### Have you ever wondered, “If investing in property is so good, why isn’t everybody in it?”

A primary reason, being** the miscalculation of Investment Returns**, hides the power of property investment.

**I will give you an example of what I mean.**

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The main definition to understand is “**Return on Investment**.” – Also known as **ROI. **This is generally used to measure how good an investment is, and is expressed as a percentage per annum.

It is best explained by an example;

If you invest R 500 000 in a bank account and the bank pays you R 30 000 interest over twelve months.

**The ROI is therefore R30 000 / R500 000 = 0.06 which expressed as a percentage is 6% **(You earned 6% interest. )

When this is applied to a townhouse investment “they” calculate the **ROI** as follows;

Purchase Price **R 500 000**, rental income in the first year is R 4500 per month, less Levies of R 1 200 per month = R 3 300 net per month, which multiplied by 12 months returns **R 39 600** in annual income.

The townhouse **ROI** calculation is therefore: **R 39 600 / R 500 000 = 7.92%**

Conventional wisdom will then compare the two investments, and say that their **ROI’s** are quite similar. The property investment option is therefore discarded due to it’s inherent risks and the bank becomes the preferred option.

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When working out the** ROI** for the townhouse, one fundamental assumption has been made and one source of wealth has been excluded.

Firstly, the above example assumes you paid R 500 000 in cash for the property, which is incorrect. You actually paid a 10% cash deposit (R 50 000) and borrowed the rest of the purchase price from a bank (that is a 90% bond) .

Net monthly rental income in the above example per month is R 3 300 less your bond repayment of R 3763 = -R 463 per month, or negative R 5556 income per annum. (It costs you R5 556 in the first year).

**Looks bad doesn’t it – but stay with me!**

The other very real source of wealth we need to consider, is **capital growth**.

While you were merrily collecting rental and subsidizing the bond by R 463 per month all year, your townhouse was **growing.** If the national average house price increase (as published by most major banks) was 7%, and you cleverly bought you townhouse in a high growth area, it would have grown by at least 10 or 12% in the last twelve months

( At year end it would now be worth R 560 000 — a R 60 000 increase)

To calculate your “income”, subtract your annual negative income of R 5 556 from your income of R 60 000 to arrive at **R 54 444 net annual “income”**

Now to calculate your **ROI** the property investor way, we need to divide the income by the amount invested and express it as a percentage,

**Income R 54 444**

**Amount invested R 50 000** ( your 10% deposit )

**ROI ** is R 54 444 / R 50 000 = **108 % in year one!**

Now, does this make the investment decision a bit easier? ( it actually looks too good to be true, doesn’t it?)

The defenders of “conventional wisdom” will cry out that this thinking is wrong, as you have not realized the capital growth yet and therefore cannot include it in the calculation.

My answer to them is that the above-mentioned example would be 100% correct if I sold my townhouse exactly 12 months after buying it. But it wouldn’t be too wise to sell such a fantastic investment, wouldn’t it?

As an afterthought, I have to confess to having sold such fantastic investments a few years ago, and regretted every one. I call it chopping down fruit trees: a topic for another day.

**Do you agree with my logic?**

**Am I smoking my socks- or have you seen it this way before? **

Please comment below freely, I would love to know what you have to say.

Very interesting Neil

Thanks Mike, i know this way of thinking and analysing property investment is different from the norm, but I have found it to be true. I can never go back to thinking that an investment that offers 10 or 20% return as a good investment.

Great point Neil. 10-20% will only give us a “swollen investment” at the end of the day. So yes we need to raise our investment sights higher and expect much higher returns than we have traditional accepted as the norm

Property’s bond-like qualities coupled to growing income and capital is definitely it’s attraction. And whilst in different markets the appeal of one over the other may hold, in general whenever there is sustainable income growth, capital growth follows.

In some cases one needs to extract value in property and this is where direct investors find great appeal and personal satisfaction; others simply like the return without the hassle of transacting and management.

I think your product bridges this chasm somewhat – a best of both world’s if you like – and will find appeal for many investors; all the very best.

Marc Schneider, property economist and financier

Thanks Marc, this is exactly what we are attempting to achieve… bridging the chasm for the man in the street to enter into this somewhat exclusive club of property investors.

Marc, please explain to me in layman’s terms what you mean in your first paragraph

How will an average person be able to invest in this business. We still have people who earn less than R2500 a month minimum. How can they participate in this program?

Unfortunately the answer is not easy. Our business model depends on people being able to raise bond finance. Syndicated DTI grant investments may be option, something we have been exploring.

I also have seen quite lot of international estate companies now building network marketing to even help everyone who is will to become an active affiliate to be able to buy this properties in future. I think it is the best way to get aggresively in the market by using word of mouth through this affiliates systems. Think about it.

Thanks, I will talk to my marketing dude.

Best, simplest explanation ever of ROI, as well as other aspects of property investment!

Thanks Muriel

I hope this plan works in the Zimbabwean economy too.Will do some research.

That would be great Priscilla. Would be interesting to see what you can come up with. One of the major factors you will need to look at is capital growth of the properties you are looking at.

[…] I explained the property investor’s definition of return on investment (ROI) fully in a previous article published on the Organic Growth website, so I won’t go into detail […]

Hi Michael

Thank you so much for your comment. I was hoping for a comment like yours and had to wait quite a while.

I accept my example is a bit simplistic. It was done so for the sake of getting the message across.

You obviously have not owned buy to let investment property because you have made a number of erroroneous statements and assumptions.

1) Residential property under R600 000 attracts zero transfer duty. If you buy from a developer, he pays the VAT and it is included in the price. When buying from private sellers, there are attorneys costs of around 4% for a property of this price

2) Rates are generally paid by the tenant..this is a negotiable item. Maintenance generally costs me about 3% of annual rental.

3) Insurance is included in the levy which I accounted for.

4) Sales commission is to be paid, but I don’t advocate selling, unless the suburb degrades.The idea is to buy in great areas and HOLD.

5) Sure my bond is actually the bank’s asset and it is my debt, BUT my tenants pay my debt for me, and when the bond is paid off, the wealth transfer exercise is complete! I own an appreciating asset that somebody else paid for.

The actual truth here is that I dumbed down the figures quite a lot to make it believable.

I based this exercise on a real hot deal we had available for our investors.

Location , North Riding,

Purchase price R 480 000 plus transfer costs of approxr R 30 000 (so full price of R 510 000)

Rental of R 5400 (That is R 900 more than I used for this eg)

Levies were R 900 (not R 1200)

Lastly, regarding growth. This is a great area and I purchased a 3 bed townhouse in this particular complex 11 years ago for R 150 000 (including transfer costs)

It is now worth around R 650 000.

I invested zero cash and from day one the rental covered all bond and levy expenses.

When I try to work out my return on investment…my calculator says error! (infinite returns, since I invested zero cash)

I hope this helps, as you are missing out on fantastic opportunities, by your incorrect assumptions…which are what this article was about in the first place.