Real estate investments can still generate healthy returns in under ten years.
Table of contents;
Location, location, location! The importance of buying in the right suburb
Ticking all the boxes
Making money from renovations
Property security funds
Residential vs. commercial
Offshore property investments
Building your property portfolio
Real estate is one of the most reliable methods of making money both in Australia and throughout the world. Typically, a real estate investment will need to mature for at least one property cycle of seven years before capital gains are made, but this is not a hard and fast rule. Despite the fact that not all schemes considered to be ‘high yield’ are doing well at the moment, there are still many ways of using real estate to obtain a considerable profit.
The standard investment path for many Australians is to purchase a residential property and wait seven to ten years before selling it. If you want a shorter term investment, there are a range of different methods used for different purposes that also offer great returns. Beyond residential properties there are commercial and offshore investments available to the would-be investor, and it doesn't stop there. Property trusts and funds allow you to invest your money along with others to purchase diverse property portfolios, and there's also the possibility of renovating a property to maximise gains. This guide will explain the difference between each strategy, and the profits you can hope to achieve.
A good investment starts with buying well
Buying well is one of the most important steps on the way to making a good return in real estate. Here are some buying tips which have stood the test of time:
Location, location, location!
This timeless saying is one of the most important ways of ensuring you buy well. The value of a property is often affected by its surroundings. In general terms, a property in walking distance to schools, shopping centres and cafes, will be more appealing to potential buyers and tenants. In addition, waterviews and other desirable outlooks can also add value to a property.
Property analyst Michael Matusik says in his 'Insights Report' that you can find out how close your property is to amenities and infrastructure by using a tool like Walk Score. A score of 85 or higher is desirable when buying an investment property. The first priority in terms of transport is being able to walk to a railway station before having to consider other transport options.
You shouldn't get too close to infrastructure or main roads however. According to Greville Pabst in 'Property Investing the Australian Way', properties on a main road can have a lower price growth potential due to noise disturbances, traffic congestion and difficult access.
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Buy a property that ticks all the boxes;
According to Rich Harvey, buyers agent and CEO of www.propertybuyer.com.au, while buying in an area with a high demand and low supply of properties is ideal, you need specific criteria when looking for an actual property.
'There are 15,000 suburbs Australia-wide to choose for investment so picking the right area can be daunting,' Harvey says. 'You need to pick areas that have fundamental growth drivers from increasing population, stable and diverse employment opportunities and growing infrastructure development.'
Here are some criteria based on Harvey's 'Top 20 criteria for selecting the right investment property', available from the propertybuyer.com.au website:
Price. How affordable is the property? Is it close to the median price of the suburb?You can find out the median price of both houses and units in your suburb using a free report from Residex. This will also provide you with the demographics of the area you're buying in.
Location. Is the property located in an undervalued suburb with strong capital growth prospects? Aim for capital growth of above 8 percent p.a.
Street appeal. Is the property in a quiet street with an attractive landscape and surrounding homes? As mentioned above, location is very important when selling a home and could affect the value of the property.
Development potential. Is there any room for renovations, subdivisions, extensions or redevelopments on this property? This adds potential for further value to be added to the property in future.
Rental yield. If the yield is below 5 percent per year, will the future capital growth outweigh the negative cash flow? In other words, will any potential capital gains you will make on the property outweigh low rental yields? If not, you may want to look for a different property.
Zoning. How likely is the area to be rezoned for multi-unit housing in the future? Find out how this would affect property values if there is a high chance of this happening in order to safeguard your investment.
Owner occupied stock. Do owner-occupiers make up more than 70 percent of the suburb? If not this could mean the area is attracting a large number of investors, and therefore strong competition and decreased rental yields.
Investment Loan Guide
How to invest in property
Renovations
Sometimes renovating what you already have may be the best and easiest way to make a good return in three to five years, or even earlier.
Investment property expert Chris Gray says that providing you do your research, renovations are a low-risk investment.
'As long as it's not a structural renovation you'll get a guaranteed result,' Gray says. 'Unlike an offshore investment, you can physically be there. There's still risk involved - so you have to follow the right steps.'
Profits from a renovation can depend on what improvements are made. According to Gray,
a simple fresh coat of paint and new carpets can cost from $5,000 -$10,000 but could add triple this amount to the value of the property.
Similarly, his experience shows a typical renovation costing $60,000 can usually increase the value of the property by upwards of $80,000.
This renovation might cover a new bathroom and kitchen, as well as a paint job and various other 'cosmetic' makeover tasks.
