Investing in property involves buying real estate with the goal of generating income and building wealth. But why choose to invest in property over other types of investments? Let’s take a look at some of the common types of assets people invest in and see how they stack up.
Why invest in property?
When it comes to building wealth, there are a few investment options you can consider, including property, shares – and even cryptocurrency. Some people choose to focus on one form of investment, while others prefer to diversify their portfolio with different forms of investments.
There are many reasons why investing in property continues to be a popular choice for Australian investors. Research from CoreLogic shows that property has seen an annual growth rate of 6.8% for houses and 5.9% for apartments over the past 25 years to 2018. Since 1993, median house and unit values have increased by 412% and 316% respectively, providing Australian homeowners with a significant wealth boost.
Considered to be a relatively stable and lower-risk investment, purchasing an investment property also comes with a number of potential benefits, including :
- Increasing in value over time (also known as capital growth) – not guaranteed but historically common
- Income from renting the property to tenants
- Tax benefits
- Investing in “bricks and mortar” – a tangible asset is sometimes seen as more reliable and desirable
- Traditionally less volatile than some other investments
- Opportunity to increase the value of your investment through renovations and works on the property
With these potential benefits also comes some considerations to be aware of when deciding to invest in property.
There is always a risk of investing in a property that doesn't deliver a return, or even losing money on the investment. Buying property also has a high-value entry point compared to other investments. To purchase a home the minimum investment is often hundreds of thousands of dollars and also involves most people taking on debt. This initial outlay of funds may be a barrier for some investors.
You should also consider whether you have the time and funds to manage your investment property. You’ll need to be in a position where you can afford the ongoing expenses (property management fees, council rates and insurance), as well as any unexpected costs that may come up (repairs and maintenance).
Investing in shares or the stock market is another way some people choose to build wealth. Buying shares makes you a part-owner of a company or fund which then pays out dividends over time depending on performance.
Although shares are often considered to be a riskier investment compared to property, there are a wide variety of options to choose from - from low-risk to high-risk growth options. You can choose to invest in single stocks, or managed funds which are balanced based on your risk appetite. Other potential benefits include:
- Receiving passive income from dividends that are paid out
- Automating your investment into a ‘set and forget’ strategy that involves very little work
- Relatively low entry cost – most online broking platforms allow you to purchase shares with an investment as low as $500 (some even lower)
- If you need to access money quickly, you can generally liquidate your investment and receive the funds in as little as two business days.
As with any investment, there is always some level of risk involved. Some things to think about when considering investing in shares :
- The value of your shares can fall below the price you paid for them – so there is the possibility of losing money. Share market investing may be best suited to long-term investors who are comfortable riding the ups and downs of the market.
- The value and performance of your shares is out of your hands — this depends on a variety of factors (company performance, market fluctuations, world events)
- Although shares may provide solid long-term returns, this type of investment is considered to be more unpredictable than the property market in the short-term.
- The costs of share trading, particularly for frequent traders, can add up as trading platforms often charge fees per transaction or place margins to gain profit. Yearly fees can add up and cost a trader more than the typical fees on a different investment.
Cryptocurrency (also known as crypto) is a relatively new form of investment that is growing in popularity, especially among young people. Cryptocurrencies are a form of electronic money.
A crypto unit, such as a bitcoin or ether, is kept in a digital wallet and can be used for payment for goods and services. Similar to shares, you can invest in different types of cryptocurrencies and potentially see a return on your investment if your currency rises in value.
Crypto is a notoriously volatile form of investment, with investors seeing rapid gains and large losses over short periods of time. This may be a concern for risk-averse investors as there is little data on long-term trends and returns for this type of currency.
There are also fewer safeguards in place around crypto trading. The platforms where you buy and sell cryptocurrencies or other digital assets may not be regulated by government bodies – meaning you may not be protected if the platform fails or is hacked.
Most major banks and some other financial institutions may not allow customers to make large purchases of crypto. Before deciding on the right investment strategy for you, it’s important to weigh up the options in line with your personal situation. Remember: any investment comes with some level of risk – and your risk appetite may dictate the type of investment you take on.
