Sometimes referred to as capital appreciation or return on investment, capital growth is an important factor when it comes to purchasing property or reviewing your investment options. Let’s take a look at what capital growth is, how you can attain it, how to access and leverage it and some other key things to consider.
Put simply, capital growth is your property increasing in value over time. You can calculate capital growth by finding the difference between the current market value of your investment and the price you initially purchased it for.
For example, if you purchased a property for $300,000 ten years ago and it is now worth $500,000 –you’ve achieved $200,000 in capital growth.
There are several reasons why capital growth is attractive to property investors. In a rising property market, like we’ve seen over recent years, you may see your property increase in value by simply doing … nothing. Smart investors who do their research and invest in up and coming suburbs or areas with consistently high demand can sometimes achieve considerable capital growth over just a few years.
Capital growth is also appealing because it can protect your wealth from inflation. That is, the money you’re making from your property increasing in value will rise with inflation. Alternatively, if you had $500,000 in a savings account, while you would earn interest on this amount, the value of this money wouldn’t change, and the purchasing power would in fact decline over time due to inflation.
From changes in the market, home renovations to suburban developments, there are many ways that the value of your property can increase and help you achieve capital growth.
Arguably one of the easiest ways to earn capital growth is through a surge in the market. A property boom can occur through increased demand or a decline in supply and can increase your property’s value. It’s important that you do your research and invest in areas which are most likely to see a boom – capital growth is not always guaranteed. You can use our Property Market Research tool to do some of the heavy lifting for you.
While this requires a little more work, home renovations (done well and within budget) can be another effective way of generating capital growth on your property. Whether it’s a quick paint job or more significant alterations such as an extension or bathroom upgrade, renovations have the potential to increase the value of your property. It’s important to be savvy with your home improvements, however, and not overcapitalise. That is, be mindful not to put more money into your home reno than you will get back in value.
Buying under market value is (as it suggests) purchasing a property for less than what market data suggests it should have sold for. This value is generally based on the sale prices of similar properties in the area. Buying under market value could mean your property generates capital growth immediately. This is possible but less likely to happen in a up trending market.
Developments in the local area are another way that you might achieve some capital growth on your property. New amenities such as leisure parks, new commuting options or shopping centres or schools often increase the appeal and demand in a suburb, and therefore can lift prices in that area.
When it comes to maximising capital growth, there are a few things to look out for in a prospective property. These include:
| Location | A highly sought-after location is an excellent start to maximising your capital growth. After all, experts do say to buy the worst house on the best street. |
| Scarcity factor | A lack of supply will make your asset hot property, so consider looking for properties in high demand areas (like a house on the outskirts of a CBD). |
| Renovation potential | Look for properties with the potential for small renovations that will add significant value, like bathrooms and kitchens. |
| High land to asset ratio | Properties with a high land to asset ratio are key to maximising capital growth as the land will increase in value more than the house over time (provided it’s in a sought-after location). |
| Development potential | Check for zoning and density regulations to determine if your asset can be developed down the track (either by you or a future buyer). Properties with development opportunities often have high capital growth. |
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There are two ways you can access your capital growth: by selling your property or borrowing against the usable equity in your property.
Equity is how much your home is currently worth, minus how much you owe on your mortgage. For example, if you have a $600,000 property and a mortgage of $420,000, you have $180,000 in total equity. To calculate your usable equity, you need to take 80% of the current value of your home ($480,000), minus your mortgage ($420,000), which is $60,000.
There are a number of things you can use equity for, including home renovations or lifestyle goals like a new car or even a holiday. You can also use equity to buy an investment property using the funds for a deposit. For example, if you have $60,000 worth of usable equity, you could potentially put these funds towards a 20% deposit on a $300,000 investment property.
If you sell your property, whatever the difference is between the selling price and your mortgage is yours to keep. There are tax implications, however, which we will cover further on.
While both can be effective in generating wealth, there’s several key differences between capital growth and rental income investment strategies. Choosing which investment strategy is right for you depends on your end goals.
Consider capital growth as more of a long-term strategy to give your property time to increase in value. Capital growth is also more suited to investors with a high-risk tolerance, as purchasing properties with the potential for high capital growth are generally more expensive, so the rental return may not necessarily cover your mortgage or other expenses.
A rental income investment strategy may be better suited to investors with a low-risk tolerance as they can see money from their investment straight away, particularly if it’s positively geared and the rental income exceeds the mortgage and other expenses required to manage the property. This additional income could be used to pay off the property’s mortgage or to fund your lifestyle.
While growing your wealth without lifting a finger does sound inviting, there are a few things to be mindful of when it comes to capital growth. Firstly, it’s important to understand that nothing is guaranteed - property values don’t always continuously rise, so there’s a degree of risk with this type of investment. Sometimes the market will drop off or remain steady. Capital growth is a long-term game. While you’ll generally see values rise over time, a suburb’s past growth isn’t necessarily a guarantee on what will happen in the future.
Another key consideration with capital growth is the tax implications. When you sell an investment property, you must pay tax on the profit you make on that asset. This is called capital gains tax (CGT). While it sounds like a separate tax, CGT is part of your income tax assessment for the specific year that you sold the asset.
The amount of tax you pay depends on how long you’ve owned the asset for and if you’re an individual or company. To calculate how much CGT you will have to pay, take the selling price and minus the original price and expenses such as legal fees, stamp duty etc. This amount is your capital gain (or in some cases, a loss).
If you’ve earnt money from an asset and you’ve held it for longer than 12 months, you are eligible for a 50% CGT discount. For example, if you sold a block of land after 18 months and made a profit of $20,000, you would declare a capital gain of $10,000 in your tax return. For individuals, the tax rate on this capital gain is the same as your income tax rate. For companies, the tax rate on any capital gain is 30%.
With the opportunity to grow your wealth, property can be an attractive investment. There are few things to consider however, and that’s where we come in. For more information on how to start your property investment journey, call us on 131 900 or visit a branch to chat to your local Home Finance Manager.
You can also check out our beginners guide to investing . It covers everything you need to know about investing in property – from investment strategies and deciding on a property, to the tax implications and everything in between.
Is capital growth trending up? What about rental demand and potential yield? These are the questions you need to ask when it comes to choosing property as an investor.
Whether it’s your first time, or you’re a seasoned property investor, we can provide insights and information that could help you make your decision.
This information is general in nature and has been prepared without taking your objectives, needs and overall financial situation into account. For this reason, you should consider the appropriateness of the information to your own circumstances and, if necessary, seek appropriate professional advice. Credit provided by Westpac Banking Corporation ABN 33 007 457 141 AFSL and Australian credit licence 233714.
