Investment advice

[Smasher]

Hey guys, long reader first time poster. I'm wanting to hopefully get some investment advice.... A little background:

I'm 34. My name is currently on two properties, both split 50/50 with different parties. The one I live in and own with my wife, is worth probably $900K but we still owe $630k (70%). The other I own with another family member is worth at least $1.5m, owned outright but not currently rented out.

I'm thinking about borrowing against the equity of this property which I half of and put that into a third investment. I'm willing to sacrifice around $200 - $250 p/w to make up the shortfall over the next 2 - 3 years, increasing that as my salary goes up.

My plan is to have a neg geared property for the next decade, then eventually have it pay itself off before acquiring another. I'm wanting to set ourselves up for eventual early retirement.

I've been looking for about the last 12 months at both inner-west Sydney units vs outer west houses. Also the same in Melbourne. I've weighed up the pro's and cons etc. I know that houses have more potential maintenance costs, have more chances of a grubby family moving in with kids and dogs... but units come with the never ending cost of strata that eats away at profits. But i'm still kinda tending towards a unit within 10k of a CBD.

Now onto crunching some numbers, Hypothetically if I borrow say $500k, to put that into a $450k property + purchasing costs. I'd want to rent that out for $500 p/w. By the time I account for rates, water, strata, management fees and loan repayments I would be left with $222pw to make up. With a good tax return which I would get, it's doable.

With my figures in mind, Would I be better off starting smaller with a cheaper property, or going bigger?

Am I missing any other pitfalls? Who would I be best sort of people to seek advice from, other than those of you on this forum?

Cheers

 

[D.T.]

My name is currently

Hi Currently

I'm thinking about borrowing against the equity of this property which I half of and put that into a third investment. I'm willing to sacrifice around $200 - $250 p/w to make up the shortfall over the next 2 - 3 years, increasing that as my salary goes up.

Who lives in the other house now? The family member or is it tenanted or vacant or?

My plan is to have a neg geared property for the next decade, then eventually have it pay itself off before acquiring another. I'm wanting to set ourselves up for eventual early retirement.

Terrible plan. You say you're willing to go to 250/w. Over a decade thats 250x52x10 = $130K. And then pay it off? And THEN get another? And do the same for another 10 years?

What do you actually hope to achieve? You haven't mentioned this yet. You said hoping to retire early; if so by when and on how much money? Or some other goal here other than just 'buy something it should be doable'?

The 50/50 split you currently have might be tricky - they'll have to agree to you getting finance against that property.

Theoretically, you could borrow up to 80% on your PPOR (ie up to 720K, releasing 90K and then 80% on the other property, releasing 1.2M, giving you ~1.3M to play with.

The 1.3M could then be used as 20% deposit and costs on 5.2M worth of property. Whether this is involves five $1M properties or 50 $100K properties or somewhere in between that spectrum, depends entirely on the underlined sentence above.

Essentially, you could retire from work in a year. I would if I was in your position. What do you want to do?

 

[Smasher]

Hi Currently

Who lives in the other house now? The family member or is it tenanted or vacant or?

The family member. My dad who is retired.

What do you actually hope to achieve? You haven't mentioned this yet. You said hoping to retire early; if so by when and on how much money? Or some other goal here other than just 'buy something it should be doable'?

The 50/50 split you currently have might be tricky - they'll have to agree to you getting finance against that property.

What I hope to achieve is to conservatively build up a healthy property portfolio. To get my income tax down via negative gearing in the short term, and eventually accumulate more and more investments over time so that I can retire comfortably in the next say 15 - 20 years. I don't want to work till I'm 70 to then go on to whatever scraps Abbott will leave of the pension!

Though I'm not sure that I want to build a giant house of cards built on equity, and go to sleep at night knowing that I'm one blunder or one change in the economy away from losing it all..

I've already spoken to the bank about borrowing using the 50/50 property as equity, bank manager said my Dad will have to agree to go in joint names on the loan. He is totally supportive of me doing that, and going ahead with this plan.

Theoretically, you could borrow up to 80% on your PPOR (ie up to 720K, releasing 90K and then 80% on the other property, releasing 1.2M, giving you ~1.3M to play with.

The 1.3M could then be used as 20% deposit and costs on 5.2M worth of property. Whether this is involves five $1M properties or 50 $100K properties or somewhere in between that spectrum, depends entirely on the underlined sentence above.