It isn't a very good idea to purchase a property that requires expensive structural modifications, since these will not bring much profit and are more expensive than cosmetic changes.
As with many investment strategies, the key is good research. Gray recommends the following steps before you start renovating:
Find out what buyers are looking for. 'Ask real estate agents, what do people want? How many bedrooms, bathrooms and storage spaces do they want - what's in massive demand?'
Find out what tenants are looking for. Gray says if you're planning to rent your property out, consult a property manager and find out the demographics of the area, and what potential tenants want.
Get a professional valuer. Real estate agents and property managers still have a bias. An independent valuer can help you out when deciding how much to spend on renovations, to stop you from under or overcapitalising for the particular area.
At this point you can choose to sell, or refinance and use the money for further investments. Over time, this will allow you to renovate a greater number of properties and increase your profit even more. Another great way of earning money from makeovers is by renting out your properties to tenants and increasing the rent once the homes or apartments are renovated. By renting your first property you'll be able to earn the deposit to fund the second one and then the third one. You may have some difficulty with this strategy when it comes to mortgage repayments; however targeting specific tenants can maximize your profits.
For this to happen, you will need to keep a few basic considerations in mind. The first one is to buy your property at the right price. This will involve the ability to determine the end value of the property, and it is a very important aspect; if you don't, you won't be very successful. One of the easiest ways of establishing the end value is to look for similar properties that have been renovated and get a feel of the local market in order to determine whether the investment would be worth it or not.
Gray says knowing where to buy depends on your investment strategy. 'The big dilemma is that for a property in a blue chip suburb, you're not going to pick it up cheaply, and the renovation is only going to be the cream on the cake,' he says. 'If you want to buy a property and be flipping it and selling it straight away, you want a property where you can increase the size of the block. This is slightly riskier - you might have sewerage or drainage problems which you won't have in an apartment.'
The property expert says you also have to be realistic with the time and money you allocate to the project.
'Two bedroom units will usually take four to six weeks to renovate, whereas other projects might take a whole year - it depends on what you're doing,' he says.
'A good rule of thumb is to double the cost estimate and double the time estimate, and then see if you'll still make a profit.'
Quicklinks
Renovating vs. Building New – Find Out Which Is More Cost Effective
Compare Cheap Home Improvement & Renovation Loans
Property security funds
Investing in listed property trusts (LPTs) or Real Estate Investment Trusts (REITs) as they're now known, can also bring you some great returns over three to five years. In 2008 during the GFC, the sector was risky and delivered returns of -55.3%. Experts now believe the sector has corrected many of the issues that plagued it during 2008, and is on track to deliver some of the best results among all asset classes over the next five years.
Some property securities funds (funds which invest in various property trusts) such as the Cromwell Phoenix Property Securities Fund managed to return investors a staggering 39% in one year.
According to Morningstar, the Cromwell Phoenix Property Securities Fund is the best performer when compared to other five-star rated Australian REITS over three years, delivering investors an annualised return of 16.55%, or 11.67% after fees and costs. Since the fund was opened in April 2008, it's delivered an annualised return of 8.3%.
The Navigator Alpha Property Secs Total Ret has also provided strong returns to investors in this time. Although the fees in this fund are higher than Cromwell Phoenix's offering, it still managed a one year return of 24.85%.
Cromwell Phoenix Property Securities Fund performance over the past three years.
Cromwell Phoenix Property Securities Fund
3 months
12 months
3 years - Annualised
Annualised since inception
Fund performance - before fees and costs
9.16%
38.53%
17.67%
2.74%
Fund performance - after fees and costs
8.90%
37.22%
16.54%
1.74%
S&P/ASX 300 A- REIT Index performance
6.68%
28.90%
4.87%
-6.56%
Outperformance (Profits made excess to the S&P/ASX 300 A-REIT Index)
2.20%
8.33%
11.67%
8.30%
* Information taken from http://www.cromwell.com.au/investmentfunds/phoenix
A potential investor can buy a 'unit' in an REIT much like they would a share, after which they become a part-owner in whatever the trust invests in. This could be residential, commercial or industrial properties or developments.
There are many other methods of investing in property security funds that are equally good or even better. For instance, most property security funds only invest in listed trusts which means that most of your money will only go to a smaller number of companies which are listed on the Australian Securities Exchange (ASX). This gives you peace of mind as your investments are then monitored by the ASX, giving you full information about the fund's price and whether it's going up or down.
