NRAS fail experience - be very selective

Having trouble sleeping so thought I'd share a sobering experience today, some sad regrets re my own missteps with NRAS, and try to temper/nuance some investment advice I gave to good friends which has been too one-sided in the recent past.

Had another inquiry from a friend today regarding NRAS, and I was all too happy to share what had been a largely positive experience for me when I purchased it. As a subscriber to the no credit growth = no easy capital gain school of thought as well as being a firm capital city investor, I merrily chirped away describing how NRAS allowed me to buy a townhouse in a capital city at a price the bank fully agreed with, with 6k CF+ in year one.

Just as I thought I'd do a bit of quick digging to see if things had changed from last year, I stumbled across an article by Margaret Lomas on NRAS pitfalls:
http://www.propertyobserver.com.au/...n-its-own-margaret-lomas/2012120258187/Page-2

Most of it had been refuted in other articles as groundless fearmongering, but one bit of info gave me serious pause for thought: that the ATO had been clear in what appeared to be an easily generalisable private ruling about the state govt rebate ($2495) component of the govt rebate being classed as "NANE income", and therefore requiring that individual investors apportion any tax deductions they wish to claim between "eligible income" (i.e. expenses used to generate rental income" and "non-eligible income" (i.e. expenses incurred in receiving the state govt rebate). The full ATO private ruling can be found on the ATO site and also here:
http://www.qahc.asn.au/images2/ATO Review of NRAS230812.pdf

Nothing in the ruling appears to prevent it from being readily generalisable to the vast majority of individual NRAS investors partnering with one of the major consortiums, myself included. As I sat down to crunch the numbers in light of the need to apportion deductions (I'm an auditor, though not on the forefront of NRAS tax accounting) I arrived at my final figures:

Property value 351k
Loan amt 362k
NRAS rent 15k (assuming avg 50wks/yr)
Interest 20k
Other expenses 7.7k
Net annual cashflow avg over first 5 yrs BEFORE ruling assuming zero growth zero inflation 4.1k
Net annual cashflow avg over first 5 yrs AFTER ruling assuming zero growth zero inflation 2k :( (apportioned 86% rental 14% state govt NANE rebate)
Avg reduction per week in cashflow due to ruling -$38/wk :mad: (Michael Sloan's team acknowledges worst case of -$34/wk loss - http://webcache.googleusercontent.c...ng-the-numbers-game+&cd=3&hl=en&ct=clnk&gl=au)
Reduction over 5 yrs due to ruling -10k :mad::mad:
Annualised return on equity 2.4%

Still CF+, but halving the profit might have been a deal-breaker for me - especially after all the research, computing the figures down to an absolute tee, and also passed up the option of renovating and flipping a bargain old unit (a strategy I have prior experience with). Exit strategy of selling to another NRAS buyer has just gotten a lot bleaker, and selling as a non-NRAS property to owner occupiers in a slightly dipping market for units even at purchase price will likely incur a bitter 20-30k loss overall (due to unrecoverable stamp duty + commissions).

All's probably not lost, and given the history of wrangling between the NRAS consortiums and the ATO, a follow-up private ruling for some consortiums may yet be issued in future. Suffice to say though, as things stand today, the "too good to be true" investment opportunity I saw 6 months ago is now only barely passable. (I see a lot of articles presumptuously comparing NRAS being CF+ with standard neg geared residential investment stock... as if neg geared junk is the only alternative to NRAS.)

I suppose the big takeaway for me is that I let myself get lulled into a false sense of security about some real NRAS risks due to what appeared to be a huge tax incentive, without realising that hunting for a good NRAS investment should be considered as challenging and time-intensive as hunting for undervalued reno units and subdivisions (which have only worked better for me and other friends in the last 2 years only because of sheer hard work and unrelenting due dil).

