Should you sell or rent? The ongoing debate of selling property for capital gains versus keeping them for positive cashflow

Part 2 of this article published in the Australia Property Investor Magazine.

You don’t need to sell to access your gains in real estate

Lomas says people think they have to sell real estate to release the capital gains they’ve made. “But your unrealised gains are worth just as much- probably more, because you don’t have to pay CGT (capital gains tax),” she says. “The gains are there for you to leverage against. You don’t have to realise the gains to leverage into more real estate property or another kind of investment. If people are thinking of selling because they want to cash for seomthing, they would be better to get that cash by borrowing against their equity – although it depends on many variables.”

A comparison of two hypothetical scenarios shows how home equity is more powerful in creating wealth if good property is retained rather than traded. Take two real estate investors who buy similar investment properties for $300,000, one who plans to use the equity build-up to buy more properties, the other seeking to trade the property. For the purposes of the exercise, let’s assume values rise 10 per cent a year andignore buying costs (identical for both real estate investors).

After two years both investors in real estate buy again. Investor A ha $63,000 equity and uses that as leverage to buy a second property for $400,000. Investor B realises his $63,000 equity build-up by selling (and paying around $25,000 in fees and taxes) before buying a better property for $400,000.

After another two years, both real estate investors buy again using their respective strategies. Compare their situations after another two years (i.e. six years after each made the initial purchase):

Investor A owns three investment properties worth around $1.72 million, with total equity of $521,000. Investor A is well-positioned to buy more property.

Investor B has one property worth $605,000 with equity of $105,000. Along the way, Investor B paid out $60,000 in fees and taxes by selling and is about to lose more, because the strategy in real estate property investments calls for Investor B to sell and buy again.

Plan and be patient with real estate

Perth real estate agent Bernie Kroczek says building wealth through property investment requires a long-term goal, developing a real estate strategy and being disciplined enough to follow the plan without over-extending.

“Assuming that you’ve done your homework and purchased wisely within your financial capabilities, holding a real estate property over the long-term (minimum of 10 years) virtually guarantees success – without taking unnecessary risks or trying to pick the real estate market,” Kroczek says. “It’s really quite simple and doesn’t require tricks, elaborate schemes or superior knowledge – which many people pay thousands of dollars for, attending one seminar after another looking for the magic bullet.”

Bright tells all his real estate investor clients they should look at a five-year buy-and-hold as a minimum – but preferably they should never sell. “They should be happy to own the property real estate if the market shut tomorrow and never reopened,” he says. Balanda says he helps many wealthy people with lots of property assets prepare their wills; invariably they’re people who’ve bought and held shares and property. “Very few people create wealth through trading, but I see a lot who create wealth through buying and holding good assets,” he says.

Wakelin advises investors in property to hang on to their tax-free profits and use them to leverage into other assets. “Hold on to good quality assets in real estate and use the equity build-up ad your notional deposit to buy the next property. It’s incredibly simple. The real take home advantage message is that there’s no need to line anybody else’s pocket. Hang on to your profits.”

Wakelin says real estate investors should base property-buying decisions on the potential to double in value every seven to ten years. “You only need to build up $50,000 to $60,000 in equity. You can unlock a good proportion of that and use it to springboard into the next asset.”

Hegney buys with a long-term view and never sells (these days) because he want to avoid the capital gains tax. “I’ve bought and sold 10 or 12 properties and the wealth I’ve created out of that hasn’t been as high as buying and holding five good properties – because a lot of my growth has gone in fees and taxes. “By the time you sell, pay fees an dpay capital gains tax, the next real estate investment you buy has to work that much harder to make up for that.”

Lomas owns more than 30 properties and has only once sold a property. “You might get good growth in the first year or it might be the ninth or tenth year, but you need to hold for ten years to make it work for you. If you’re buying to trade, you probably won’t give it that much time.”

Of course, there are real estate expectations…

Mortgage broker Tricia Green of Home Loans Now is an experienced real estate investor who sometimes sells assets in property. She says it depends on her initial objective in buying a particular property. “Sometimes I buy with the intention of making improvements to achieve capital gains and then on-selling,” she says. “But if it’s negatively geared for tax benefits I wouldn’t want to sell. It depends on what you’re buying it for.”

