Searching for a New Investment
Now that my apartment was rented, I had a home to live in, I had more money in my bank account, and I had no more personal debts. I was ready to start searching for a new investment property.
Clearly, I was more appealing to the banks than when I first applied for a home loan. My new home and my investment loan were being fully paid for by my tenants, and there was money left over for me. My weekly expenses had decreased because the property I was renting was cheaper than the mortgage repayments I was making when I lived in my apartment. All these achievements substantially increased my borrowing capacity.
A homeowner only has his or her own income to rely on to service the debt, while an investor has two: the rent, plus his or her personal income. Because of this, investors are more likely than homeowners to service a mortgage.
My eagerness to expand my property portfolio was not only due to my new financial position. I was also stronger psychologically.
I am naturally conservative and was somewhat nervous about committing myself to too much debt. I had to overcome my self-doubts in order to achieve my goal. In preparing my financial report and negotiating with valuers, estate agents, and bank managers, I proved to myself that I could bring about my desired outcome, even if it meant overcoming some obstacles.
This psychological advance may seem trivial to readers who are financially better off, or more confident than I was. But for the nervous who want to test the water first, I recommend you take your time and carry out extensive research until you are absolutely convinced you can achieve your goals. I needed to go through a process of trial and error before taking the next step.
The extra money in my bank account helped convince me that I could earn more.
Looking for suburbs
Next, I needed to identify the suburbs that I wanted to invest in. I have read a lot of articles about the next real estate “hot spots”—the new areas that are predicted to boom. These articles may be accurate, but I decided to ignore them. Instead, I would select areas that were already considered upmarket. I chose blue-chip suburbs because I think they have always been viewed as expensive, desirable areas.
By the time you hear that a certain area is an investment “hot spot”, most of the growth has already taken place without you. And even if these areas do grow enormously over the few years after you invest in them, the excitement—and the investment—often wane over the following ten years. There will always be a new “hot spot”. Trends come and go.
Initially you may be happy with your purchase in a newly fashionable area, but in the long run, those areas that have always been popular and which experience steady, reliable growth will be a better investment.
Be careful of areas that are trendy because they are new
New areas may not yet even have facilities like supermarkets, schools, parks, public transport, and the array of shops which many of us take for granted, like video shops, take-away outlets, and service stations.
Be wary of developers and estate agents who say things like, “it’s too good an opportunity to miss.” If it really is that good, they should have bought a property there. When I was an estate agent, I was surprised by how many estate agents gave advice and made recommendations as though they were experts, yet did not purchase any real estate. To be a consultant, you should have first-hand experience in that field.
The qualities that I look for in a suburb in which to buy an investment property are:
- close to the city (but not in the city)
- close to beaches and bays, or rivers and lakes
- excellent public transport
- proximity to reputable schools and universities
- an abundance of cafés and restaurants
- fully developed, with no large parcels of land available for development
The city’s neighbour
The reason I look for suburbs close to the city is simply proximity to most people’s place of work. People do not want to commute for hours each day to get to work. This is why residential suburbs near the city have always been popular.
Residential suburbs are not the only ones close to cities. Typically, some inner suburbs also comprise large industrial areas. But as cities grow and more people work within them, demand for housing in nearby suburbs also grows. Because of this, large industrial suburbs near cities are cleaned up, factories are closed down and moved to outer areas where land prices are cheaper, and inner suburbs are re-zoned to permit more residential housing. This demand has also led to a boom in residential apartment accommodation within cities.
I prefer to look in suburbs near the city, because cities have no building height restrictions. This means there is no limit to the possible number of apartments for sale. If you own an inner-city apartment and a glut of new apartments are built so that supply exceeds demand, the resale price of your property would be adversely affected.
No building height restrictions also mean that the excellent outdoor views that add value to many inner-city apartments can rarely be guaranteed. The apartment you paid top dollar for because of its wonderful view may one day have a view of a neighbouring concrete wall. This rarely happens in blue-chip suburbs because they have much tighter planning restrictions, including control over building heights.
Esprit de corps increases capital growth
I have also found that in blue-chip suburbs, residents take a much keener interest in local affairs. Because residents want to preserve the value of their homes and maintain their lifestyle and community spirit, they are much more likely to object to new housing applications.
Residents of blue-chip suburbs are also much more likely to start up groups like Save our Suburb, which lobby local councils to prevent the demolition of historic homes, the removal of established flora and fauna, and the reduction of recreational open space like parks and reserves. These groups are better informed about council planning schemes, making new development more difficult.