Not that I'd stop recommending future NRAS investments entirely, but to avoid the same mistake I'd definitely wake up to the fact that most NRAS properties, like most typical neg geared stock or buy-reno-flip opportunities, are a waste of time, and that a truly sweet deal will no doubt require at least the same level of hard work and due dil as for any other property investment. I'd look for a much higher CF++ equation (say 12k+ /yr minimum avg over 5 yrs) after factoring in a substantially higher risk of govt/ATO "rebate tampering/scrapping" and other risks such as stigma suburbs/streets, flood history, etc., as well as a minimum break-even exit strategy in spite of a zero growth zero inflation environment. Get hard facts, be ultra selective with the property and consortium, price-in all risk factors (modelling on bad-to-worst case), and have a solid disaster recovery/exit plan for when hell breaks loose.

Good luck! End of rant/sob/public penance.
 
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Having trouble sleeping so thought I'd share a sobering experience today, some sad regrets re my own missteps with NRAS, and try to temper/nuance some investment advice I gave to good friends which has been too one-sided in the recent past.

Had another inquiry from a friend today regarding NRAS, and I was all too happy to share what had been a largely positive experience for me when I purchased it. As a subscriber to the no credit growth = no easy capital gain school of thought as well as being a firm capital city investor, I merrily chirped away describing how NRAS allowed me to buy a townhouse in a capital city at a price the bank fully agreed with, with 6k CF+ in year one.

Just as I thought I'd do a bit of quick digging to see if things had changed from last year, I stumbled across an article by Margaret Lomas on NRAS pitfalls:
http://www.propertyobserver.com.au/...n-its-own-margaret-lomas/2012120258187/Page-2

Most of it had been refuted in other articles as groundless fearmongering, but one bit of info gave me serious pause for thought: that the ATO had been clear in what appeared to be an easily generalisable private ruling about the state govt rebate ($2495) component of the govt rebate being classed as "NANE income", and therefore requiring that individual investors apportion any tax deductions they wish to claim between "eligible income" (i.e. expenses used to generate rental income" and "non-eligible income" (i.e. expenses incurred in receiving the state govt rebate). The full ATO private ruling can be found on the ATO site and also here:
http://www.qahc.asn.au/images2/ATO Review of NRAS230812.pdf

Nothing in the ruling appears to prevent it from being readily generalisable to the vast majority of individual NRAS investors partnering with one of the major consortiums, myself included. As I sat down to crunch the numbers in light of the need to apportion deductions (I'm an auditor, though not on the forefront of NRAS tax accounting) I arrived at my final figures:

Property value 351k
Loan amt 362k
NRAS rent 15k (assuming avg 50wks/yr)
Interest 20k
Other expenses 7.7k
Net annual cashflow avg over first 5 yrs BEFORE ruling assuming zero growth zero inflation 4.1k
Net annual cashflow avg over first 5 yrs AFTER ruling assuming zero growth zero inflation 2k :( (apportioned 86% rental 14% state govt NANE rebate)
Avg reduction per week in cashflow due to ruling -$38/wk :mad: (Michael Sloan's team acknowledges worst case of -$34/wk loss - http://webcache.googleusercontent.c...ng-the-numbers-game+&cd=3&hl=en&ct=clnk&gl=au)
Reduction over 5 yrs due to ruling -10k :mad::mad:
Annualised return on equity 2.4%

Still CF+, but halving the profit might have been a deal-breaker for me - especially after all the research, computing the figures down to an absolute tee, and also passed up the option of renovating and flipping a bargain old unit (a strategy I have prior experience with). Exit strategy of selling to another NRAS buyer has just gotten a lot bleaker, and selling as a non-NRAS property to owner occupiers in a slightly dipping market for units even at purchase price will likely incur a bitter 20-30k loss overall (due to unrecoverable stamp duty + commissions).

Definitely didn't think something like this would materialise only months after purchasing, but I'd have to say my accountant, who pleaded with me not to go ahead due to high regulatory/tax risk, was probably right on this occasion.

All's probably not lost, and given the history of wrangling between the NRAS consortiums and the ATO, a follow-up private ruling for some consortiums may yet be issued in future. Suffice to say though, as things stand today, the "too good to be true" investment opportunity I saw 6 months ago is now only barely passable. I see a lot of articles presumptuously comparing NRAS being CF+ with standard neg geared residential investment stock... as if neg geared junk is the only alternative to NRAS. Although time-intensive, hunting for undervalued reno units and subdivisions has worked better for me and other friends in the last 2 years.

