A question I am often asked is, “Just how risky is residential property investment?”
My response is normally a question, “How risky is it not to invest in property?”
Nothing provides clarity like an an example. So let’s look at a real world example that will strip away the false beliefs that have kept you from investing.
This will change the way you see residential property investment and place you in a position to start making your millions.
Firstly look at the Capital Growth balanced against the actual amounts invested.
Capital Growth
Let’s assume your initial property investment is a R600 000 townhouse in North Riding, in the northern suburbs of Johannesburg. In the current market you can expect your property investment to grow in value by 10% per annum, making you R60 000 wealthier after the first 12 months. The national average growth is around 7% at the moment (2013), but the location of the property would provide for growth that would easily outstrip the national average.
To quantify this R 60 000 growth in the light of potential tenant disasters bearing in mind that your rental would be R5 600 per month. It could effectively stay vacant for nearly 11 months of the year and you would still be breaking even. In this high demand area, even one month vacancy would be very rare!
I did the numbers with a 10% annual growth rate and this townhouse will be worth R 1 500 000 in 10 years’ time. That’s capital growth of R 900 000 in ten years! You ask what is the risk? The simple answer is, if you don’t invest in this property, you will lose out on this R900 000 growth in personal wealth.
This sort of growth, when weighed against the risks of the odd vacancy or tenant damage answers the question for me.
If this has piqued your interest, lets look at the actual numbers
The numbers…
Back to our earlier example of a 2 bedroom R 600 000 townhouse in Northriding. Transfer costs would be R 26 000, so your property purchase would cost a total of R 626 000.
Contrary to popular thought, your buy-to-let investment property will not cost you R626 000! Which seasoned property investor in his right mind would pay cash for a property when the banks are willing to lend you the money?
This has a direct bearing on your investment decision. In contemplating residential property investment, people often refer to the national average house price growth. They realise that residential property price increases closely resemble the inflation rate, and immediately discount this investment vehicle in favour of perceived “less risky” and higher yielding stocks, shares and retirement funds. Lest we get sidetracked, I deal more on this subject here
Nothing can be further from the truth for two reasons.
- Firstly, the national average house price growth index, includes all areas of South Africa, including declining, no-growth and slow-growth areas. When you invest in the financial heart of the country, outstripping the national averages becomes obvious!
- Secondly, when you invest in residential property, you don’t invest the full price of the investment. The bank and your tenants conspire to pay most of it for you.
When you calculate your investment returns, remember to use the actual amount of cash you paid out. In this example,your R 600 000 townhouse would only cost you R86 000! A 90% bond requiring a 10% cash deposit of R 60 000 plus the transfer costs of R26 000 (total R86 000) would be the sum total you need to invest.
The bank and your tenants will kindly pay the rest of it for you… this is the key to successful investing. If you can provide a desired service (a well placed home) and thereby get others to invest their hard earned cash on your behalf, you are well on your way to financial freedom. Financial freedom is where your job becomes an option, not a necessity.
Risk has to be measured against the reward and when investing in residential property, your rewards are based on the full purchase price, but the risks are based on 10% of the investment… Starting to make sense?
The two keys to answer the question, “Just how risky is property investment?”
- You are risking missing out on massive capital growth if you don’t invest
- You don’t have to invest all the money, the bank and your tenants subsidise your investment substantially.
Once people learn that the real risks of property investment are much smaller than are commonly thought, they are well on their way to entering the property investment market and making their millions. I have seen this over and over.
See part two of this article by clicking here
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A subject I find most often neglected when people talk of residential property is levies and rates and taxes and how this can impact your investment.
Tax Spot, please clarify, I don’t understand your point and I would love to respond.
My point is that calculations that I often see when residential property is discused seem to exclude the cashflow effects of rates and taxes and levies. These expenses seem to grow at a rate faster than the rental growth rate. So if one factors them one ends up being in a negative cashflow position. My calc is done by adding the rent less the rent,rates and taxes and levies and mortgage. If I do this I end up having to put in additional money each month to meet the rrmonthly cash flow requirements.
So if that’s the case and in a low interest rate environment, when does this property start being a great investment esp given that the capital growth is also not great currently.if I do an accounting calc then there if profitability cos of the ,but cash flow wise ther inst at all