estimating bld cost when inspecting

[john doe]

Hi all,

I've started looking for my first IP. I was hoping to buy an IP with depreciation for bld cost (trying for positive cash flow). But when I've been inspecting, I've realised I have absolutely no idea how to estimate how much it cost to build a particular property. At first I asked the RE agents showing the property. But they seemed more lost than I did, and also would often act like I asked a silly question in order to hide their lack of knowledge on this point.

I know I can hire a QS to inspect the property and give me an estimate. But, I plan on seeing a lot of IPs and then narrowing down my choices to the best ones that are worth getting serious about and spending money on inspections for. And to do this elimination process, I need to do my own number crunching and hence make some bldg cost estimates myself before getting in a professional QS.

Any suggestions on how to get savvy about making bld cost estimates?

Cheers

John

 

[geoffw]

First. Depreciation is a bonus. It shouldn't be regarded as a primary reason for investing. Numbers really should work regardless.

Second. If the building was built before 1986, there won't be any building depreciation. But there may be depreciation of fittings and improvements. Things like added carpets, hot water services, curtains, kitchen fittings etc added can add to depreciation.

Third. Building depreciation will be subtracted from the cost base if you do sell at some time in the future. (There will still be benefit to you though). Fittings depreciation will not be.

Finally. Building depreciation is really not that big. A house built 15 years ago bought for $200,000, now worth $400,000 may have cost $70,000 to build (out of hat numbers). Depreciation on that is 2.5% of $70,000- $1,750 pa, worth about $800 in your pocket if you're on the top tac bracket. A small bonus- but not enough to make a big decision on.

Contents depreciaition would be worth a lot more- but you are much more likely to need to replace those contents in the shorter term.

For those sort of small numbers, I'd much rather be looking at growth prospects. 1% growth of the above property will give you $4,000 pa in growth.

Obviously, my numbers are skewed to illustrate my point. But play with them to see if they fit your situation.

 

[stargazer]

Hi Geoffw

Interesting i have just asked my accountant in relation to the depreciation for calculating CGT.

The accountant has indicated that
building and fittings depreciation is taken off the cost base.

Another point if for example you have claimed say 2.5% on $100000

[email protected]%=2500
tax @ 30% 750 claimed.

What figure is used for calculation the 2500 or the 750.

regards
Bonecrusher

 

[geoffw]

bonecrusher,

I'd thought the same as your accountant until a thread in the forum in the last few weeks.

I found the ATO "Rental Properties 2003" guide- http://www.ato.gov.au/individuals/content.asp?doc=/content/31610.htm&page=7#P689_60350

You must exclude from the cost base the amount of capital works deductions you claimed or were entitled to claim for a building, other structure or improvement if:

ie, NO MENTION of depreciation of chattels, contents, fittings or anything. Just the building.

I can't find the thread. But it's in there, not too long ago.

In answer to your other question- your cost base would be reduced by 2500.

So if you had a property bought for $100K, and sold it two years later for $120K, but had held it for more than twelve months, your CGT would be based on (assuming not ppor):

Original cost $100K
Sold for $150K
Less acquisition costs (stamp duty, lawyers etc) $7K
Capital depreciation over two years ($1K pa) = $2K


So profit = 150K - 100K + 7K - 2K = $55K
Held for > 1 year- so tax payable on $27.5K.

So $27.5K will be added to your taxable income for the year.

You were in the 30% bracket- but this might put you into a higher bracket.

BUT, bottom line- you've got $55K, and out of that, even if you were on the highest bracket, you will still get to keep around $40K of that.

 

[abcdiamond]

If you refer to this link at the ATO
it shows the full dates that apply for building write off allowances.

Note that the date refers to "Date construction started"
and can be from 22 August 1979.

Date construction started................................ Rate of deduction per income year
Before 22 August 1979 .................................... nil
22 August 1979 to 21 August 1984 ................... 2.5%
22 August 1984 to 15 September 1987 .............. 4%
After 15 September 1987 ................................ 2.5%

 

[Glenn]

Hi bonecrusher,

I agree with your accountant that depreciating the building and chattels will reduce your cost base in the event that you wish to sell the property some time in the future.

However, think of it this way.....should you be entitled to claim a tax deduction of say $2500 THIS year and you do claim it, upon selling the property, your cost base is reduced by $2500 in the year you SELL the property, and that figure is not indexed up with inflation.

Now, let's assume that the property is sold 7 years after buying it......would you prefer to get the benefit of a $2500 deduction in year 1 or year 7?? I reckon a dollar now is worth more to me than a dollar in 7 years time, and that is why I would take the deduction in year 1 and run with it!

Good luck

Glenn

 

[Les]

Les's "Five Second Solution"

G'day John Doe,

Re "building cost" (construction cost) - simply ask the RE agent "What would this have SOLD FOR when it was new?" Make it part of a "How long have you been selling RE?" type of question. Maybe "Gee, I wonder what I would have paid if I'd bought this brand new? Would you know, or one of your mates in the office? I'd be interested to know..." If they've been around awhile, they can likely tell you, or, at least, give you a ballpark figure to work with.

So, with the "sold for" figure in mind, I would say 30+% would be land, and say 20% for developer profit. If you halve the "sold for" price, that might be a little on the high side - 40% might be a better (conservative) figure, but I'm thinking of making it easy to calculate here !!!

The other thing you need is YOUR marginal rate. Since the Building Allowance is a deduction, what you get back is the Tax related to this amount. So, here's an example:-

"Sold for" in 1990 - $100k
Building cost $50k (near enough....)
Your deduction $1250 pa
Your Marginal rate 48%
Your tax relief (48% of $1250) = $600 pa
Your tax relief per week = $12

Now, since this is likely not too accurate, let's be conservative and say $10 per week.

