What you need to know when buying investment property?
Buying an investment property can be overwhelming and the settlement is just the start of the journey rather than the end. It always helps by leveraging from the experience and lesson learnt from others. If you know most of these, even learning just one more thing always helps because you never know it comes in handy.
We split our tips between the initial phase of choosing the right investment and the second stage on helpful tips in managing the investment.
Choosing the right investment property strategy
Don’t chase Yield – Avoid mining towns
Personally we have always been dubious in investing in mining towns. History is littered with mining boom and busts. The same applies to the towns which relies on the same mines. They are the epitome of chasing yields and when you chase yield, you will get burnt with the only question of being when.
Property prices don’t always go up
It is important to have the right expectations so you dont unwittingly move up the risk curve to achieve unrealistic targets. Investment is a long term game and property investment is no different. The biggest driver of value is from the power of compounding and growth not short term flavour of the month or high leverage deals.
Err on the safe side of debt
Debt can magnify returns on the way up but also on the way down. It should be approached cautiously as only because someone is willing to lend you beyond what you were expecting does not mean you should take it. Their incentives are different to yours.
Have landlord insurance
As part of the terms of the mortgage the bank will require you to own landlord insurance to protect the value of the house.
Double check your budget
The only certainty in investment is that the future is uncertain. When choosing a property, decide on a budget and stick with it. Don’t be emotional if you think you saw the best deal but it is just outside your budget and stretch for it because unexpected things things will always pop up.
Whether the property need some pest control or you missed some things due diligence and need to spent some money on repairs before the tenant can move in. There is very little room for error if you stretched your budget and it will make a whole process a lot more stressful than it already is.
For example first home buyers or property investors should not forget that stamp duty is payable on the purchase price so whatever you think your budget is reduced it by at least 5%.
Avoid property spruikers
Buying an investment property is one of the single largest investment decisions you ever make. The most important step is to realize that it is your choice to make as you will have to live with the consequence whether it is a good or bad investment. Property is an active not passive income investment.
The spruikers will always urge you to buy and benefit from YOUR purchase in number of ways you never imagined. When things go wrong they are nowhere to be seen. Remember in investments you should be the ultimate decider and feel free to use advisors (and you should such as tax, legal or even market experts) but just know where it is coming from and what they get out of it.
Investment property tax deductions
The tax benefits of negative gearing does not offset the loss making nature of the investment however it does help carry the cost until eventually either the rent increases so it can cover the costs / interest or when the asset is sold for a capital gain.
Personally we are diligent in our record of the expenses but we don’t go overboard. We always keep invoices and make sure the cost is justifiable in claiming the deduction and if in doubt check with the ATO or your tax advisor.
Always carry Landlord insurance
Whether you manage the property yourself or using a property manager, for the sake of little bit extra it always pays to protect the large single investment you will ever make. You never know when the perfect tenant turned out to be your worst nightmare.
We approach tenant selection from a probabilistic perspective. What kind of job they have, their prior rental history and references all contribute to the chance that they turn out to be ok but sometimes a bad tenant slips through and they either stop paying rent or cause major damage to the property.
Investment is about making the right decisions or remove the worst possible outcomes. By having the right landlord and building insurance policy removes the tail risk of a major disaster on our hands.
How to reduce investment property mortgage rates?
If bought real estate for investment with a mortgage then the interest cost is the largest expense of owning the investment property.
Here is a tip that not many people know since the banks tighten the mortgage lending standards. If cost of mortgages can be ranked, investment property mortgages along with equity line of credit is one of the most expensive mortgages that is offered but not all mortgages are created equal. One recent change the banks have made with their product line is to have a higher mortgage rate on interest only loans verses a comparable principal and interest loan.
All you have to do is check your bank’s website to see the if there is a difference in the rates if you are only paying interest only. Sometimes all you have to do is ask your bank to see if they can switch you to interest and principal version of the product to get the savings. If not then you just have another excuse to look around!
Now this tip will not make senses for everyone. For some, the cashflow benefits of having an interest only mortgage make sense which the additional amount that would have used to pay off the mortgage is better spent elsewhere for example it could earn a higher returns by investing in the share market or buy shares directly. It is well known the average stock market returns over the long run is one of the highest risk adjusted asset classes.
But for those that were parking the excess funds in a offset account with no foreseeable uses in the near future this tip could be really useful as it is just sitting there anyway.
Since paying the interest is non-negotiable, the cost benefit of this should be viewed with the interest saving across the whole mortgage verses the additional benefit of just using the principal payment for something else.
For example if you have a $300,000 mortgage and there is a 0.5% interest saving moving from interest only to principal and interest payment. The correct frame of analysis is comparing the annual saving of $1,500 versus the opportunity cost of the principal payment (reduced by interest saved anyway in the offset account)