With all this talk about the housing market gaining ground; it is a good time to check out how you might also gain from the situation. From our own experience we have found that many of our more established clients have grown their wealth through property investment. Sometimes with very little cash from their own pocket.
Q: Can I buy something with good cash flow and good potential for increase in value?
A: I don’t think so
When you are looking for a rental property you will find that there are two particular types, the ones which provide a good cash flow and the ones with a really strong potential for growth in value over time.
The main reason for this is; in areas where you have the strongest capital gain you have emotional buying. By this I mean more desirable suburbs have parents and couples looking for something they can build their dream life around. So what tends to happen is that a bunch of these emotional buyers will get together in a room and push the price up. This is also called an Auction.
In an area which is full of renters and sometimes are less desirable places to live, you will have investor buyers who look at pure numbers, usually how much will this cost me and how much will this rent for. There are some suburbs which have a bit of both of these types as well.
In saying this there are suburbs which can change from one type to another but I have never taken a course in fortune telling so will leave this for you experts to ponder.
Why renovate then rent?
Paul and Peter bought a house in a very average suburb, they decide to buy a do up. Because of the condition of the property and lack of emotional home buyers, Paul and Peter have a lot less competition in price. Buying for $320,000 with a 5% deposit($16k) they have to pay $321 per week interest only or $396 per week over 30 years at 5.50%. Rates and insurance is approx another $50 per week. Rent in this area for property in this state is $350 per week. Realistically the couple will be paying approx $100 per week from their own pockets or approx $50,000 over ten years.
If housing inflation is 5% on average then this property could be worth $500,000 after ten years. If Peter and Paul pay principle and interest, their mortgage will also be substantially lower after this time.
Surprisingly in this suburb if Peter and Paul spent $15,000 in renovations, rent returns can increase to $420 per week, that is another $70 per week. The opportunity cost of not using that extra $15,000 to lower the interest payment on their mortgage by increasing the initial deposit is approx $15 per week. So effectively they gain $70 per week in rent by losing $15 per week in interest. Plus a renovation of $15k will bring the value of their property up by $25k usually if spent in the right places.
Apart from the positive impact of having a nicer living environment for the tenant, renovations can also bring down vacancy rates of your rental and mean a better quality tenant.