An unlisted trust is a property trust which isn't listed on a public market such as the ASX. This can bring with it benefits as well as risks. With a greater exposure to unlisted trusts, security funds spread your money over a greater number of investments, ensuring that at least some of them can bring you above average results.
The GFC provided a wake-up call for many property trust managers, who now have a asset spread focusing on domestic properties. Many funds have indicated they will sell off their existing overseas assets and focus more on Australian properties. Investors see overseas properties as one of the major reasons why A-REITS performed poorly during the GFC - overseas property values fared much worse than Australian properties did.
Still, industry experts believe the sector is growing and will continue to grow, and the 2011 - 2012 financial year provided evidence to this. A-REITS managed to provide an annual average return of 11% to investors, while property securities funds delivered a similar average of 10.4%.
Residential VS commercial properties
Commercial properties are made up of warehouses, offices, factories and shops, whereas residential properties refer to any building designed for people to live in.
And while residential properties have been the go-to investment for many investors over the years, some are now abandoning it for commercial investments.
Commercial properties are higher risk but can deliver higher returns
Prices for commercial spaces can vary depending on space, location, renovation options and the type of commercial area you choose to invest in. A vacant 214m2 shop on Parramatta Road in Camperdown, NSW, will cost a potential investor around $900,000 and give them a rental return of $65,000 to $75,000 p.a.
A 200m2 warehouse in Botany, 10 km south of Sydney's CBD could be picked up for $550,000 with an average return of $46,000 p.a.
Assistant Professor at the School of the Built Environment at the University of Technology Sydney, Angelo Karantonis, believes commercial properties can generate higher returns for investors but that they are riskier than residential properties.
'One of the things about commercial properties is you might have a tenant for five to six years and then get a vacancy. Sometimes you may just rollover to a new tenant, but sometimes a vacancy could last a year. It'll drain your cash flow,' he says.
'With a residential unit you may have two weeks of vacancy a year over 20 years and that'll still be less than a year's worth.'
They also require less maintenance than a normal house or apartment, and according to experts have rental increases included in their leases.
Commercial investment properties usually provide investors with higher yields than residential properties due to higher rental returns, longer tenant agreements and the fact that tenants are generally responsible for ongoing costs and maintenance.
'If it's vacant, it's going to be worth a lot less,' Boustani says. 'But if a tenant like McDonalds leases the property, the owners can ask for a lot more - they have a guaranteed tenant.'
All these advantages are great, but keep in mind that due to the higher risk of tenant vacancies in a commercial property, you should try to get the rent secured by a bank guarantee. This will generally bind the tenant to continue paying rent for a specific period after moving which will cover your basic expenses until you can find a new tenant.
As mentioned, there are disadvantages when investing in commercial properties. Karantonis believes commercial properties are only for the tried and tested investor due to a steeper learning curve, historically lower possibilities for capital gains, and higher tenant vacancy rates.
John Boustani, of Move Property Agents in Camperdown, says that the sale price of a commercial property is linked to its tenancy status, and is therefore hard to estimate.
Quicklinks
How to value property
Stamp duty for property
Domestic VS offshore properties
Buying a property overseas is another way great returns can be made in three to five years.
The Chief Investment Advisor for usinvest.com.au, Lachlan McPherson, says investing in a property in the USA can net some great returns - provided you take the right steps, and know it's not a get-rich-quick scheme.
'The best way is to know the market - just because it's cheap doesn't mean it's a good investment,' McPherson says.
Mr McPherson says good properties can be bought for $50,000 to $80,000 in Atlanta. In an area like Dallas, Texas, McPherson says the properties will cost a bit more at $100,000 to $130,000 and net consistent rental yields of 9 - 11%. Strong capital gains can also be found depending on the area, and rental increases are also common in areas where supply is decreasing.
On a property bought for $122,000 in Dallas, usinvest.com.au conservatively estimates it will grow to just under $170,000 in five years, predicted on an annual growth rate of 6.18% and an inflation rate of 3%. If rental yields are added to this, investors could be looking at an investment value of approximately $220,000 before adjusting for inflation.
According to McPherson, Dallas has a rate of employment much lower than most of America, is a resource-based economy, and has a faster and larger population growth than any major city in Australia, making it a good place to invest.
He also says that while there are great returns to be made, research is still the key factor.
'Research, research, research! Know your areas and don't fall in love with a home just because it's pretty, he says. “I look at 200 properties a week and of those most look great when you're looking at them online. Of those 200 properties maybe four or five meet our standards,' he says.
