Finding the best type of property to invest in

Property investment can be a great way to grow wealth, but plenty of investors make the common mistake of buying with their heart and not choosing the right type of property which will give them the best capital growth.

Too many investors fall in love with the look of a property and don’t treat property investment like a business in which they carefully weigh up the pros and cons.

The single most important factor to consider when buying an investment property is what is going to give you the best capital growth and the one asset which will do that is land.

Yes, it’s great to derive a good rental income and tax deductions along the way, but the way you will really build wealth through property is for it to grow in value, and land does that best.

Land appreciates in value while buildings depreciate.

However amazing a house looks and no matter how much you love it, the value of the actual building itself will go down as it ages and your maintenance costs increase.

Whereas the value of land, a commodity which is in short supply, keeps going up in value. When investing in real estate the biggest mistake most people make is focusing on the building itself.

Of course, unless you are starting out with a lot of capital, most investors cannot just sit on a vacant block of land and wait for it to grow in value.

Most people need to borrow money to buy a property, and that money will have a cost.

Therefore, you’ll need a house on that land to generate a rental income to help service the debt, but it’s essential that the building is on a good block of land in the right location.

A decent land component is why we advocate in 7 Steps to Wealth against buying units. The land component is only 10 per cent while the majority of its value, 90 per cent, is tied up in the building - a depreciating asset.

In the past two decades the median house price in most capital cities of Australia has increased by between 6 per cent and 7 per cent a year, compounding.

That’s a great return but when you look at the median house in the eighties and it was on a standard quarter acre block, or about 1000sq m, and the median house of today is on about 450sq m.

If you look at the two components house and land separately over 30 to 40 years, land prices have increased in value at nearly twice the rate of the house value.

The best way to grow your investment is therefore to buy property with the highest possible proportion of land content.

Land is the conduit to building capital growth in residential real estate, while the building is there to generate rental income and service the debt.

It’s a simple supply and demand scenario. Land is in very limited supply and the demand for it will continue to grow as the population increases, particularly in fast growing areas where we see increases in density over time.

The ideal investment property is a freestanding house on a decent block of land, but also in some circumstances depending on how large the block is, a duplex and potentially even a townhouse in the right location could work. We generally want to stick to a land content of more than 30 per cent, however.

Buying just any block of land is not going to guarantee you instant capital growth. Remember, treat it like a business decision, it’s essential you do your homework and buy in the right area.

It needs to be somewhere with good population growth, employment opportunities, facilities such as schools and shops and lifestyle amenities and public transport. These factors will cause the population growth (and therefore demand for housing) to be sustainable over a long period of time.

It needs to be a place where people want to live and demand for rental properties is high.

A common concern of investors is if they buy a property with a decent landholding they will be slugged with land tax.

But realistically, not many investors receive land tax bills and if you do, they are a deductible cost of owning an investment property.

Land tax is determined on the unimproved land value and it has to exceed a certain threshold before you are taxed. It differs from state to state, with the Northern Territory not charging any land tax.