on the variable part). These features aren’t typically available on a fixed loan but can be very useful as the circumstances of the borrower change.

So what are the disadvantages of a split loan? The nature of a split loan means that the borrower, though protected partly from rate increases, doesn’t benefit fully from a rate reduction. This can prove quite costly if rates drop significantly during the term of the fixed portion of the loan.

Also, splitting a loan may incur twice the fees for setting up, managing and later discharging the loan, which borrowers should consider. Clearly, there are a few things to consider when deciding whether to split or not.

As everyone’s situation is different and loans have many subtle differences, the advice of a professional, qualified finance broker should always be sought before making any borrowing decisions.

Property Management: Drugs and Tenants are a Worrying Mix

There have been a number of cases across the country involving drugs or drug labs being found in rental properties, which might have caused investors some concern.

Late last year in Adelaide, a tenant got in trouble with police after the photos used in a real estate ad showed cannabis being grown in two pot plants in the backyard of the house. One would have to assume that the property manager failed to either notice or identify the plants before placing the ad.

There was also a particularly worrying case in Melbourne more recently where the real estate agents themselves were charged with a number of drug-related offences after 25 rental properties they managed were allegedly used to grow hydroponic marijuana.

If you think it should be easy to spot a ‘drug house’, think again. In some cases the properties containing drug labs were actually found to be excellently maintained and even the gardens were in good shape.

One of the questions investors may be asking is regarding insurance. Are you covered by landlord’s insurance if your tenant is found to be illegally producing drugs in your property? It’s a bit of a grey area and something a policy holder should discuss directly with their provider.

But the issue isn’t necessarily to do with “damage” to a property. The clean-up costs involved in dismantling a drug lab can be significant even when there is technically no damage done to the property. Some polices may cover these costs, others won’t.

One thing is certain, that investors should take care when choosing a property management company. In particular, they should make sure the company has a thorough, rigid process for vetting prospective tenants and a policy of conducting regular inspections.

When it comes to the property management companies promoting ridiculously low fees, you have to question how many shortcuts they are taking when it comes to the tenant selection process or the management of your property.

Suburb Snapshot: Belmont

Belmont is located just 7 kilometres east of Perth’s central business district on the southern bank of the Swan River and part of the City of Belmont. It neighbours the suburb of Ascot to the north, Redcliffe to the east, Cloverdale to the south, and Rivervale to the west.

While some associate the suburb with its considerable industrial and commercial district, mainly concentrated in the western part of the suburb, Belmont is also a popular place to live especially in the eastern and northern parts of the suburb.

The suburb’s north-western boundary is Great Eastern Highway, a major road that passes Perth Airport and is home to various motels and other accommodation.

Belmont has two public schools, Belmont Primary School and Belmont City College (formerly Belmont Senior High School), as well as a number of parks and recreational areas, including the popular Centenary Park and Signal Hill Bushland.

Residents of Belmont have a variety of retail options including Belmont Forum, a major shopping complex located in neighbouring Cloverdale, which also includes a cinema and entertainment facilities.

The median house price in Belmont is around $480k but this figure masks the wide range of housing options and price points available in the suburb. There are villas for sale from $350k to 450K, older houses on big blocks from $450k to $550k, townhouses in the mid to high $500k’s, modern homes from $600k to $900k and development sites anywhere from $550k to $900k depending on size and location.

The suburb has a relatively high proportion of renters, with 44% of properties currently being rented, and the median rent is an affordable $300 per week.

In terms of capital growth, Belmont has performed excellently both over the short term and the long term, consistently outperforming the wider Perth market. The growth rate over the past 12 months was an impressive 10.2%, which is in line with the 10 year average of 10.7% per annum.

Belmont has been transforming rapidly since the City of Belmont’s Local Planning Scheme No 15 was gazetted on 1 December 2011. The Scheme and associated Housing Strategy gave parts of the suburb higher zoning to encourage increased housing density and provide opportunities for developers. In fact, the Scheme more than doubles the density target set at State level in Directions 2031 and Beyond.

Also helping to transform Belmont is a major infrastructure project to upgrade Great Eastern Highway between Kooyong Road and Tonkin Highway, which covers the entire north-west border of Belmont. The $30 million project, jointly funded by the State and Federal Governments, will see a 4.2 km section of the highway upgraded to six lanes with a central median, on-road cycling facilities and a continuous pedestrian path. It will also involve upgrades to all major intersections and the introduction of bus priority lanes.

The project, which commenced in late June 2011 and has just been completed, should help to improve safety and connectivity for motorists, pedestrians and cyclists, reduce travel times, and increase the attractiveness of public transport services. It will also enhance the look of the area with new facilities and modern urban design.

Belmont will also benefit, at least in part, from Gateway WA, the largest infrastructure project ever undertaken by Main Roads WA. The $1 billion national priority project aims to improve the safety, attractiveness and efficiency of the main transport areas around the airport and the freight and industrial hubs of Kewdale and Forrestfield. The Gateway WA project incorporates road and bridge improvements, facilities and connections for pedestrians and cyclists, noise walls, landscaping and more.

For many investors, Belmont has been a hotspot for quite a while. With its strategic location between the city and the airport, a forward thinking council and various major projects enhancing the area, it should remain a strong investment option for some time more.

Source: REIWA.com.au, March 2013