'You need to know you're paying the right price. Get the help of professionals, especially Aussie professionals who are on the ground.'
Karantonis says while there are many websites aimed at Australians wanting to buy a property overseas, you should be prepared to travel and inspect the property.
'There is obviously huge risk involved. These days airfares are cheap, so if you're going to invest a couple hundred thousand dollars in a property fly over and have a look. Even buying something interstate isn't an easy thing, and remember you're going to need someone to look after the property,' he continues.
Karantonis thinks there are four things you should consider before investing in a property overseas:
The four things to consider before investing in offshore property
Know the market. Overseas markets can be very different to Australian markets, so research where you want to buy. Look at the different sub-markets within a larger market, just as you would in Australia.
Get familiar with exchange rates. Exchange rates add another layer of risk to overseas investments.'At the moment the Australian dollar is buying 1 dollar and 4 US cents. If the Australian dollar falls to 80 US cents you've made a 20% capital gain. But if it rises to $1.20, you've lost money.
Find out the best place to get your money from. Certain countries like the USA have much tougher post-GFC lending policies. This means it's sometimes difficult to obtain traditional finance. McPherson says because of this, cash is the best way to purchase a property in a country like the USA.
You can still obtain finance for a property in many countries around the world, but this can be very difficult, require a large deposit, or attract higher interest rates. First check out Australian banks with international branches, and then international banks with Australian branches to find the best deal.
Get familiar with the tax structures of the country you're planning to buy in so your profits aren't swallowed up. The rental income and any capital gains earned from the property may need to be declared in Australia as 'foreign source income' and in the country of purchase. Some countries have tax agreements with Australia, such as a double tax treaty. This will save you from having to pay tax in both countries and could entitle you to other tax savings. Always make sure you check with the Australian Tax Office (ATO) before purchasing a property overseas.
Quicklinks
Guide to buying investment properties overseas
How to buy an overseas property
Your property portfolio
Building your own property portfolio is a difficult process to teach because there's no 'one size fits all' rule that can be applied.
As Rich Harvey of propertybuyer.com.au says, a strategy is tailor-made to your income, age, assets and goals.
But while Harvey thinks it's important for first-time investors not to be over-ambitious and buy multiple properties without the proper due diligence, he says the best way is still through purchasing multiple properties.
'If the figures stack up and you have the financial capacity and stable employment, buying multiple properties is ideal – otherwise the “vacuum theory” will apply- you'll end up spending your money on something else other than asset building, like plasma TVs and fancy holidays!'
Harvey thinks in a five year time frame the number of properties you could own depends on your financial situation.
'If you are on a good income and have good savings you might be able to buy one each year,' he says.
'Otherwise you have to rely on the capital growth of your investment to create equity from which to leverage into your next property.'
How to build a successful property portfolio
According to Harvey, a portfolio which can make you an income of $100,000 per year will require $2 million of net assets invested. This is calculated at 5 percent average rental yield p.a multiplied by $2 million (5% x $2million = $100,000).
Knowing the best way to this point is difficult considering the number of different methods and experts in the property industry. Harvey recommends a simple and stable approach to building your portfolio.
'One property at a time.'
'The simple method is to gradually buy $4 million in property using borrowed funds over a 10 year period and then sell down half the portfolio to pay off the debt – so you're left with a mortgage free portfolio- and can enjoy the cash flow from a reliable asset class.'
The secret pitfalls stopping Australians from achieving property portfolio super status
Rich Harvey shares with Home Loan Finder the top seven reasons why Australian investors never own more than two properties:
Lack of time to do the proper research
Fear of making the wrong decision
Fear of interest rates
Fear of tenants leaving or damaging your property
Paying the wrong price
Not understanding the numbers/ lack of analysis or a formal plan
Procrastination – 'This is the number one reason in my book – I have seen so many people come to seminars, read books and magazines but end up doing nothing.'
'Growing a property portfolio is like nurturing a baby or growing a new garden,' Harvey says.
'It takes time and effort, but the rewards are manifold. A larger portfolio will give you the ability to growth your wealth faster and retire earlier.'
Good things come from a little hard work
Real-estate investments can be time consuming, research-heavy and test your patience. On the flip-side, they can also reap you massive rewards for this investment of your energy. Find out what the best investment strategy is for your circumstances, and research thoroughly before committing to anything.
The post Real Estate Investment: Where to make the most money in 3-5 years appeared first on Finder.com.au.