MoneysaverHQ Kochie’s advice on investing in property – the pros and cons
We have all heard the real estate success stories, especially in a booming market, but investing in bricks and mortar isn’t always a foolproof strategy. There are dodgy investments and when you make one, it can end up costing you tens of thousands of dollars.
Just ask Denny Jones, a 31-year-old Sydney-based graphic designer, who learnt this the hard way when he rushed into investing in property when he was just 21, thinking it could never possibly go awry.
He purchased a small studio apartment in the prestigious harbourside suburb, Elizabeth Bay, in Sydney’s eastern suburbs in 2007 for $215,000 thinking he was setting himself up by getting into the market as soon as possible.
“I was living at home with my parents and I was noticing the average home or unit and how much prices were increasing. So I did the numbers and just thought I needed to get ahead of the market,” Mr Jones told news.com.au.
“Pretty much every day that I wasn’t in the market I thought it was going to get further and further away from me.”
But despite being just 21 years old and in a low income bracket, Mr Jones rushed into the property market out of fear of missing out.
“I didn’t save up a deposit, I went to a broker and asked about borrowing 100 per cent of the loan. What I ended up doing was getting a $40,000 personal loan which was guaranteed by my parents and used that money as a deposit for the unit.”
He purchased the Elizabeth Bay studio and began renting it out at $275 per week only to realise the market rent he was receiving was about $150 less than mortgage repayments per week.
Suburbs close to capital city CBDs tend to have much lower rental yields as there is much greater rental competition. In fact, in our two most competitive capital city markets of Sydney and Melbourne, gross rental yields on both houses and units reached a new record low in January, according to CoreLogic data.
“Then I also had to take a hit every quarter with the strata or something in the unit needed to be done. It was a lot of money,” Mr Jones told news.com.au.
If you calculate the rent shortfall of $150 per week alone, that is $7,800 per year Mr Jones was having to pay to keep the investment afloat. And he held the property for just over five years, eventually selling it in January of 2013.
“I just looked at the numbers in the property market and thought it would work for me but I didn’t look at the cash flow and how I could expand my portfolio beyond that.
“There’s that ‘rule of thumb’ that says property prices double every 10 years and I figured that if I was in there for the long term I would probably ride out short terms falls in the market … I obviously just wasn’t educated enough.”
The studio did, luckily, go up in value — Mr Jones sold it for $318,000, a $103,000 profit from the purchase price — but that was after spending thousands to pay the rent shortfall and learning a critical lesson on the way.
“Cash flow is everything. You can almost get into as much debt as you want as long as the cash flow is good,” Mr Jones said.
“As long as someone else is paying for my debt, it is good debt.”
Zaki Ameer, founder of Dream Design Property, said the assumption that capital growth is the most important factor when investing, and then choosing a property based on previous or projected capital growth, is one of the biggest mistakes many flailing investors who have come to him for help have made.
“If you’re buying an investment property, you need to be able to sustain that property. If the property is going to cost you money — when the mortgage exceeds the rent — you need to have sufficient money to pay for that loss. If you don’t, don’t buy it, because you are just putting yourself under mortgage stress,” Mr Ameer told news.com.au.
“You have to ask yourself can you actually afford the investment property, rather than just buying it and relying on capital growth? If you can’t afford the loan then you should look at a property where the rent does exceed the mortgage repayments.
“You are not going to get that in the eastern suburbs, or even within 25km of the CBD.”
Even the assumption that every property is going to go up in value is naive.
“It is a big assumption that you can buy any property in Australia and it will go up in value. I’ve got two properties of my own that haven’t gone up in five years,” he said.
And finally, the assumption that any type of property is a good investment could also land you in trouble and unable to grow your portfolio.
“Denny had an investment property in the eastern suburbs and that property had gone up in value but the issue he had was because it was a small studio [just 28 square metres] the bank saw it as a high risk and they weren’t allowing him to use the equity to purchase any more properties,” Mr Ameer told news.com.au.
“So when he came to me I told him it was a good property because it is in the eastern suburbs but it is restricting him from moving forward. I advised him to sell the property and by him selling it, it allowed him to purchase three more properties since then in areas that have now far outgrown the value than if he had just held that one property.”
Mr Jones admitted that changing his attitude towards money and property investment — and taking the emotion out of it — was tough, but it remains the most important lesson he learnt from his failed attempt.
“Selling that first apartment was a little bit like heartbreak. It felt uncomfortable because I had gotten too emotionally attached to it even though it was really not doing me any favours. I think understanding that you need to remove all emotion from it, and just look at the numbers, is the most important lesson,” he told news.com.au.
“You can’t make the right decisions with your emotions. I remember looking at the first place I bought in North St Marys, after I let go of Elizabeth Bay, and I was thinking I’d never live there but that doesn’t matter.”
Mr Jones now owns three successful cashflow positive investment properties in Sydney’s west, making up a property portfolio now worth almost $1 million — a three-bedroom house with a granny flat in North St Marys, a three-bedroom home in Willmot and a two-bedroom home in Mt Druitt.