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From: Trina Blum


Hi
Can anyone tell me if there is a formula I can use to work out whether a property is negatively geared or positively geared?

Regards
Trina
 
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Sim

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Reply: 1
From: Sim' Hampel


Try this:

Borrowing costs = purchase price * borrowing costs factor
Deposit = purchase price * deposit ratio
Loan amount = purchase price + borrowing costs - deposit
Interest bill = loan amount * interest rate
Rental income = property value * rental yield
Expenses = Rental income * expense ratio
Net income = Rental income - expenses
Property is +ve geared if net income is greater than interest bill

Eg.

* Assumptions *

Purchase price = $100000
Borrowing costs factor = 5% (of purchase price)
Deposit ratio = 20% (of purchase price)
Interest rate = 6.5%
Property value = $100000 (same as purchase price)
Rental yield = 7%
Expense ratio = 30% (including repairs, maintenance, management fees etc)

So sums would be:

Borrowing costs = $100000 * 0.05 = $5000
Deposit = $100000 * 0.2 = $20000
Loan amount = $100000 + $5000 - $20000 = $85000
Interest bill = $85000 * 0.065 = $5525pa
Rental income = $100000 * 0.07 = $7000pa (= $135 pw)
Expenses = $7000 * 0.3 = $2100pa
Net income = $7000 - $2100 = $4900pa

Net income is LESS than interest bill, so property is -vely geared.

Of course, some of my assumptions are fairly harsh, and I'm looking at Interest Only not P&I. If you were to buy below value but charge rent based on full value that would help immensely, plus if you were to find that your expense ratio was less than 30% (ie. newer property and/or you manage it yourself) then that can also help.

The rental yield is very location/price dependant, so that would also need to be adjusted to your area.

If you put more money in for deposit, you can also make it +ve geared. Of course, the more of your own money you put in, the worse your returns will be (on a "Cash on Cash" basis).

 
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Reply: 2
From: Frode Egeland


Use this as a quick guide to see if positive cashflow is possible.
Note, this is not an exact method, just a quick guide to see if the figures are "in the ballpark"..

If (Weekly rent /2) *1000 => Asking price
the property has +ve cashflow potential, and further sums should be run.

As an example,
Weekly rent of $120
Asking price $55,000

Calculation: 120/2= 60
60*1000= 60,000
Since 60,000 > 55,000, this property has potential, and warrants investigation.

If the asking price was $65k, then this method would rule it out.

This method is often called "The 11 Second Solution."

Cheers,
Frode
CashflowSydney
 
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ve Gearing Formula

Reply: 2.1
From: Ken .


An in the head method I use to work out approx % return on a property, is to take the cost (price + borrowing costs), take the 000 from the end of the amount (if $125,000 it becomes $125). If this is the rent then it is a 5% return. To go one step further, divide this by 5 to get 1% ($25)
So if you were going to buy a property, and it will cost you $150,000 and the rent being paid is $200 pw.
$150=5% + $30=1% + $20=.6% total= 6.6%
You need to know running costs (rates, insurance, maintenance, mgmtfees etc)turn this into a weekly figure and subtract this from the rent, you then do the calculation above, and if the % is larger than your loan interest % you have positive cashflow.
This takes no consideration for tax deductions, laws could change one day?? Also, how much is allowed for maintenance is dependant on the age and complexity of the property (some say 0 for new and up to 30% of rent for old).
Well, it seemed simple before I tried to write it down, but it works for me.

Ken
 
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Reply: 3
From: Nigel W


At the risk of stating the obvious (and I often need it stated to me!) its in the differential between the gross rent per annum and the cost of your finance that you make your cashflow (provided you can keep expenses under control).

I.e. if the property is worth $300,000 and rents for $30K gross per annum then you've got say a 3-4% spread in which to make your money.

I tend to calculate as follows:

Weekly rent x 50 (allow some vacancy) = gross return

less Purchase price x interest rate = interest cost

less rounded up rates figure

less rounded up insurance figure

A practical example:

$400,000 for a block of 4 flats

Weekly rent 600 (ie 150 pw each)

Gross Return = $30,000

Interest cost = $400,000 x 6.5%
= $26,000

Rates = 5,300 (which I round to $6,000)

Insurance = $700 (which I round to $1,000)

Thus 30,000 - (26,000 + 6,000 + 1,000)

Means we are serious in the red to the tune of perhaps $4K per year not counting any maintenance costs...