Not that I'd stop recommending future NRAS investments entirely, but to avoid the same mistake I would look for a much higher CF++ equation (say 12k+ /yr minimum avg over 5 yrs) after factoring in a substantially higher risk of govt/ATO "rebate tampering/scrapping" and other risks such as stigma suburbs/streets, flood history, etc., as well as a minimum break-even exit strategy in spite of a zero growth zero inflation environment. Get hard facts, be ultra selective with the property and consortium, price-in all risk factors (modelling on bad-to-worst case), and have a solid disaster recovery/exit plan for when hell breaks loose.

Good luck! End of rant/sob/public penance.

Thanks for sharing, will go through in detail tomorrow.
 
Interesting post. One question though, have you actually held the property long enough to need to do a tax return or are these figures based solely on the assumption the private ruling will be generalised and wont be changed?

I only ask because the NRAS legislation has been changed a number of times since it started because of issues that were unforeseen when it was written. My personal opinion is that it is likely that this private ruling will be changed as well. It makes no sense for the government to offer a tax incentive like the NRAS whilst at the same time making the investor bear all the costs involved which effectively eat up the incentive.

Of course I could be totally wrong on that score since the government does a lot of things that don't make sense.

antiparadox said:
I suppose the big takeaway for me is that I let myself get lulled into a false sense of security about some real NRAS risks due to what appeared to be a huge tax incentive, without realising that hunting for a good NRAS investment should be considered as challenging and time-intensive as hunting for undervalued reno units and subdivisions (which have only worked better for me and other friends in the last 2 years only because of sheer hard work and unrelenting due dil).
This I totally agree with. Nothing about NRAS means one should just go in a purchase any old thing just because there is some tax benefit. Due diligence is just as important with NRAS as with any other investment.
 
Due diligence is just as important with NRAS as with any other investment.

More so, since you have a couple of layers of complexity and marketing that can get in the way which is why its best to really have a GOOD look at who is selling you "the item" and what level of marketing fees are there along theway.

1 to 2 % to a marketing agent isnt going to make or break the deal, but on some that have been across our table 20 to 40 k is not unusual.

this then tends to affect vals badly....

ta
rolf
 
Thank you for sharing your experience antiparadox.


1 to 2 % to a marketing agent isnt going to make or break the deal, but on some that have been across our table 20 to 40 k is not unusual.
rolf
How do we know how much those marketing fees are?

I looked at few closely. Generally they were over priced. They all claim that their quality is superior and we shouldn't compare with what is available :confused:
Some claim that there is a premium because it is brand new. What's the point in paying premium if it is going to be rented out?
 
Thank you for sharing your experience antiparadox.



How do we know how much those marketing fees are?

I looked at few closely. Generally they were over priced. They all claim that their quality is superior and we shouldn't compare with what is available :confused:
Some claim that there is a premium because it is brand new. What's the point in paying premium if it is going to be rented out?

in QLD at least there is some form of disclosure in the PAMD 27 forms

Most often you dont know, until the the val comes in short by a long shot.

This is where its important to

Do NOT cross collateralise,and let the NRAS loan stand on its own security to the max lvr that you intend and that the lender allows, be that 70 to 90 %. In doing so, if the val comes in low, the lender will refuse finance, and if using a broker you may be able to get a dollar value on the va.

Please note this isnt just for NRAS, but any new stock that isnt typically of normal market and has more than one or two layers of marketing

ta
rolf
 
More so, since you have a couple of layers of complexity and marketing that can get in the way which is why its best to really have a GOOD look at who is selling you "the item" and what level of marketing fees are there along theway.

1 to 2 % to a marketing agent isnt going to make or break the deal, but on some that have been across our table 20 to 40 k is not unusual.

this then tends to affect vals badly....

ta
rolf
Good points.

It all comes back to due diligence really. Of the 3 NRAS properties my wife and I have signed contracts on, only 1 valued short and then by only $11k so it wasn't a big problem to us. On the other hand, one property we looked at valued short by $100k, which was very surprising, so we pulled out of that.

As for the private ruling, all my properties will still be strongly cf+ even if the ruling stands and is applied generally.
 