IF you are in the highest Tax bracket (48.5%), simply take the "sold for" price in thousands, and divide by 10 to get to the "near enough" answer.

$100k (leave off the "k") divided by 10 = $10 per week !!!!

Saves a lot of time. Waddaya know - Les's "5 second solution"

For 31.5% simply take 2/3rds (say, $6.50 - near enough?)
For 17%, use 1/3rd of that figure ($3.30 per week)

Note, for those on other than top marginal rate, this may become "Les's 20 second solution" - sorry

 

[abcdiamond]

Re: Les's "Five Second Solution"

Originally posted by Les
Re "building cost" (construction cost) - simply ask the RE agent "What would this have SOLD FOR when it was new?"
<snip>
Les's "5 second solution"

Les, I have been thinking along the same lines as you. REA have data available to them that can show the previous sales prices for each property, presumably the original sales prices also?

They should also know the land cost at the original time of sale.
and "hey presto", you should have the "accurate "original building cost !

Must be something wrong here, it can't be that easy can it ?

 

[Les]

G'day abcd,

Good point. I've used "propertyvalue.com.au" a few times - they give sold values of that particular property (I think they can only go back ~10 years) - BUT it will cost $40 a shot.

But, if this data is available for free (even the local library can get you "in the ballpark" - look at the average similar price back then for a 3bdr, 1ba w/dlug or whatever). Still, if the RE agent has the miles on the clock, and the memory is not too faded, then, even if they are wrong by 50%, we are still only talking a "$5 per week" error. Not enough to bankrupt the average bloke, but useful as a "starting point", as in John Doe's case.

Can it be that easy? I reckon so..... In the end, it isn't rocket science, and little "5 second solutions" can save beating an Excel spreadsheet to death over a few dollars.

In the end, though, building cost is small beer (but it can keep you in beer for up to 40 years ). It's the accumulation of all the costs that take you to "make or break" decisions.

Steve McKnight's famous "11 second solution" is (to my mind) ripe for tailoring to suit YOUR situation. His "solution" takes ALL costs into the equation, and provides a quick result to the question "Is it worth looking any closer at THIS one?"

But it is slanted toward +ve gearers. It is really quite simple to tailor it to handle YOUR niche. Sure, you need to crunch the numbers, but, in the end you come with your very own "11 second solution" that suits YOUR parameters.

Someone posted on some very similar points only two or three weeks back. If I find the link, I'll post it here,

Found it:-
http://www.somersoft.com/forums/showthread.php?s=&threadid=12220

Regards,

 

[abcdiamond]

Originally posted by Les
G'day abcd,

Good point. I've used "propertyvalue.com.au" a few times - they give sold values of that particular property (I think they can only go back ~10 years) - BUT it will cost $40 a shot.

But, if this data is available for free (even the local library can get you "in the ballpark" - look at the average similar price back then for a 3bdr, 1ba w/dlug or whatever).

I'd not thought about the library, I wonder how far back they keep the local papers ? To check the property for sale back at the relevant time.

Then taking it a stage further, if we got accurate property sale prices, and accurate land sale prices, would we need a QS to do the depreciation of the building ? Obviously the contents wouldn't be that easy, but some houses have so little in them ?
My last IP had an oven and a hot water system, and thats about it!,
I think !!

 

[Les]

G'day abcd,

Then taking it a stage further, if we got accurate property sale prices, and accurate land sale prices, would we need a QS to do the depreciation of the building

'Fraid so, abcd ! According to the "Rental Properties Handbook 2003" a QS is one of only a very few that can ascertain values that the ATO will accept.

And, re your comment "some houses have so little in them" let me recount from my first IP. I reckoned that there wouldn't be more than $3000 that could be claimed, but, having "read the books", etc I used a QS - and this allows me to write off nearly $10000 worth over the years. His fee was $500, but it was recouped (PLUS) in the first year.

I think it comes down to the fact that these dudes KNOW just what can be claimed, when I wouldn't give something a second thought. So, even an "empty house" may well have deductions that you or I wouldn't see.

Regards,

 

[Peter Parker]

Hi all. Several points:

abcd: Old papers. One city I was in recently not only had a great library with plenty of property investing books, but was GIVING away local papers from 12 years back! It was great reading the real estate ads - they showed that prices & rents had moved up only slightly in that time, confirming other research I'd done.

Though I didn't do this seriously, I'd look at what land in the area sells for and work out the building component from that. I'd then do a quick and dirty inflation calculation. Average inflation was generally 7-10% for a long time from the late 70s until the early 90s.

But very roughly (looking at ads and magazine prices) many prices seem to have doubled since the late 1980s, trebled since early 80s, quadrupled or quintupled since the late 70s and increased by 10 times since 30 years ago.

Sim: My own rough rule is similar to the '11 sec thing' but I put in some extras because I wanted a bias towards good quality, good value, low maintenance, good location and good tenantability in anything I bought. However it not necessarily guarantee cashflow positive returns before tax (though neither does the '11 sec rule'. Here it is:

Start with estimated rent ($ pw)

Make the following additions/deductions:

Built before 1985/87 -$10
Built after 1985/87 +$10

Timber/asbestos -$10
Brick/tile or iron +$10

Body Corporate -$5
No body corp +$5

Small land component -$10
Large land component +$10

>1km beach or town -$10
<1km beach or town +$10

Septic tank -$5
Deep sewage +$5

Multiply answer by 500 (or whatever your preferred factor is) to give price value.

Properties advertised near this amount are worth considering. A good quality property meeting this rule will give about 8-9% return, whereas a poorer quality property will require about 11-12%, but could have tenantability, vacancy and maintenance risks.

Peter