The numbers and tactics behind a successful property investment strategy
The secrets to a successful investment strategy are a combination of personal determination and organisation, complemented by tactical adherence to some key strategies and recognition of some non-negotiable numbers.
It may sound contradictory but investing successfully in property is simple but it’s not easy.
It takes discipline and that needs to start well before an offer is made on a property.
Developing good saving and budgetary habits before buying ensures investors can do so without the constant stress of being overcommitted.
With the cost of living rising through rampant inflation and stagnant wages, it’s more important than ever to develop good financial habits.
It’s not just about saving a deposit; it’s about becoming a good saver, which helps develop the discipline to invest and provides a buffer if things go wrong. And even with the best property investment, things can go wrong.
There can be unexpected periods of vacancy and big expenses, such as replacing major appliances like dishwashers or ovens, or paying for emergency plumbing repairs as a result of an exploding toilet!
Once you’ve got that investment property, it’s good practice to have about three-months of expenses saved into a separate bank account that does not have an ATM card attached to it - an ‘In Case of Emergency’ fund.
It needs to be enough to cover mortgage repayments and all the other fees and expenses of the property if it is not tenanted for three months. This includes rates, strata, insurance, property management fees and maintenance.
A three-month buffer is required for each investment property, not just one.
As a general rule of thumb, holding costs should amount to about 25 per cent of the achievable rental income.
Getting financially ready to invest in property also means eradicating bad debts as soon as possible.
Property investment is considered a good debt, as it is tax deductible and creates income or earnings, while a bad debt is one that doesn’t earn money but costs money, such as a university debt or car loan.
Work at paying bad debts down as soon as possible as it will make it easier to pull together a deposit and makes borrowers a more appealling prospect for banks.
In addition to saving a deposit, buyers need to allocate an additional 3 to 5 per cent on top of the purchase price to cover buying costs, including stamp duty, loan application fees, conveyancing, legal fees, insurance and potentially lenders mortgage insurance. Assessing the details in regard to these expenses is crucial.
The aim of any property investment is for it to become cash flow positive, which means more money coming in than going out. Sounds simple, yet according to the Australian Tax Office, half of property investors don’t buy cashflow positive properties.
To be cash flow positive, it is important the properties provide three things: decent rental yield, a high rate of occupancy, and tax deductions.
The rental yield is the annual rental return as a percentage of the purchase price. Rental yields can be as low as 2 per cent, and as high as 6 per cent or 7 per cent or more. A rental yield of 4 per cent or higher is generally going to provide enough to cover mortgage repayments.
While it would be nice to have a tenant paying rent in the property all 365 days of the year, not all properties have that luxury.
To ensure a high occupancy rate, it’s important the rent is affordable. As a rule of thumb, try to ensure the rent is no higher than 30 per cent of the household income of the suburb in which you’re buying. This way there will always have someone wanting to rent the property, maximising its occupancy period.
When it comes to cash flow and tax, most people don’t realise the biggest tax deduction isn’t the mortgage interest, it’s the depreciation. In fact, 100 per cent of the house cost is tax deductible by way of depreciation. The total house cost is depreciated over 40 years, with the majority capable of being deducted in the first 10 years.
If cash flow positive is unattainable, investors are encouraged to limit the cost of holding the investment to below 10 per cent of take-home (after tax) pay, and always build in a buffer for interest rate increases (of around 2 per cent).