Interesting post. One question though, have you actually held the property long enough to need to do a tax return or are these figures based solely on the assumption the private ruling will be generalised and wont be changed?

Haven't done a tax return yet, and the tax accountant I work with had no specific answers given the niche tax area this issue falls under. Being conservative and risk-conscious as we all should be, I re-jigged the figures based on what the published private ruling says and the circumstances in which the asker appears to have sought the ruling. Sad to say, the ruling appears quite clear in its application and I don't see a way to weasel out of the wording of the ruling apart from the legislative changes which you've also pointed out.
 
More so, since you have a couple of layers of complexity and marketing that can get in the way which is why its best to really have a GOOD look at who is selling you "the item" and what level of marketing fees are there along theway.

Actually I think we did a fair job in this department. Building had been already been completed for 4 months when we settled. The townhouse valued at the purchase price of 351k, and we got it cheaper than what most owner occupiers would have paid for identical units in the same complex. The complex itself is predominantly owner occupied, which is one of the reasons we liked this unit.

Problem was really in letting the best-case scenario after-tax CF+ bottom line get to my head and make me go for a product type I would never otherwise touch (i.e. new investment grade units), instead of the highly selective reno-flipping which has brought me much joy in the past few years.
 
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Haven't done a tax return yet, and the tax accountant I work with had no specific answers given the niche tax area this issue falls under. Being conservative and risk-conscious as we all should be, I re-jigged the figures based on what the published private ruling says and the circumstances in which the asker appears to have sought the ruling. Sad to say, the ruling appears quite clear in its application and I don't see a way to weasel out of the wording of the ruling apart from the legislative changes which you've also pointed out.
Firstly I wasn't suggesting there was a way to "weasel out" of the ruling.

And yes, I agree one should be conservative and risk conscious and work the numbers based on what the private ruling says.

I merely asked because I wanted to know if you could confirm through having done a tax return with NRAS properties that the tax office has been applying the rules in the way the private ruling states. NRAS has been going since 2008 and I've not heard of anyone who has had the tax department apply tax law in the way that the private ruling states.
 
so, the social aspect of providing rents at 20% below market, to aid community affordability issues is now being trumped by the ATO wanting a slice of the pie?

wood for trees, anyone? i will personally be sending this to Hon Tanya Plibersek (the architect of the NRAS scheme) and see what she has to say about this.
 
Understood and fair enough. My understanding is that doing a tax return with deductions for NRAS properties isn't in itself going to confirm or deny whether the particular deductions claimed are acceptable to the ATO - unless you're audited or apply for a private ruling directly. A reason why we haven't heard of the ATO applying tax law in the way stated in the private ruling could be that nobody has bothered to apply for one, with everyone assuming full deductibility (as might the hypothetical "reasonable person" I would think).

As for the private ruling, all my properties will still be strongly cf+ even if the ruling stands and is applied generally.
Well done on your due dil there. Would you mind sharing roughly how much CF+ after ruling is applied? Are we talking 5k / 10k / 15k avg per year over 5 years?

[edit] apologies for my unintendedly defensive tone earlier - still overcoming some angst :)
 
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Depreciation?

Did a quick calc (assuming $10K depreciation) and it's still positive by about $4.5K pa down from $6.0K pa.

Still hard to argue against someone giving you $4.5k pa.

Compare that to about -$3.0K pa without NRAS.

I'd still rather $4.5K pa in my pocket than paying out $3.0K pa.
 
Well done on your due dil there. Would you mind sharing roughly how much CF+ after ruling is applied? Are we talking 5k / 10k / 15k avg per year over 5 years?

[edit] apologies for my unintendedly defensive tone earlier - still overcoming some angst :)
2 of the 3 properties I have purchased are dual occupancy and therefore benefit from 2 x NRAS allotments. So I'll be receiving 5 NRAS entitlements all up. Further, all 3 have pretty decent yields even after the 20% rent reduction is factored in.

After tax cash flow prior to ruling would be approximately $40k per annum assuming all my figures are accurate. Now assuming the worst case scenario linked to in your OP of $34/pw per property that would cut around $8800 so lets call it an even $10k just to be safe and I'd be left with approximately $30K per annum.