Property investment strategies
For property investors, there are three key areas of potential: capital growth, rental income and tax benefits. When thinking about your investment strategy, it’s important to understand which of these elements – either individually or as a combination – are most important for you.
Capital growth is the increase in value of your investment property over time, calculated by finding the difference between the current market value and the purchase price.
- You purchased a property for $300,000 ten years ago
- It is now worth $500,000
- You have achieved $200,000 in capital growth
With any property purchase, buyers ultimately want the property’s market value to rise. You need to keep in mind, however, that capital growth is never guaranteed. Over time, markets and demand can rise and fall, and property can go up or down in value. Remember that regardless of the property’s current market value, you will still need to be able cover the costs of your home loan.
For some investors, choosing capital growth as a strategy involves holding the property long-term in order to see growth over time. Some investors choose to purchase property in areas known for reliable capital growth as their investment strategy, even if this means the property may not generate an adequate rental income to cover the costs of owning the property.
Rental yield and income
As an investor, you are likely to rent out your property to tenants, offering an ongoing income stream. For some investors, this is the main goal – to comfortably cover all costs and provide a passive income stream.
Rental yield is a calculation to estimate the potential income from an investment and to compare properties. It is often calculated as either gross rental yield (a simple view) or net rental yield (a complex but more accurate view).
Gross rental yield is the amount of rental income you can receive over a year, measured against the market value of the property. It’s commonly used as a way to compare properties with different values and rental returns. There’s a quick, easy way to calculate the gross rental yield of a property – take a look at the example below or use Westpac’s Property Research Tool to look up a property and see the estimated rental yield.
Gross rental yield example:
- George purchased an investment property for $600,000
- He rents it out at $450 per week
- The gross rental yield is the annual rental income ($450 x 52) = $23,400 / $600,000 x 100 = 3.9%
Net rental yield provides a more accurate assessment of a property’s potential. It’s a slightly more complex calculation, as it factors in all your costs and fees, such as council rates, strata levies, property management fees, depreciation, general maintenance and insurance. As these costs depend on the specific property, they can be difficult to estimate, but here’s an example of how net yield is calculated.
Net rental yield example:
- George’s net rental yield is calculated by subtracting his property costs from his rental income
- $23,400 ($450 x 52) - $4920 / $600,000 = 0.031 x 100 = 3.1%
It’s worth noting that this figure doesn’t include your home loan repayments, as that depends on individual situations. Also, the above calculation is just an example and not based on actual costs to maintain a property. Costs and calculations may vary depending on your personal circumstances.
The third factor that needs to be considered by any investor is tax implications. As tax rules change constantly and every individual has a different financial position, we recommend you seek expert advice tailored to your situation.
Negative vs Positive Gearing
If you’re thinking about investing in property, you’ll need to know about ‘gearing’. It’s important to understand what it is, as well as the benefits and risks that come with it. There are two types of gearing you need to know – positive and negative gearing.
A property is positively geared when your rental income is higher than the cost of owning the property – therefore you’re making a profit on your investment.
Let’s explore a real-world example.
Say you receive $600 per week in rental income from your investment property – or $31,200 p.a.
And your property expenses for the year come to $20,000 (things like interest repayments, insurance and repairs).
Rental income ($31,200) minus property expenses ($20,000) = $11,200
Your property is positively geared by $11,200.
This amount would be added to your taxable income.
A property is negatively geared when the costs of owning your investment property are higher than the rental income you receive – therefore you are essentially making a loss.
Let’s bring this to life.
Say you receive $300 per week in rental income from your investment property – or $15,600 p.a.
And your property expenses for the year come to $20,000 (things like interest repayments, insurance and repairs).
Rental income ($15,600) minus property expenses ($20,000) = -$4,400
Your property is negatively geared by $4,400.
This amount would be deducted from your taxable income.
Investors with a positively geared property often use rental income as their investment strategy to build wealth – potentially using these funds to pay off their mortgage or fund their lifestyle. It’s important to note that you’ll need to factor your rental income as part of your overall taxable income – and you’ll need to pay tax on this money. It’s a good idea to keep extra funds saved to cover your tax bill each year.
