Property investment pitfalls – and how to reduce your risk exposure
Friday, May 8, 2015/
As with any type of long-term wealth creation vehicle, real estate comes with its own set of cautionary tales about the potential hazards and pitfalls.
Many things can go wrong and the risk is amplified if you leap in without first seeking professional advice and devising a sound strategy and investment plan.
But does that mean you should avoid property investment entirely?
Of course not!
For one, property carries a lesser risk than other comparable asset classes such as shares and the fact that it is an essential commodity underpins its value and makes it less volatile.
Further, many of the risks associated with property can be mitigated with good planning and anticipating the various things that can go wrong,
So let’s look at some ways you can plan ahead to help you overcome some of the obstacles that you might encounter.
Currently, vacancy rates suggest supply of properties is meeting demand, meaning that rents aren’t rising at the same rate as property values, but our rising population means that we have a continuous conveyer belt of new tenants looking for accommodation.
The good news is that even in times of oversupply, other than in selected markets such as mining towns or regional locations, the vacancy rate rarely gets above 5%.
This means that by selecting the right property – one that is in continual demand due to its location and amenity – there’s little chance of your property languishing untenanted on the market for more than a few weeks in between tenancies.
Of course you can also increase your property’s appeal to tenants by doing some minor refurbishments and cosmetic updates if things start to look a bit tired, or by being pet-friendly and widening your range of potential tenants.
And remember, a good property manager looking after your investment should be able to minimize the gap between tenants.
We have all seen the horror stories on current affairs programs, with reporters chasing “bad tenants” down the street demanding to know why they “trashed” some poor old lady’s investment property, leaving her with thousands of dollars in repair bills.
Then there are the tenants who fail to pay their rent for months, only to skip town in a bid to avoid paying the arrears owing.
Unfortunately, seemingly good tenants can become bad ones, sometimes because they are well practiced at lying, but more often through unforeseen changes to their personal circumstances, such as loss of employment, illness or divorce.
This means a professional property manager who follows strict screening processes is a must. More often than not they will be able to identify the good versus bad candidate using their years of experience. Then they’ll protect you by regularly inspecting the condition of the property.
Of course you should also protect your property with adequate insurance coverage, including adequate building and landlord insurance policies.
Life’s little surprises
Life is full of surprises. One minute you might be gainfully employed without a care in the world. The next, you could fall ill, lose your job and end up in a messy divorce.
It can happen to any of us and sometimes comes out of the blue.
If you find your financial circumstances change to the point where you can no longer afford the mortgage repayments on your investments, or have difficulty meeting your loan obligations, things can get tricky.
While you cannot predict where life will take you, you can be prepared.
Again, there are a number of things you can put in place to get through these tougher times.
Firstly, make sure you have adequate insurance. Not just for your property, but for you too!
While it may seem like an extra expense, this is really just another cost of doing business.
It is also important to maintain a financial buffer, such as a line of credit or offset account attached to your loan, so that you can have a reserve set aside for those unforeseen rainy days.
Interest rate roundabout
Right now the interest rate environment is perfect for investors.
But as with everything in life, this too shall pass and we will one day be confronted with rising interest rates. It is just the economic way of the world.
Again, the key is to be prepared.
Don’t over-commit because of our current low rate environment – make sure you can afford your repayments because one day rates will rise by more than a few percentage points.
Additionally, keep that financial buffer in place just in case your repayments become difficult to manage down the track.
And finally, consider speaking with your advisers about the possible benefits converting a portion of your loans to fixed rates.
Unexpected maintenance issues
You can guarantee that regardless of how new and shiny the property you buy appears, one day you will get a call from your property manager about a maintenance issue.
These problems are unavoidable and can be a major drain on your bottom line if you are not properly prepared.
Never ignore maintenance issues as they will only get worse and can cause you to lose good tenants.
Instead, make sure you have put aside some extra pennies in that financial buffer I keep reminding you about so you can pay for a new hot water service or replace an appliance on its last legs as and when you need to.
The highs and lows of housing markets
Investors understand that our property markets run in cycles, with values rising, stagnating, falling and rising again driven by economic factors, along with consumer sentiment and spending.
This means you won’t have any control of what market values are doing to the price of your property.
Again, it is about being well prepared and investing wisely.
The good news is that “investment grade properties” have never crashed per se, but rather they correct a little when the market takes a breather.
Smart investors buy well located investment grade properties, the type that are in continuous strong demand from buyers, and with excellent amenity in an established inner city suburb. These are the types of property that has outperformed the averages historically and have not fluctuated significantly in price.
They hold onto their assets through the good times and bad, knowing that the capital gains made over time will get them out of the “rat race.”
The bottom line is, you can never predict the pitfalls you might face as a property investor. But you can be prepared.
The key is in buying the right type of investment and setting yourself up with that all-important financial buffer to alleviate the potential stressors the real estate rainy days can cause.
Michael Yardney is a director of Metropole Property Strategists, which creates wealth for its clients through independent, unbiased property advice and advocacy. He is a best-selling author, one of Australia’s leading experts in wealth creation through property and writes the Property Update blog.
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