Investing in property is a great way to boost your retirement savings and secure your financial future. But there are a lot of other great reasons to consider property investment as well, from the financial to the practical, to the simple fact that many people find it fun! In this first article in a new series on property investment, I cover the basics of why property should be a part of your investment portfolio.
A wage is not enough
Superannuation and/or retirement savings simply can’t provide you with the lifestyle you want.
As Australians are living longer and healthier lives, we are looking forward to rewarding and active retirements. Unfortunately, funding them is going to be a challenge. The average savings in superannuation, even when combined with government assistance, are simply not enough to provide most people with the lifestyle they would like. Investing in fixed rate interest products, such as term deposits, doesn’t bring as much growth in value as is possible from other investment sources. Therefore it’s important to invest in other assets, such as property or shares.
Property increases in value faster than inflation.
One of the most attractive reasons to invest in property is that the value of your asset grows over time. Australian capital city house prices have grown by an average of 8.6% per year since 1955. This is 2.7% more than inflation has risen each year in that time. The capital growth in the value of your property is separate from the rental income you earn from your property. In essence, strong capital growth means that your are able to buy a property, own it for a period of time, and sell it later for more than what you paid for it, even taking inflation into account.
Property provides a regular monthly income indexed to inflation.
By purchasing an investment property, you will enjoy regular monthly income from your tenants. In fact, the income you receive in rent will help you pay off the loan used to buy the property. While you do run the risk of your property standing empty, traditionally Australians have aspired to own their own home. This means there is often a shortage of properties available on the rental market, so vacancy times are short.
Investing in houses is as safe as… houses!
The property market displays lower volatility than the share market.
Unlike the share market, the residential market is dominated by owner-occupiers (homeowners), rather than professional investors. This means it’s much more stable over time, because even in an economic downturn, people still need somewhere to live, and aren’t likely to sell off their home in a panicked fire sale. In fact, while some say a weakness of property investment is that it’s hard to quickly liquidate your assets (it can take six months to sell a property) for the part time investor this is a great insurance against volatility in the market. In contrast, decisions in the share market are often taken quickly and under pressure, and investors have the ability to rapidly move large sums of capital around. This results in high volatility that creates great potential but also great risks.
The property market moves in well documented cycles that allow you to buy low and sell high.
It’s certainly possible to lose money on property investment. You could buy at the peak of a boom and then watch the value of your asset drop dramatically in the next 18 months. However, property values move in well documented and predictable cycles of boom and bust, and with reading and research you should find it straightforward to identify which areas are in a trough and which are peaking. Even if you do buy at the peak of a boom, the price should eventually recover – it’ll just take a while. Buy carefully at lower points of the cycle, and you should have no problems. In addition, ‘vanity’ purchases at the top end of the market tend to suffer the most volatility, whereas affordable housing, which is always needed, has much more stable price trends. The chart below from RP Data demonstrates this trend. You can see that the most affordable segment of the market (grey) has much less pronounced peaks and troughs than the middle and upper segments of the market.
It’s easier to mitigate risk
It’s straightforward to insure your investment against common risks.
One benefit of owning property is that although there are risks to your investment, these are generally well known and easy to insure against – such as fire, damage, theft, or even vacancy. In contrast, while you can insure the value of your share investments, it’s much more complicated to firstly identify hidden dangers in the market and then take action against them using complicated financial instruments such as hedge funds.
You don’t need a huge amount of knowledge
Common sense and some targeted research can get you going quickly with property investment.
Understanding the basic principles of property investment is pretty straightforward – buy low, and sell high, and minimise your costs in between. While it’s important to do your research on where and when to buy, deciding on a property often boils down to asking yourself these two questions: Would I like to live in this area, and in this property? What are the long term price trends in this region, for this type of property? Once you’ve gathered the data necessary to answer those questions, you’re well on your way to making a buying decision. In contrast, developing a share investment strategy can take months or even years. Many advisers recommend that you begin with several months of ‘paper trading’ – that is, just making imaginary purchases on the market and seeing how they perform. That’s a big time investment before you start making real money.
Make your own decisions about your investments.
When you own a residential investment property, you are in complete control of your investment. As long as you comply with the relevant laws, you can decide when to renovate, subdivide or sell your property. In contrast, as a shareholder you are subject to the decisions made by the staff and directors of the companies you have invested in.
Reduce your tax obligation while your property asset grows in value.
Another great benefit of property investment is the tax savings you can earn. One common strategy is known as ‘negative gearing’. This means that in the initial years of owning a property, you will likely record a loss from your investment as the loan repayments are higher than the income you receive from rent. This loss can be set against your tax obligations to reduce your tax bill. These losses are reduced as the market rent rises and your loan repayments diminish. In time, the capital growth in the value of your asset will offset your initial losses.
Banks will loan more against property than other investments, so your wealth grows quicker.
An important principle of property investing is leverage. This is the idea that you can make a small initial investment work very hard for you. Let’s take an example where we compare an investment in shares and in property. You can borrow up to 90% of the value of a property investment, but only 60% of the value of shares purchased. Therefore, if you have $30,000 to invest, you could buy a $300,000 property or $75,000 worth of shares. After one year, if both investments had the same capital growth of 8%, you would own a $324,000 property or $81,000 worth of shares. By purchasing a property, you increased your initial funds from $30,000 to $54,000. By purchasing shares, your investment increased only from $30,000 to $36,000.
You can touch and feel it
Have the satisfaction of physically seeing your success.
Many property investors say they get a real kick out of being able to see, touch and drive past their investment. Upgrading, renovating or even routine maintenance of the property can bring a real sense of satisfaction of a job well done. While it’s not directly a financial advantage, any investment strategy requires you to spend time on it, so it may as well be something you can enjoy. In fact, like an exercise program, the most successful investment strategy for you is almost always the one you enjoy doing.
You don’t need lots of money to get started
Property investing is not just for people earning high incomes.
One of the great things about investing in property is that you can get started without a big salary, or even a lot of savings. For a start, lenders take into account the rental income from the property when deciding if you can afford the loan repayments. Additionally, you can borrow up to 90% of the value of your purchase, so you only need to save around 15% of the purchase price (the other 5% is for additional costs such as stamp duty or mortgage insurance). If you already own your own home, you could find this 15% by borrowing against your existing property. If you don’t already own property, a parent, relative or friend could make a joint investment with you, by providing the upfront capital while you agree to meet the loan repayments.
You’re not on your own!
Enjoy the support of a strong property investment community.
Investing can sometimes feel lonely or overwhelming. Trading in shares often means being stuck behind a desk for hours each day. Investing in property allows you to get out and about, checking out neighbourhoods, meeting property agents and sharing your experiences with others on a similar journey. You can also benefit from the support of a range of professionals, from experienced entrepreneurs to legal advisers, conveyancers and mortgage brokers, who can help make your investment a success.