Negative gearing is a strategy some property investors use to claim the loss on your investment property and reduce the overall amount of tax you pay. Negative gearing investors are typically focused on capital growth as their investment strategy.
Often seen as a fringe benefit by property investments, you can claim things like depreciation, maintenance costs, insurance, property management fees – even the interest you pay on your loan.
Capital gains tax
When the time comes to sell your property, you will hopefully be selling for a higher price than your original purchase. This results in a capital gain, which needs to be reported as part of your income for that financial year when you submit your annual tax return.
If you have owned your investment property for more than 12 months, you may be eligible for a capital gains tax concession. Be aware that even with any concession, a capital gain can significantly increase the amount of tax you need to pay. Make sure you chat to your accountant for advice about your options.
Regardless of how your property is geared, you might still be able to claim tax deductions for some of your property expenses, including:
- Borrowing costs including interest on your investment loan
- Council rates
- Property management
- Maintenance (strata) and repairs
Again, it's a good idea to discuss your tax deduction options with a professional.
Getting an investment home loan
Now that you’re across the basics of investing in property, you can start thinking about some of the practical things you need to do to make owning an investment property a reality.
What can I afford?
Your first step is to find out what you can afford to spend on an investment property. Create a detailed budget so you can start your property search with a realistic figure in mind. Take the time to understand how much you can comfortably afford to repay, factoring in your everyday living expenses, existing debts and other financial commitments. You’ll also need have a realistic estimate of both income and expenses for your future property investment. Get an estimate of your borrowing power based on your expected rental income and lifestyle with this calculator.
Saving a deposit
From there, you can start exploring how much you will need to save for a deposit. Generally, you’ll need 20% of the purchase price as your deposit, to avoid paying lender’s mortgage insurance (LMI). Don’t forget to factor in other significant upfront costs such as stamp duty and legal fees into your budget. If you don’t currently have a 20% deposit, there are other options available that could help you buy a property sooner – like leveraging equity in an existing property (if you have one) or paying LMI.
Many property investors choose to borrow against the equity in their existing property to help their next purchase. Equity is the difference between the current market value of your property and the remaining balance on your home loan. Equity can build up over time as you reduce your loan amount with principal and interest repayments, and if the market value of the property increases. So, if you’ve had your property for a few years, chances are you may have built up some equity that you could tap into and put towards your investment property.
When talking about equity, there are two terms often mentioned: equity and usable equity. Useable equity is taken into consideration when applying for an investment loan. Usable equity is the equity in your home that you can actually access and borrow against. You can work out the useable equity available by calculating 80% of your property’s current value minus what is still owing on the mortgage.
Usable equity example:
- If your home is valued at $400,000 and you have $100,000 left on your mortgage
- Usable equity is calculated as 80% of the property value ($320,000) minus $100,000 balance = usable equity of $220,000
You can get an estimate of your useable home equity using this calculator.
Choosing a loan
Investor loans are different to owner-occupier loans, often with different rates, terms and conditions. The type of loan you choose will depend on your investment strategy.
Fixed rate vs. variable rate loans
- Fixing your interest rate for a set period can provide repayment stability. It gives you more certainty over your repayments, making it easier to plan your budget.
- A variable interest rate can move up or down in line with market interest rates and may give you more flexibility. You can generally make additional payments and access more features (such as redraw or offset accounts) and the ability to repay your loan faster.
Principal and interest vs. interest-only loans
- Paying both principal and interest can help pay down your loan faster, so you own your investment property sooner.
- If you choose an interest-only loan, your monthly repayments will be lower for a set period as you are only paying off the loan interest – not the principal loan amount. Some investors using a capital growth strategy may choose an interest-only loan to lower their expenses while waiting for property prices to rise so they can sell.
Finding the right property
There are many factors that will influence your search for the ideal investment property – and it’s important to do your research. Investing in property is very different to buying a home to live in – while buying a home can be an emotionally-driven decision based on your personal tastes and preferences, investing is generally more rational and focused on expected returns.
