I was interested to read that in the past year Australia added about 38,000 new millionaires to its population of high-net-worth individuals, that’s about 100 new millionaires each day, many on the back of their property holdings.
However, at the same time, a large number of property investors haven’t achieved the success they wanted.
Now, of course, this isn’t really surprising; this pattern of success is nothing new.
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What does concern me more is a worrying trend that, with our property markets booming, some investors are so keen to do something, in fact to do anything, they are heading for property investment disaster.
I’ve come across many potential investors who feel they’ve missed out on the first 18 months of the property boom and want to catch up.
Others feel that they are being priced out and are desperate to get a foothold in the rising property market. Then there are those who find they are unable to obtain more finance and seem willing to try almost anything to participate in the current property boom.
To me, many of these potential investors are heading down a path of certain property losses.
So today I’d like to share with you what I consider three sure-fire ways to lose money in property and one way to ensure you invest successfully.
What it boils down to is that in their bid to get into the property market, many investors are starting to speculate rather than invest.
The problem is they are determined to do something so they don’t miss out, even if they don’t have enough money, or haven’t developed the discipline to save, or they have already borrowed to their limit and the banks won’t lend them more.
Of course I understand why they are keen to share in the profits others have achieved through property, but sometimes the right thing for an investor to do is nothing.
In fact, I’ve made more money by the things I’ve said no to than the things I’ve said yes to. That’s because all my investments have been made as part of a planned strategy that involves property, finance and tax.
But many beginner investors are now making emotional decisions and that’s why I’m calling it speculation.
Anyway, here are three sure-fire ways to lose money in the current property markets through speculation.
1. Off-the-plan purchases
It sounds enticing, doesn’t it? Buy at today’s price then settle or on-sell in a few years and you’ll make a profit.
Sure it sound good, but does it work?
Not in my opinion. Here’s why:
- The price of many off-the-plan purchases are inflated by high marketing costs, promoter’s margins, developer’s profits and the premium put on the price because this is the main type of property overseas investors (who can’t buy established properties) can buy.
- There is a looming oversupply of this type of property in many of our capital cities meaning there will be very limited capital growth and rental growth.
- There is little scarcity in a block of 100 or 200 apartments, again limiting capital growth.
Buying off-the-plan comes with uncertainty about completion dates, the level of finishes and the market conditions when you eventually take possession.
Some investors who buy off-the-plan will have to sell, because they can’t get the finance to settle. Add to this the fact there will also be some purchasers who never intended to settle on completion, but instead to on-sell their property when the building is complete and you have a whole lot of apartments up for sale when the building is finished.
Even if you are able to settle, the banks will only lend you a percentage of the new lower valuation on your property, which will be the lowest sale price achieved by one of the desperate vendors, rather than the price you contracted for.
Add to this the fact that banks often only lend on a 70% loan-to-value ratio in the postcodes where many of the big new developments are situated, and what looked like a good investment to start with starts to turn sour.
All this means is you need to buy your off-the-plan property at a significant discount to make up for these unknowns. But currently, developers have to sell their products to you at a premium, not a discount, to make the projects financially feasible for them.
And if that isn’t enough to turn you off buying off-the-plan, here’s one last point. Almost all off-the-plan developments are sold to investors. On the other hand, I like buying properties in buildings that have a good proportion of owner-occupiers in them.
I just find owner-occupiers tend to look after the buildings better, and enhance their long-term capital growth.
2. New homes in new housing estates
I know some investors buy new homes in new outer suburban estates because they’ve heard that land appreciates in value and they feel they’re getting a big block of land for their money. But when you think about it, usually the land accounts for less than half the selling price, giving these properties a very low land-to-asset ratio.
Others are considering buying in these new outer suburban estates in the mistaken belief that with properties being cheaper there, they will be more affordable to the masses as property values keep rising. Of course, this is wrong because these are exactly the types of areas that suffer most when interest rates rise. Residents in these areas tend to have less disposable income than people who live in more affluent suburbs.
While they may be great places to live and bring up a family, in general, new or outer suburbs are not good places to invest.
Remember, one of the big factors that enhances capital growth is scarcity and that’s something missing in these suburbs. Many properties look the same, and there’s always another estate with more similar houses and more land just across the road.
Another reason I would avoid investing in these areas is their demographics, as they don’t attract the same demand from a diversity of tenants that the inner and middle ring suburbs do.
Even worse, I’m now hearing of a number of promoters who suggest trading new house and land packages. In other words, they suggest buying house and land packages with the intention of on selling them once construction has been completed.
Boy is this a recipe for disaster!
Firstly, trading is not the way to become wealthy; accumulating assets is.
Secondly, there is no margin to allow for a trading profit. Price sensitive purchasers will go down the road and buy directly from the builder who can always sell properties cheaper than a middleman. And even if you could sell, and for a higher price than all the other speculators who are doing the same in the same estate, after stamp duty and tax, you’d lose out anyway.
And don’t be fooled into thinking these are the areas that will outperform over the next few years. In the outer suburbs, people’s wages tend to increase at the same rate as the CPI. However, in the inner, more affluent suburbs, residents have greater disposable income that increases by substantially more than the CPI. They often have businesses, shares, investments and they won’t be as worried by rising interest rates.
A third sure-fire way to lose money in property over the next few years is to follow some of the creative schemes currently being promoted by property spruikers.
People with little or no money are being tempted by the prospect of bypassing the step of developing the discipline of saving. They are happy to hear the promoter’s suggestion that you can control millions of dollars worth of property using none of your own money.
There’s nothing new about these schemes. And if history repeats itself the promoters of today will become very rich while their students will learn a very expensive lesson.
Well if these methods don’t work, what does?
There is one proven, time-tested method that has made average Australians very wealthy. However, it’s nowhere near as sexy as some of the smoke and mirror techniques I have just mentioned.
If you want to grow your own significant property portfolio, you need to own properties that provide wealth-producing rates of returns.
This means buying a property below its intrinsic value, in an area that outperforms the average over the long term and one to which you can add value so you can create some capital growth. This could be through renovations, refurbishment or redevelopment.
That’s what many of those investors who made it into the ranks of Australian multimillionaires did.
Michael Yardney is a director of Metropole Property Strategists, a company which creates wealth for its clients through independent, unbiased property advice and advocacy.