Buying an investment property

Buying investment property involves a range of different considerations compared to buying a property in which you are going to live.

1. Main considerations
2. What is negative gearing
3. Ownership structures – introduction only

Please note – Vision does not provide financial advice and we are not taxation specialists. The information we have provided in the ‘investment’ area of our website is of a general nature only. Whilst we have gone to great lengths to be as accurate and informative of possible, we highly recommend that you DO NOT enter an investment or taxation strategy unless you have had due consultation with your taxation and financial adviser.

The 5 main considerations

Consideration

Main points

Why invest in property

Property has a long term history of performance – its not a ‘new’ thing

Property is generally regarded as a solid wealth creation vehicle – both through the generation of income through rent and capital appreciation over time

Australian residents tend to have an understanding of property due to the fairly high number of people who own their own home

Our tax system – via the impact of negative gearing – allows certain tax benefits which make property investment generally more affordable

Where and what to buy

A property you live in and a property you invest in are two completely different things – we make the following distinction

The house you live in is very personal, involves your taste. The decisions made involve your emotions / sentiment

Your investment property needs to be convenient for your tenant NOT YOU – therefore, less emotion or sentiment should be involved when considering where / what to buy

Things that may be important to a tenant – affordability, convenience to transport, ease of maintenance (eg, may not be interested in gardeining or lawn mowing)

Why invest in property

Most people buying investment property want to rent the property out (to assist with loan repayments)

You need to work out whether to manage the property yourself or choose a property manager – who will arrange tenants, rent collection and a range of other issues

There are a number of insurance considerations – building insurance, landlords insurance, etc – consult your solicitor or local Real Estate institute

Tax / legal implications

If you investing in property (especially for the first time) – you need to gather a good team of people around you – solicitor, accountant, financial adviser, etc

You should form this team before you enter your first transaction – as it will help you decide the ownership structure of your property

Tax – you will need to understand the impact of capital gains tax, negative gearing, stamp duties (purchaser and vendor), land tax, etc.

These need to be discussed BEFORE you go ahead with a purchase.

What can you afford

Lenders generally look at investment loans differently to owner occupied loans

The main reason being the gearing benefits that pertain to borrowing money for investment property. A lender will take into account the fact that your annual tax bill will be lower.

Vision Home Loans will take you through all this maze to ensure you understand your capability – we will:

Run you through various lending software
Show you the CASH FLOW impact of buying an investment property – taking into account all these tax / income / interest considerations

What is negative gearing?

There is much talk about the pros and cons of negative gearing. Whilst I have my own personal opinions on the subject, I wanted to provide some information to our customers with a view to telling them EXACTLY what negative gearing is:

To define negative gearing, I take the following steps

I define the actual words NEGATIVE and GEARING
NEGATIVE in this context actually means LOSS – think of owing an investment property as running a business (which it is). Now think of setting up that business so that it actually makes a loss
GEARING means BORROWING
Putting the two together – means running an investment which makes a loss (mainly due to the interest expense involved with borrowing money)
If there is not a loss, and there is a profit – that is positive gearing
Negative gearing arises when the expenses incurred in owing an investment property EXCEED the revenue you receive

Basic example

Mr and Mrs X have a home worth $600k upon which they owe $200k. They purchase an investment property for $350k. They borrow the full amount of the investment property PLUS the costs – they borrow $365k @ 7.32% interest only

Example only

Income/Expense	$ / week	Comment
Rent	$300	This assumes the property is occupied – all investment properties are subject to tenancy risk and the risk they don’t pay
Property management	($20)	Varies from agent to agent – I have used 7%
Maintenance	($20)	I have taken an estimate $1,000 for the year and divided by 52 – this includes minor repairs, etc
Strata fees	($15)	Estimate – costs of maintaining the unit block and surrounds
Council rates	($15)	Estimate – local council fees
Depreciation	($125)	There may be an entitlement to claim depreciation on fixtures and fittings in your unit and throughout the development plus the building. You must ask your accountant to investigate this potential – it is a deduction you receive without any impact on your day to day cash flow
Interest	($510)	$365,000 @ 7.30% = $26,645 per annum – interest only
Total expenses	($705)	Remember only $580 of this comes from your pocket – the other $125 is depreciation
Total loss	($405)

Effectively, Mr and Mrs X have made a $405 loss for the week.

Important thing to know

This loss is claimable against the taxable incomes of Mr and Mrs X – if you are not already doing so – PLEASE ASK your accountant about submitting a Tax Variation Form – this allows you to obtain the benefits of these deductions as soon as possible

introduction to ownership structures

Note – this is general information only – you must discuss these matters with your solicitor / tax adviser.

When purchasing an investment property, one of the important decisions that need to be made is how to structure the ownership of the property. There are two main reasons for needing to think seriously about this matter:

How you want the income and expenses to be allocated now
How you want the asset to be allocated in the event of death

Here is a quick overview of the types of structures and the differences between them.

Sole Tenant – All income flows to that person or entity. If the property is sold, the capital gains tax is payable by that owner. If the property is to be in one name then this is really the only choice you have.

Tenants in common – Under this structure the purchasers can choose the ownership proportions whether it be 2, 5 or 10 owners. Each person can have a different percentage of ownership. Also if an owner dies, his or her share can be willed to anyone they choose.

Joint Tenant – Main distinction between Joint Tenant and Tenants in common is that with Joint tenant, if one of the owners dies, then the share of the property is automatically given to the owners remaining

When deciding the structure a few of the questions that need to be asked are:

1. What is the future earning capacity of the parties? There is less financial advantage putting a property with large depreciation expenses to be put into your name if you are about to retire and pay very little tax when your partner may still be working for quite a while
2. How long before you expect the property to attain a positive cash flow. If the time period is quite short then you may be better to have the ownership favour the partner with the smaller income. If a negative cash flow is expected for some time, then it may be more advantageous to allocate more ownership to the person paying the most tax.
3. When do you expect the property to be sold? Another reason to have the property in the lowest income earners name is if you expect to sell the property after a couple of years.

For more information please speak to your legal / tax adviser