The Perfect Investment Property
Finding the perfect residential investment property is a lot more challenging than it used to be.
In the past, it was quite common for mum and dad investors to use property investments as a way to plan for retirement, with the belief that any top up payments required for servicing of the mortgage and expenses, would be offset by future capital gains and tax benefits. In short, many investors viewed the top ups that were required to service the costs associated with their property investments, as a compulsory savings plan.
Over the last few years the National Government has brought in numerous changes to the tax rules that apply to property investors such as: disallowing of depreciation on buildings, the introduction of the Look Through Company regime and the changes to the tax rules
relating to holiday homes. These, along with the increase in house prices experienced in recent years (especially in Auckland) has had a significant impact on the viability of property as an investment option.
Now I am not suggesting that property is no longer a viable investment, I am advocating that a property purchased for investment purposes only, needs to be carefully selected to ensure that it has a positive contribution to the investors investment strategy rather than a negative one. Given this, what should an investor consider before purchasing their first property investment? Here are three points to consider:
In days gone by, the claiming of depreciation on buildings (which was a non-cash expense) resulted for most investors in a loss that they could claim for tax purposes. For many the claiming of this loss resulted in tax refunds.
Now, unless you can find a property that yields enough rent to cover the interest costs and expenses, any losses made on a rental investment, although still claimable in most circumstances for tax purposes, is from cash rather than non-cash expenses. In layman’s terms, this means that to obtain a 33 percent tax refund it has actually cost $1.00 in cash to obtain.
Given this, it is even more critical than ever to find an investment property that yields enough rent to at least break even after the payment of all expenses, including interest costs.
2. Top Up Payment
It is common (especially in Auckland) that most property investments which have a mortgage will require cash top ups to fund the cost of servicing the mortgages and expenses. In these circumstances, careful consideration needs to be given to whether or not the accumulated amount of funding required to top up the costs for the property over time, are comparable to any expected capital gain.
You do not want to be in the position when on sale of the property, you have contributed significantly more in top up payments to service the mortgage and expenses, than you would have received in capital gains over time.
Consideration needs to be given as to whether the money used for mortgage top ups and expenses could have been better invested for a better (higher) return elsewhere.
3. Exposure to Interest Rate Changes
If your investment requires top up payments, consider how vulnerable you are to interest rate changes. When calculating the yield of a potential property purchase, recalculate the expected yield and the amount of any top up required using interest rates 1-2 percent higher than the bank is currently offering.
If you find that you would struggle making these top up payments at the higher rate, then maybe this particular investment is not for you.
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