I look for suburbs no more than fifteen kilometres from the city centre. I believe this distance is not excessive for people to commute to the city for work, and within this radius I have a huge number of suburbs to choose from.
Go near the water
The second feature I look for when investing in a suburb is proximity to water, like an ocean, river, or lake.
Historically, most major cities were established where there was good access to water to allow for trade. The better suburbs are established near the water and the more respectable businesses of that time.
Water has always drawn our interest. Children always want to play in water, and we usually spend our holidays near water. Water is increasingly becoming our most important and vital resource. People love living near it. Many blue-chip residential suburbs within fifteen kilometres of the city centre are well known for their proximity to the bay, rivers, or lakes.
Ideally, I would like to own residential investment properties in all of these suburbs.
Public transport and proximity to schools
Another important consideration is public transport. People renting tend to be young. In fact, a number of my tenants are students. They rely very much on public transport.
These tenants will only consider renting a property near their school. The blue-chip suburbs I look in are usually older areas, just like most renowned schools and universities are old ones. It is not a coincidence that these facilities tend to be located in or near blue-chip suburbs.
Restaurants and cafés
I also look in suburbs that have fine restaurants and fashionable cafés. Blue-chip suburbs tend to have these businesses because the residents that live there have a high disposable income. These restaurants and cafés attract a desirable clientele both to their business and to the area in general. Many young professionals want to live where they play.
A well-established suburb
The final point I look for in a suburb is that it should be fully developed and established, with no large areas left for further developments.
This is a very important point because it can affect the long-term capital growth in that area. In a particular year, blue-chip areas may not experience as much capital growth as a “hot spot”, but they are always popular and there is always demand for housing.
If an area has high demand for housing and that demand cannot be met, it will create competition between buyers who are trying to buy the few properties that are available. This imbalance between supply and demand leads to capital growth.
In suburbs that still have large vacant areas available for development, developers will build new housing to satisfy demand, which does not assist capital growth in those areas.
Old port or industrial areas are a common example. These suburbs are also often within 15 km of the city centre and close to water, but still have room for development and are not considered blue-chip areas.
These areas are frequently redeveloped to allow residential housing to meet the demands of people who work in the city and want to live near work. The old factories and warehouses are demolished, and new housing is built.
Such areas may be advertised as the new “hot spot”, and they attract a lot of interest from prospective buyers. But because more and more properties are built to meet demand, the resale prices for already established homes in these areas can be adversely affected. Buyers do not need to compete with one another, because plenty of new homes are being built. When demand begins to wane, builders cut their prices to secure more sales.
This is why I look in fully developed areas, where competition between buyers will force home prices to rise.
Deciding what type of property to buy was my next decision. Although I want a cross-section of properties, including new homes, established homes, period homes, townhouses, and apartments, I began by looking for properties for sale off the plan. In my state, I would save a substantial amount of money on stamp duty by buying off the plan.
Some states calculate the stamp duty payable on the contract of sale price, whether the property has been built or not. The stamp duty where my properties are located is calculated on the value of the property at the time of the sale. Therefore, if I buy a property off the plan before any construction work starts, stamp duty is payable only on the value of the land.
For instance, if I buy a property for $350,000, but the value of the land at the time I sign the contract of sale is only $80,000, the stamp duty payable is approximately $1700. If the same $350,000 property were already built, the stamp duty would be approximately $16,700.
Stamp duty differs from state to state. Check with an estate agent or solicitor in your area to determine how stamp duty will be calculated on your purchases.
Buying off the plan
I started by buying investment properties off the plan because I saved on stamp duty. Buying off the plan does involve some risks, though.
One of the risks is that the property may never be built if there are not enough pre-sales to make the project viable.
Another risk is that the builder may change the floor plan after you sign the contract if the local council makes planning alterations. Sometimes finishes like tiles, carpets, and tap fittings change too if discontinued by the manufacturer.
These potential risks may seem unlikely. In fact, they are very common. Many residential projects have been delayed or terminated due to insufficient pre-sales, or because the cost of construction has increased to the point where the project is no longer profitable.
Generally, the success of large-scale residential developments is based on the number of sales made before construction commences. When developers borrow money to start a new project, finance companies require that a certain percentage of the development is pre-sold, thereby ensuring that there is a demand for the product.
Developers need to pre-sell up to 60 percent of the project to secure funds to start construction. This percentage will vary depending on the size of the development, the amount borrowed, and the projected completion date for the project.