Now it would be an entirely different matter if the property were going for around the low $300,000 mark.

You should get into the habit of asking the agent how much the rates are. Insurance you should factor in and be very conservative.

Why calculate on a 100% borrowing when you'll be putting in a deposit? Well it builds in a buffer in case there is some maintenance or something I've missed.

Why 50 weeks rent? I figure that with multiple dwellings that's a total of 1 flat vacant for 8 weeks or some mixture of vacancies. if it were a single dwelling I'd go for 48 weeks' rent just to be safe.

Do tax benefits factor in? No way - they're just the gravy!

Hope this longwinded effort assists!
N.
 
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ve Gearing Formula

Reply: 2.2
From: Owen .


The 11 second solution doesn't work in Sydney where a 1br costs $250pw to rent.

250/2 = 125 * 100 = $125,000 - try about $200k and you would be closer.

I reverse the calculation and do the simple "how much does it have to rent for to be +ve" calculation.

Selling for $200k
Borrow 100% @ 6.5% I/O = $13000pa / 52 = $250pw

Vary the number of weeks rent, interest rates and take a percentage off the income for maintenance and you have all the calculations you need.
 
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Reply: 3.1
From: GoAnna !


Why calculate on 100% when you are putting in deposit? Because many people do not put in a deposit or purchase costs into the deal...it is borrowed 106%. This is the ultimate leverage.

I guess the two main things we want to know when assessing a property is what the rate of return will be on our money and whether overall the deal is putting cash in your pocket or taking it out. The amount of deposit will effect both rate of return and the cash flow direction.

Debt to value ratio is a personal consideration depending on your risk comfort zone.

A rough guide formula is great however investors seeking highly cash flow (but likely low growth properties) may use a different formula to those seeking growth.


GoAnna !
(aka Anna before she got real)
 
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Reply: 3.1.1
From: Jack Moro


Hi all

I've just purchased my second I.P so found all your formulas interesting when applying them to my recent purchase.

I have to say SIM has the answer in my eyes
as it shows my recent purchase $83 for the year +ve.(am I biased ??)

It is just logical and I would suggest other newbies follow it and even if your a little
-ve geared so what, so long as you can cover it.

What ever happened to the rule of not going below a 6.5% Rent return to approximate a almost +ve geared property this is what I do and it seems to work
(UMM I hope Im not missing anything)

PS
Thanks Sim for the layout of calculating +ve geared I.Ps and ratios of costs etc found them all accurate with my recent purchase
Melbourne Eastern subs
Shall use it in the future

Craka
Jack
 
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Reply: 3.1.1.1
From: Kevin Forster



There are many guides out there but the only thing that counts when looking at buying a property is the amount of due diligence you do. The guides are great for throwing out the rubbish and overpriced properties but if you're going to put an offer in you have to know what it is going to make you.

It gets easier if you have more than 1 property in your portfolio and you are buying a similar property in a similar area as you can use similar proximations (estimates).

I also use an accounting package where I enter all expenses and incomes for each property and then check it against the estimates that I did initially. This helps in refining your estimates up or down.

Kevin
 
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ve Gearing Formula

Reply: 2.3
From: Julie _adelaide


I look at the weekly rent and divide that into the asking price. eg $50,000 / $100 = 500:1 (A sum I can quickly do looking in the ads on the weekend). If the ratio is around 500:1. It has potential, If it 100:1, I steer away or I consider its capital growth potential, but it's usually enough to make me not look much further.

I was at an auction on the weekend on the Yorke Peninsula (SA) where a property on the beach front block offered to lease holders around 5 years ago at $40,000 was sold for $268,000. Now that's capital growth! And damn any formula!
:)
Julie_adelaide
 
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ve Gearing Formula

Reply: 3.1.1.1.1
From: Rasputin .


keep hearing this term "Due Dilagince" what is it , what does it actually mean
 
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ve Gearing Formula

Reply: 3.1.1.1.1.1
From: Apprentice Millionaire


Hi Rasputin,

My definition for "Due Diligence" would be: do your homework. Go and find all the facts you can about the investment. In a post not so long ago, Michael Croft wrote how he would check and double-check facts even if he had engaged a buyers agent. Doing your due diligence means that you do not rely on someone else's information only.

Cheers
Apprentice Millionaire
(aka Jacques in the old forum)
 
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