I will admit that on advice from my accountant I had been doing the sums differently and didn't think the ruling would cut quite that much from the cash flow but even if it does, I'm happy with $30k per annum.

My wife and I combined earn approximately $180k per annum gross.
 
Done 4 years worth of tax returns over a number of NRAS properties. No issue was raised wrt the above ruling including during a mini-audit.

Relax, wait and see.
 
HotRod said:
Still hard to argue against someone giving you $4.5k pa.

Compare that to about -$3.0K pa without NRAS.

Why compare with a NG property? It is only fair to compare if you are going to buy a similar property anyway. It should be compared with what else you can do with your deposit. E.g. Granny flat in nsw or renovation or sub division.
 
Depreciation?
Did a quick calc (assuming $10K depreciation) and it's still positive by about $4.5K pa down from $6.0K pa.

Yep, included the highest possible dep'n of 10.5k in first couple of years down to dep'n of around 5.5k in the 5th year based on BMT schedule. My first year figures pre-ruling were just under 6k, and the avg over first 5 years at 4k (conservatively assuming zero cap growth & zero inflation). Post-ruling (subtract 14% of all deductions and all consortium specific costs - $800 /yr for QAHC compliance fee and the initial 1.2k NRAS onboarding fee) gives 3.6k in 1st year and 2k avg over first 5 yrs = Cashflow halved.

Still hard to argue against someone giving you $4.5k pa.
Compare that to about -$3.0K pa without NRAS.
I'd still rather $4.5K pa in my pocket than paying out $3.0K pa.

Fair point if comparing with other neg gear investment property options, but I'm comparing with v. selective buy-reno-flip strategy which netted me 30k profit last year for instance (the reno'd unit could have been rented out neutrally geared even after all expenses).
 
I will admit that on advice from my accountant I had been doing the sums differently and didn't think the ruling would cut quite that much from the cash flow but even if it does, I'm happy with $30k per annum.

Thanks for sharing. I think that's where I missed a trick with NRAS in paying for my tenants' lifestyle through high body corp expenses and lack of scalability of a single townhouse - those double rent/duplex units with dual NRAS sound like solid cashflow investments even without NRAS and would have been the way to go, if only I could find them in strong growth areas to mitigate capital loss risk, and within our price range (max 450k on a combined household income of 80k).

30k/yr CF+ for 3 NRAS properties = 10k/yr CF+ per property with 25% loss of profit post-ruling is still very much a strong position. The problems this ruling poses appear significantly weightier for properties on the lower end which were relying on heavy deductions to boost the CF+ figures. I feel for the owner of the inner-city NRAS studio bought for 220k with sky high body corp that will now have to apportioned deductions 77% rent 23% state gov NANE and subtract all consortium fees.

Done 4 years worth of tax returns over a number of NRAS properties. No issue was raised wrt the above ruling including during a mini-audit.
Relax, wait and see.

Hey that's promising. I don't know what a mini-audit entails but there's hope.
 
There is a group consisting of the largest 9 or 10 NRAS Approved Participants ( consortiums) who have already met and have put a proposal to the minister for some minor amendments to the NRAS Scheme Act 2008 to find an ATO friendly solution to this ruling.

It's another side effect the original legislation didnt account for, as it was designed for institutional investors rather than you and I and Joe public. As Truong has indicated...relax, wait and see. This isnt the first time the legislation has required an amendment. Just like the issues regarding the questions around the tax free status of monies paid to an individual investor through an institutional investors model via an NEJV or Head Lease model were resolved a couple of years ago, this will likely be resolved quickly also.

Truong has indicated that he has been audited and he hasnt had any issues. And remember, prior to this Private Ruling, more than 10,000 NRAS incentives have been paid in full, tax free across the past couple of years. The NRAS has operated since 2008 and this is the first time an individual issue has come up... so rather than assuming all is doomed, let FAHCSIA and the ATO get their heads into it and work out a fix.

They are about to announce a full blown tender process for developers to apply for Round 5 NRAS incentives (another 10,000 NRAS incentives for delivery from late 2014-mid 2016) so it's reasonable to assume the various Govt departments are going to be well motivated to get this resolved.
 
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