Essentially, you could retire from work in a year. I would if I was in your position. What do you want to do?

OK you've lost me here. From what I have always understood, unless you're buying properties which are neutrally or even positively geared straight off the bat (where do they exist??), you will always have to make up the shortfall with your own earnings or savings. Now if I've got a maximum of $250 p/w I'm willing to put in for one property at the moment, how would I be capable of purchasing any more than that, given that the ROI would only bring in 3 - 4%, and my costs to service the investments would be over 5%? The interest and principle repayments on $5.2m alone would be $6500 p/w. I'm not going to earn that from renting out five $1M properties, and I sure as hell don't earn enough to make up the rest.

 

[The Y-man]

... but units come with the never ending cost of strata that eats away at profits.

May I remind you that the strata is merely an apportioned form of what you get in a house anyway (except the management fee which is not that big, and common lighting etc).

Equivalent House costs: building insurance, rates, external repairs, external maintenance (painting, gutter cleaning, garden maintenance, driveway), water (where applicable), etc

The Y-man

 

[The Y-man]

Now onto crunching some numbers, Hypothetically if I borrow say $500k, to put that into a $450k property + purchasing costs. I'd want to rent that out for $500 p/w. By the time I account for rates, water, strata, management fees and loan repayments I would be left with $222pw to make up. With a good tax return which I would get, it's doable.

How on earth did you calculate that??????

Interest costs on $500k: $26,500 per year
Rental income: $24,180 (allowing 7% management fee)
Outgoings: Let's allow $4,000 (very high....)

I get $121.54 shortfall per week before tax allowances ?

Even allowing for a whole month per year of vacancy that's $157 per week?

The Y-man

 

[MarkC]

Number crunching

I suspect many property investors do not factor in:
- the carry cost of accumulated cash flow losses (at minimum of required rate of return of say 6-7%) for cash flow negative properties. Most properties in capital cities are cash flow negative on full 105% LVR.
- capital gains tax escalation as the CG can get into higher income tax brackets (unless in SMSF - but does not benefit from negative gearing tax benefits in the early years)
- the more cash one puts into a property (smaller LVR)-> lower return on equity (often investor do not factor in the required return on the cash invested to reduce the LVR).

I calculate with net yield of about 3.6% - need capital growth of minimum of about 4% p.a. to break even with a return of 6% on your equity. This can be difficult in a flat market with the carry cost of accumulated losses reducing future returns. I am looking to reduce my exposure to Australian real estate.

 

[Smasher]

How on earth did you calculate that??????

Interest costs on $500k: $26,500 per year
Rental income: $24,180 (allowing 7% management fee)
Outgoings: Let's allow $4,000 (very high....)

I get $121.54 shortfall per week before tax allowances ?

Even allowing for a whole month per year of vacancy that's $157 per week?

The Y-man

Your sums are based on taking out an 'interest only' loan.


Interest and principle on $500k: $32,740 per year
Rental income: $24,440 (also allowing mgmt fee)
Outgoings: $4,400 (strata, water, rates)

That's $244 shortfall per week, assuming it's rented 52 weeks per year.

 

[Terry_w]

If you are investing you should probably take an interest only loan.

 

[D.T.]

Dont do principle and interest.

 

[Smasher]

OK I would be willing to do that for the first couple of years to help ease into the repayments, but otherwise that's taking a bit too much of a gamble on CG increases to offset the costs for my liking. There are a lot of indicators that the market in inner Sydney has cooled of and will remain that way for sometime to come.

I would like to own my investments as quickly as possible.

 

[D.T.]

Dont pay investments off its a waste of money.
Dont gamble on CG , either buy in places where its happening or manufacture it.
If your places arent toooo far negative (hell even positive or neutral), they're easier to hold onto.
Don't restrict yourself to sydney

 

[Terry_w]

OK I would be willing to do that for the first couple of years to help ease into the repayments, but otherwise that's taking a bit too much of a gamble on CG increases to offset the costs for my liking. There are a lot of indicators that the market in inner Sydney has cooled of and will remain that way for sometime to come.

I would like to own my investments as quickly as possible.

You said you owe $630k on the one you are living in. Donn't you realise it would be better to pay this off first?

If you pay the investment PI you will be throwing money away.