When it comes to choosing a location for your investment property, you really need to do your homework. The location you decide on could potentially impact your capital growth and rental yield, so it’s important to look at up to date market data for the latest trends and insights. Most investors also consider a range of elements when choosing a location or suburb, including growth areas, future developments, lifestyle amenities, as well as proximity to schools, transport and hospitals. Once you’ve decided on a location, it’s a good idea to compare different properties in the area – making note of the rental prices and potential rental yield.
You will also need to decide on the type of property - apartments/units, houses or building your own. Your budget will play a big part in deciding on the type of property you can afford to buy, and on the flip side, the type of property will have an impact on what your rental income and yield looks like.
Using Westpac’s Property Research Tool could help you find the right property for your circumstances and investment goals.
Managing a rental property
Purchasing an investment property isn’t a ‘set and forget’ type of investment. There can be a lot of work involved to keep things running smoothly – especially when it comes to finding the right tenant and maintaining the property.
If you’re time poor or don't live close by to your investment property, you might want think about engaging a property manager or real estate agent to oversee your property. Keep in mind that this service involves property management fees and, depending on your location, can be anywhere from 3-10% of your total rental income each week. Some things property managers take care of include:
- Advertising and marketing the property
- Screening and securing tenants
- Collecting rent
- Property condition reports
- Routine inspections
- Maintenance and repair issues
- Responding to complaints/evictions.
If you’re looking to avoid paying agent fees, the other option is for you to manage the property yourself. You’ll need to have the time to dedicate to finding the right tenant, collecting rent and dealing with maintenance requests.
When it comes to managing your investment, you will need to be aware of the ongoing costs associated with your property – and have funds available in your budget to pay for these expenses.
The most common ongoing costs you may face as an investment property owner:
Calculated on land valuations and rating categories, rates help fund local infrastructure and services. Usually paid quarterly.
Rental income will need to be reported as part of your annual tax return.
Landlord and/or building insurance helps protect your investment.
You will be responsible for repairs and maintenance.
Body corporate/strata fees
If you are investing in an apartment or townhouse, these fees may apply. Paid by all owners, they go towards maintenance of the building's common areas, building insurance and other shared costs.
Property management fees
If you rent your property through an agent or property manager, fees will apply.
While tenants are generally responsible for household utilities, you may be liable to cover some such as water.
Tips for investing in property
Investing in property can seem overwhelming – especially if it’s your first-time. That’s why we’ve done the heavy lifting for you. We want to give you all the help you need to make a well-informed decision. Here’s our top tips for first-time property investors.
Be clear on your goals
Why property? Which investment strategy will you choose? What are your short-term and long-term goals? Answering these questions will help you decide if investing in property is the right move for you. Make sure you consider the realities and complexities of property investment – not just the potential benefits. Decide on the level of risk you’re comfortable with, in case of a possible drop in market value or interest rate increase.
Do your research and do the maths
This one is really important. There’s a lot to consider when deciding on a property to purchase. From choosing an apartment or a house, to picking a suitable suburb or location and working out how much you can afford to borrow. Then research the property’s potential for capital growth, rental income and ongoing costs – these figures will help you make an informed decision. For example, you’ll need to make sure you can cover your loan repayments, plus other costs like council rates, strata and property maintenance, while still maintaining your lifestyle and current home.
Don’t set and forget
Being proactive is key – property is not a set and forget type of investment. Review your loan every year or two to make sure you’re getting the best possible deal from your lender. Staying across your rental income and expenses is a must – you need to keep tabs on how your investment is tracking, whether the property is positively or negatively geared and whether your investment strategy is still aligning to your goals.
Get professional help
It’s definitely possible to manage an investment property yourself – but in some cases, it might be easier (and cheaper in the long-run) to bring in the professionals. Managing tenants can be a tricky and time-consuming task, so you may find that engaging an agent to take care of this for you is a better option. When it comes to tax time, it might pay off to have a professional accountant to look over the numbers for you. They may be able to find additional deductions for you and can save you a lot of hassle if you somehow lodge an incorrect tax return.