5 considerations for buying an investment property

Investment properties have been the nation’s popular choice for building wealth, but an expert advised prospective buyers to carefully consider these five factors before venturing into the real estate market.

Andrew Zbik, senior financial adviser for the financial advisory firm CreationWealth, highlighted the popularity of investment properties among Australians.

He cited data from the Australian Taxation Office (ATO) showing just over 2 million people in the country own an investment property.

Mr Zbik says the popularity comes from the ability for property to be highly leveraged, unlike any other asset class.

To illustrate this point, he provided an example of a property with an 80 per cent loan-to-value ratio (LVR).

In this scenario, the property is priced at $750,000, and the buyer makes a 20 per cent cash deposit of $150,000 while taking a loan of $600,000, resulting in an LVR of 80 per cent.

In contrast, when looking at shares as an investment option, he highlighted the maximum leverage achievable is significantly lower, ranging from 40 per cent to 60 per cent. This leverage is typically facilitated through lending arrangements like margin loans or warrants.

While property investing is the go-to choice for wealth strategy, Mr Zbik said there are also incorrect notions about the investment vehicle.

He said although there is a common belief that property is a “safe” investment due to its tangible nature, the expert noted it’s essential to consider that property values can indeed fluctuate over time.

Mr Zbik also acknowledged that while property may not be as volatile as share markets and fixed income markets, both asset classes tend to exhibit long-term capital growth trends.

To determine if an investment property aligns with one’s wealth creation strategy, the expert outlined five key considerations:

1. Time frame

According to Mr Zbik, investing in property requires a long-term commitment for significant capital gains.

“I generally recommend to clients that an investment in property needs a commitment of at least 10–15 years to see any meaningful capital gain,” he stated.

He cited historical data which showed property prices can remain stagnant for three to six years or even longer.

To maximise returns, Mr Zbik said it is generally recommended to hold onto the property for at least 10 to 15 years.

“If I have ever met a person who lost money investing in property, a common trend I have identified is that they held the property for under a 10-year period,” he stated.

2. Cash flow

Purchasing and maintaining an investment property involves various costs that must be carefully assessed, according to Mr Zbik.

He noted initial purchasing costs include stamp duty, conveyancing costs, lending fees and buyer’s agent fees, which can significantly impact a buyer’s budget and overall investment viability.

Mr Zbik also underlined the importance of factoring in ongoing costs, stating “owning an investment property is not simply about collecting rent and paying the mortgage”.

This includes agent’s fees for property management, letting fees when new tenants move in, council rates, landlord insurance, maintenance expenses, body corporate fees (if applicable) and potential land tax.

3. Negative gearing

While many people cite the benefits of negative gearing as a reason why they purchased an investment property, Mr Zbik said there are misconceptions about this strategy.

“Let’s get this right: if you purchase an asset that loses you money as the income does not cover the expenses, you can claim a tax deduction against other income that you earn.

“Your investment property is still ‘losing’ you money to own. Therefore, with such a strategy you are relying on capital growth to make the overall strategy worthwhile,” he stated.

When acquiring an investment property, the expert’s professional recommendation is for buyers to ensure that they are financially comfortable and capable of servicing the ongoing holding costs associated with such an asset.

4. Ownership

Mr Zbik underlined choosing the correct “entity” to own an investment property is crucial when buying.

“This will impact what your tax liability may be when you sell your property in the future,” he added.

For example, personal ownership subjects a property to the marginal tax rate, while company ownership incurs a 30 per cent tax without the benefit of the 50 per cent capital gains tax discount.

Meanwhile, trust ownership taxes beneficiaries at their marginal rate, which can go up to 47 per cent.

He also explained the tax implications for investment properties held within Self-Managed Superannuation Funds (SMSFs) vary depending on the fund’s phase.

During the accumulation phase, if the property is owned for less than 12 months, the capital gains tax is 15 per cent while it reduces to 10 per cent if the property is owned for more than 12 months.

However, during the pension phase, if the SMSF holder is retired and drawing an account-based pension, any capital gain on the sale of an investment property is completely tax-free.

5. Investment strategy

Mr Zbik emphasised the significance of developing a clear strategy when assessing the suitability of an investment property for one’s wealth creation goals.

Alongside the four considerations mentioned earlier, he also offered additional tips to determine if an investment property aligns with your wealth creation strategy:

  • Assess your financial capacity to handle potential interest rate increases
  • Maintain a cash buffer to cover rental expenses and loan repayments in emergencies
  • If possible, time the sale of the property to coincide with a period of low personal income, such as retirement
  • Seek advice from professionals like mortgage brokers, accountants and financial advisers to ensure the investment aligns with your overall wealth creation strategy

Leave a comment

Your email address will not be published. Required fields are marked *