The real estate market can change quickly, and so can the cost of building materials. Many projects are shelved because of this. If this happens, the purchaser should not incur any financial loss and payments should be refunded in full. But even if you haven’t lost financially, you have lost an opportunity to start or expand your property portfolio.
It may be a long time between when you sign the contract and when the development is terminated, and your money is refunded. That time cannot be refunded, and time is what is needed to allow an investment to grow. Therefore, if you have purchased a property in a development that does not proceed, you have definitely suffered a loss.
It may also seem unlikely that the floor plan or finishes of a property purchased off the plan can change after you have signed a contract. From my experience, though, this is also quite common.
All the contracts I have seen relating to properties for sale off the plan include clauses that permit the developer to make alterations if the need arises. Usually, these clauses allow the developer to make only minor alterations, either to the plan, or to the construction work. Under these clauses the developer may make alterations without reference to the purchaser, and without affecting the price paid for the property.
It is crucial to have a solicitor read your contract and point out pertinent clauses before you sign. Contracts for properties off the plan are usually enormous, and I certainly do not have the inclination or legal knowledge to read and fully understand these documents. A solicitor will inform you of your legal rights if any problems occur.
Buying established homes
A major benefit of buying an established home, rather than a property off the plan, is that you can see exactly what you are buying.
For those buying off the plan for the first time, I recommend that you carefully compare the measurements of the property you are interested in with the room sizes of an already established home.
It is easy to assume when reading dimensions off a plan that rooms will be accommodating and the floor plan functional. Many buyers make this mistake, because most floor plans available to prospective buyers include pictures of furniture comfortably positioned in each room.
For example, a floor plan may include a nine square metre bedroom. To help create the illusion that this room is large, the drawing may show a bed with two pillows to give the impression that it is a double bed, with bedside tables on either side. It may even include an armchair in the corner. In fact, a nine square metre bedroom (a common bedroom size, particularly in smaller apartments) will only fit one single bed and one bedside table only.
A double bedroom should be a minimum of 3.5 × 4 metres.
The mistake can be easily avoided by comparing room measurements on a plan with the rooms in the buyer’s own home. Unfortunately, many buyers discover after their property is complete that the building is far smaller than they imagined. Remember, furniture shown on floor plans is not usually drawn to scale.
Ceiling heights are another common trap. Few floor plans show the proposed ceiling height, and very few buyers ask. As a general rule higher ceilings are better. But the higher the ceiling is, the higher the overall construction costs will be.
Opting to go off the plan
I minimised these risks by looking for a project where construction had already begun.
With such a property I could reasonably assume that the developer had the financial means to complete the job, and I could inspect the partially completed property to get a better idea of how spacious it would be.
I would still save a lot on stamp duty. I would also receive the normal building guarantee for new homes (which in this case is seven years), and with a new home I would receive the maximum depreciation benefits at tax time. Most importantly, the pre-sales would be excellent comparable sales evidence to help me obtain a satisfactory independent valuation of the property.
I wanted a partially completed property because I knew that the completion date and settlement would be imminent. Often when buying properties off a plan, the expected completion and settlement date can be up to three years away. I had two reasons for wanting an imminent settlement date.
Firstly, I was anxious to start my property portfolio straight away. I did not want to wait for years before owning another property. Secondly, I did not want to risk the real estate market changing drastically between the time of purchasing and settling the property.
Many people, myself included, have purchased a property to be completed years after the purchase date, in the belief that the real estate market would improve between purchase and settlement. Of course, the risk is that in that time the real estate market may actually decline, so that the purchase price is more than the property is worth at the time of settlement. This could leave you with a serious financial dilemma if you are borrowing money to buy the property.
A unique choice
Another feature I look for in an investment property is that it must be unique and in a boutique development. These are important characteristics if you decide to sell in the future. If you have a truly unique property, it ensures that when you decide to sell you will not face stiff competition from other sellers.
A prospective buyer who likes your property will be compelled to negotiate with you. You are far more likely to secure a sale price that you are happy with. A boutique development—a small, exclusive development—will complement your unique property.
The problem with large developments is repetition. A residential apartment building comprising 20 levels can have up to 300 apartments. The architects will naturally design different apartment styles and sizes, but generally the same, or very similar, apartments are repeated over many levels. Often entire floors are repeated numerous times.
If the apartment you are selling is similar to many others in the same building, it is very likely that an apartment identical to yours will be for sale at the same time. This competition can have serious consequences on the price you receive.
