Detonate or renovate and depreciate
A renovation can be a fantastic way to increase cashflow through rental appreciation and equity via an increased market valuation. On top of this, renovation expenses are almost all depreciable. Mike Mortlock explains.
The renovation strategy is not a new one for property investors. There are many high-profile renovation gurus’ in Australia and a plethora of renovation shows. Many of those shows have come under fire for their end numbers and the effectiveness of the overall spend when it comes to market valuations and rental appraisals. There’s certainly a risk of overcapitalisation, as well as hidden problems that materialise during an inspection such as plumbing and electrical problems. However, a renovation can be a fantastic way to increase cashflow through rental appreciation and equity via an increased market valuation. On top of this, renovation expenses are almost all depreciable and with the changes to plant and equipment deductions, it’s one key way to ensure you’re able to claim your division 40 deductions.
Let’s look at a real case study. The renovation was completed by specialist Melbourne based renovation company Property Revive Group, run by Felicity Maxwell. Property Revive has been working with investors for many years to grow their investment returns through various renovation strategies.
Property No. 1 –Hawthorn
This property is a 2bed 1 st floor apartment within a complex built in the 1960s. It was achieving $390 per week rental, but commonly suffered vacancies. It was purchased for $520,000 by an investor through a super fund.
The renovation works over a two-and-a-half-month period consisted of:
Phase 1: 3 weeks
- Full internal repaint
- New flooring – carpet and vinyl
- Bathroom makeover – vanity, tapware, tile spray, screen and flooring
- Installation of 3kw split system
- New light fittings
- New door handles and cupboard knobs
Phase 2: 3 weeks
- Complete new kitchen – at the end of first lease
The total spend on the entire project over the two stages was $34,023.
As a direct result of the works, the property achieved a market valuation of $620,000 and was rented immediately for $450 per week. This equates to a net equity increase of $58,000 from the 6- week project. Lost rent over those 4 weeks of $1,560 needs to be factored in but those costs are insignificant given the equity uplift. Equity aside, the extra rent comes to an extra $3,120 per year. For rental increases alone, we’re talking a payback period of over 13 years, not including vacancies which were a problem. However, it’s the combination of cashflow and equity that makes the process attractive.
In terms of depreciation, a fairly significant portion of the improvements were plant and equipment items, which helps to attract higher rates of depreciation. The plant value was $12,986, leaving $21,037 of division 43 capital works. Within the first full year, the depreciation claimable on this renovation was $4,039. So, depending on the marginal rate, we’d be looking at around $1,200 back in the pocket within the first year and over $3,000 within the first 5 years.
More and more investors a looking to renovations like this to increase their cashflow and equity. Releasing equity in your investment has been hard in recent times with the APRA changes, but if you’re not flipping and electing to hold your properties long term, it’s the end sales values that matter most to you after all.