Bubble or boom? Business editor David Potts offers his good property guide.
The trouble with property is you can't afford to be in it, and you can't afford to be out of it. For new investors at least. If you bought five, 10 or more years ago, you'd be laughing. But then you would be if you'd bought shares, too.
In fact, the jury is still out on whether property or shares is a better investment.
In the past five years, for example, it would have been hard to beat bank shares as a safe and lucrative investment not only have their prices gone through the roof, but they pay unusually good dividends and most come with a 30 per cent tax break because of franking.
But back to now. Is it too late to buy property? Should you even be selling?
The property boom looks like a bubble because the past three years have seen 20 per cent-plus annual gains. But there's a difference between bubble and recovery.
If you look at the past 10 years, Sydney prices have doubled a return of roughly 10 per cent a year. That's the average annual return you could expect from property or shares over a long period. Like the late 1980s property boom, there have been a few years where nothing happened and, yes, prices even fell.
The house price index compiled by the Australian Bureau of Statistics has as its base year 1989-90, the tail end of the '80s boom. Since then house prices have doubled, then by half again. Sounds, and feels, a lot but that's an average annual rate of 10.7 per cent. A good return, but not exactly a bubble.
Even so, there are a few predictable ways this boom could come a cropper, though none seems imminent.
The No. 1 culprit is always higher interest rates. Since the average mortgage is so high, it would take only a small nudge in rates to have a big impact. On the average Sydney mortgage of $250,000, a rise of just 0.5 per cent in rates would lift repayments from $1699 a month to $1778 another 5 per cent bite out of the budget. Rates will rise eventually, but you can insure against this by fixing at least half your mortgage at what are, in any case, still very low rates.
It's impossible to say whether a rise would trigger a rush of selling that would push prices down, or belt-tightening in other areas.
An economic slowdown that starts under its own steam is also a possible threat. But we're going through one of those at the moment, and I'll bet you hadn't even noticed. Unless jobs start going, forget it.
Then there are the banks. They're already curtailing their lending on inner-city apartments, where prices have been slipping. But competition among home lenders is so keen that it's unlikely finance will be harder to get.
There's no doubt the property boom has thrived on the nerve-racking performance of the sharemarket. If shares are back to a bull market, then property won't be so appealing for the get-rich-quick speculator.
You never know, but it would seem there's still life left in the property boom.
Most financial advisers recommend holding property and shares, although they might disagree on the proportions.
Unlike the earlier part of the boom, you'll have to be a lot choosier and do your homework. It can be frustrating I know property investors who'll spend weekends for months on end looking for the right property, then might not buy anything. Draw up a check list of features you want chosen because they will enhance the return, not because it's what you like and take this with you on every inspection. And keep your ears flapping. You can get good insights at property inspections from what others are saying.
Fortunately, time is on your side. You're not going to be gazumped by a mad market.
By the way, if you're just starting out there's no rule that says you should live in your first property.
On the contrary, in a market as pricey as Sydney, a novice property investor could well do better in another city or even in the country, where you might sacrifice some capital gain but you'll get a good rent to boost your income. Once you've bought a property, you can borrow against it later to make other investments and not necessarily just in housing, either.
And don't forget that, by renting somewhere and buying an investment property that you let out to somebody else, you'll be able to afford something better since the interest on your mortgage though not the entire repayment, because that includes principal will be tax deductible.
House-sharing to slash your own rent while buying your own investment property is a popular and very savvy way of getting ahead financially.
Think of property as being all about dirt and why dirt in one place is more valuable than dirt in another.
A rough guide is that smaller-sized units tend to give more rental bang for the size of the outlay, while the larger the land component is, the bigger the likely capital gain.
Buying, by the way, works out at being cheaper than renting, taking into account mortgages, council rates, repairs and the like, only after seven to 10 years.
The same applies to tax breaks. New properties come with an array of tax breaks, but see these as a bonus, not an end in themselves.
Since the best part of the boom is behind us, this isn't a good time to be negatively gearing buying a property that loses money in the hope that the eventual capital gain will make it all worthwhile.