Large-scale apartment buildings are bad for capital growth
Naturally any prospective buyer will want to buy the cheaper property, and they can offer each owner a low figure until one accepts. Even if one property is better furnished and presented, the buyer will usually purchase the cheaper property and then try and emulate the better finish and presentation. I do not believe large-scale residential apartment buildings are best suited to provide long-term capital growth.
… but good for renting
While I would not buy a property in one of these buildings, I would consider renting one. Many of these large developments offer residents facilities such as gymnasiums, pools and tennis courts. Living in one of these buildings can be a lot of fun. Generally, residents have unlimited use of these facilities. The cost of maintaining pools, tennis courts, and the like, is paid for by the apartment owners through their body corporate contributions. A large percentage of these developments are sold to investors.
The competitive sale prices within these developments also make it difficult to secure high rental returns. At any given time, there are usually a number of apartments available for rent, so prospective tenants can apply to rent several apartments at a low price.
For these reasons I do not look for investment properties in large-scale developments. Instead, I look for boutique developments with up to 20 truly unique, individually designed properties.
Bigger is often better
I look for an investment property at least fifty square metres in size and with a minimum of two bedrooms. The reason is that very few finance companies will lend money for properties that are less than fifty square metres. Likewise, it is very difficult to obtain finance to purchase a bed-sitter. The reason for this is simple.
Small properties attract very little capital growth. Of course, over time these properties will grow in value, but not usually at the same rate as the real estate market as a whole.
I look for properties with at least two bedrooms because I want to appeal to the largest pool of tenants possible. Very few people want to rent one-bedroom properties. Even single people living alone like to have a spare bedroom for storage or guests.
Naturally, if I sell a property, I also want to appeal to as many prospective buyers as possible, and buyers prefer at least two bedrooms for the same reasons as tenants do.
Covered off-street parking
Finally, I only choose properties that include covered off-street car parking. The areas in which I look have good public transport, but I believe a two-bedroom property should have at least one parking space. A property with three or more bedrooms should include at least two parking spaces. This means the property will appeal to as many prospective tenants as possible.
More and more new developments, particularly in or near the city, do not include car parking spaces. Demand for housing is great and consequently the pressure is high to squeeze as many properties as possible onto the available space. Often this means car parking spaces are sacrificed.
It is reasonable to assume that the majority of two- and three- bedroom rental properties will be rented by two tenants with one car. If I do not provide for these tenants, I limit my potential rental market.
I started by buying properties off the plan to save on stamp duty. If this saving had not been available in my state, I would have begun by looking for recently built properties with the above features. The main reasons for this are:
- you can see exactly what you are buying,
- new properties are always popular with tenants and easy to rent
- you receive maximum depreciation benefits.
My list of requirements, at a glance
My total list of requirements looks like this:
- a blue-chip area
- within 15 km of the city, but not in the CBD
- close to water
- good public transport
- close to reputable schools and universities
- near popular restaurants and cafes
- in a fully developed area
- new property, save on stamp duty and depreciation
- a boutique development, with 20 or fewer individually designed properties
- minimum two bedrooms
- car parking
- at least fifty square metres in size
It is very difficult to find a property that fits all these criteria, and I use it as a guide only. In the past I have made exceptions. However, I will only purchase an investment property if it has most of the characteristics I have listed.
As time passes and the real estate market and government legislation changes, I may add to or subtract from this list.
Why I sometimes depart from my criteria
As an example, the apartment I was living in at the start of this story is located in the city, where I do not usually look for properties. I will keep this apartment as a long-term investment, though, because it fits all my other requirements.
The apartment is in a boutique four-storey apartment building. The building itself has some historical characteristics. Each apartment includes sought-after features like high ceilings (over twelve feet), exposed beams and bulkheads. Some apartments are split-level and some have polished floors. All have been individually designed, ensuring that no two apartments are alike.
The property is close to parks, sporting venues, restaurants, universities, trams, and trains.
Likewise, many of my other properties do not fulfil all of my criteria I have set. Some properties I have purchased are further away from the city than fifteen kilometres. One is a 3 bedroom plus study townhouse with only one car parking space. One apartment is in a building with more than twenty apartments.
I still chose to buy these properties because, like my inner city apartment, each property is unique. They are situated in boutique developments in desirable blue-chip suburbs.
Most importantly, as a result of these characteristics I believe that any of my properties would attract considerable interest from prospective purchasers.
- Look in established suburbs near the CBD and/or water. Avoid ‘the next big thing’
- Buying off the plan saves on stamp duty, but check dimensions against your own home
- Construction that has already begun is a good guarantee
- Consider tenants’ preferences
- A unique property is good for capital growth.