A big enough capital gain could be some time off.
Positive gearing where the rent exceeds costs and interest is safer and more likely to make you rich.
Sorry, can't help you there except to report that economists who follow the property market think it will plateau rather than fall.
A study of the past seven years by Michael Knox of ABN AMRO Morgans found there's only one state where there's been over-building Victoria and even then that's explained by the 1994 recovery in house prices that Victoria alone didn't have.
The level of dwellings approved has been at 95.8 per cent of the long-term average.
"The idea that there is an Australian housing bubble is just a phrase, not a reality," Knox said.
Property expert John Wakefield of CPM Research said auctions were hotting up again, but predicted prices would rise at a slower rate than last year.
As Craig James, senior analyst and economist at CommSec, put it: "There is no reason for buyers to cut demand and there is no reason for home owners to dump property on the market."
But some areas are hotter than others. City apartment prices are dropping, the McGrath APM Index shows. Sydney's west and south-west are soaring.
Still, you should be looking at why you bought your property in the first place, and whether the reasons still apply.
You also need to take into account where you'd invest the money since you'd want to get at least as good a yield as well as some capital gain.
If you hang on, consider getting some of the equity working harder for you, either in another property or a different asset altogether such as shares.
A big issue for owner occupiers who may be sitting on juicy, tax-free capital gains is whether to use all this extra equity to find a more suitable home, or to stay put and renovate.
If it helps, from a purely financial point of view there's almost no difference. Economists call money that you'll never see again a sunk cost, and either way there'll be a lot of those. Stamp duty and agent commission on one side, and GST on the other. On an average-priced Sydney house of $460,000 the stamp duty is a whopping $16,190.
The biggest sunk cost in renovating is the GST, which makes even stamp duty look cheap. Well, kind of.
From a hassle point of view, moving and renovating are as bad as each other.
When you do the calculations, to be safe you should build in a contingency of 15 per cent for renovations and 7 per cent for buying to cover things like agent's commission, legal fees and removalists.
Everybody knows you shouldn't over-capitalise that is, pay more for a renovation than the value it's likely to add to your home.
If the renovations you want to make would turn your house into one of the most expensive in the street, you might be better off selling.
In a sense every renovation is over-capitalising, because the strange thing is that an unreconstructed dump can sell for more than a tastefully renovated home. Unfortunately it's even possible to renovate down your house, so that you've not only wasted your money but it's also worth less than it was.
If you've got an eye to selling eventually, then your renovation will need to appeal to whatever the market will want at that time, not necessarily your tastes.
That makes it a hard call and it may pay you to get the advice of an agent or valuer.
As long as you get them right and they're in character with the house, new kitchens, bathrooms, en suite bath-rooms, bedrooms, gardens and a coat of paint should at least pay for themselves.
A new kitchen or bathroom will cost about $25,000. Adding a ground floor extension is about $1300 a square metre. The average second storey costs about $150,000.
Young home owners and investors can borrow at rates as low as 5.35 per cent. Making the repayments at the normal variable rate of 6.57 per cent will slash years off the length of the loan.
More established home owners might do better with a home equity loan so they can borrow for investing. These also come with redraw and offset accounts, which are a way of avoiding tax on your savings. Many will even throw in a credit card at home-loan rates.
It pays to review your mortgage every so often.
You may find a substantially better rate that makes it worthwhile switching after break fees from your existing lender and application fees, often waived, from your new lender.
But check with your own lender first. The banks, for example, have packages with rates of up to 0.5 per cent below their advertised rates.
You should also consider fixing part of your mortgage if you can get a rate below the standard variable rate. Then you're ahead from day one.
Investors also have the option of interest-only loans.
They're popular with investors who are in the market purely for a quick capital gain. But if, as you should, you see property investing as long-term, and the annual return just as important as a future capital gain, you should pay off more than the monthly interest charge.
Tips for buying an investment unit
This story was found at: http://www.moneymanager.com.au/articles/2003/09/15/1063478092978.html