Green bought a block of apartment units with friends who planned to renovate and sell the improved product. “Our objective is to hold the property investment for a year to reduce the capital gains tax impact – and as the units become vacant we’ll renovate them and sell.”

Green says people who retain properties and build their equity so they can borrow against it to buy more need to be aware of the commitments they are taking on. “That’s fine providing it’s not going to create hardship in meeting repayments,” she says. “You have to service the loans and if the repayments are much higher than the income, it might work against you.

“But I agree, why sell if you’re comfortable with the commitment, because the real estate capital gains will still be there for you to use. If you’re investing for your retirement, just keep them and build up a property portfolio.”

Wakelin says there’s a danger in the buy-and-hold strategy in real estate property investing for people who over-commit and become too gung-ho. “There have been lots of so-called gurus urging people to be highly speculative,” she says. “It’s better to buy a good tenantable property, be patient and let it do its work to allow the home equity to build.”

Hegney says many home buyers in the recent boom market in Perth have made the mistake of buying with short term vision. “People have bought assets in real estate that have been fantastic performers over one or three years, but they’re not long-term performers,” he says. “if the property real estate market goes into reverse, they’re the assets you’d want to get rid of. “I would say to people – all those properties you bought in the cheaper areas that aren’t long-term high growth areas, I would sell them now. They’ve had their run.”

Lomas says trying to trade away your way to wealth is a mistake but it’s also a mistake to hang on to property real estate that doesn’t perform.

“In those circumstances, you have to cut your losses and get out when you can,” she says. “I always say you should never sell but sometimes you need to. I discourage people from hanging onto something that’s a bad real estate investment which is soaking up money and preventing them form buying more property real estate. You might need to get rid of it to allow you to do something else.”

A client of McGeever’s provides a striking example. The real estate investor paid $120,000 for a small suburban unit in 1992 and found it was only worth $95,000 10 years later. He had to decide whether to persevere or cut his losses. He decided to sell and used the proceeds to buy a small retail property investment for $365,000, yielding 9.5 per cent.

McGeever says with rental increases and firming yields, that real estate property is now worth $645,000.

Terry Ryder is the creator of hotspotting.com.au and author of four real estate books.

Avoiding the Pitfalls of Real Estate Investment

In Part 5, Monique Wakelin talks about what to watch out for when deciding what proper real estate assets you should consider in the December issue of API Magazine for the article: ‘Take Control: How Home Equity puts you in the driver’s seat’.

It’s not unusual to hear tales of woe from both first-time and seasoned real estate investors who have fallen for the traps and failed to achieve the capital gains they expected. Some of the most common mistakes that could potentially cost thousands of dollars include:

Investing in speculative sectors of the residential property real estate market. These include off-the-plan developments that concentrate on “inducements” such as rental guarantees, offers of finance or tax breaks. The “inducements” often mask a propensity for low or no capital growth.

Faulty real estate asset selection. You can select a real estate investment property in the right suburb but in the wrong street. It may be that the surrounding buildings and aspect detract from its attractiveness and long-term growth potential. The wrong building style can also be a slow mover, even if it’s in the right area.

Failing to understand the importance of scarcity value. The higher the demand for the asset and the less supply, the greater your capital gain in real estate will be.

Buying a real estate investment property for tax benefits, stamp duty savings or rental guarantees. On a properly selected investment property, these factors are an added bonus rather than the primary reason for the purchase. Nobody ever becomes financially independent concentrating on saving tax.

Failure to check major body corporate expenditure. The fees charged on some apartment developments canbe astronomical. In the case of some CBD high-rises, body corporate fees can be between $3000 and $4000 a year. This is a major part of an investor’s outgoings and an unnecessary expense.

Paying too much. An overpriced real estate property will take a great deal longer to catch up with its true worth and to start producing capital gains than one that was bought at the right real estate market price to begin with. Always do your homework in regard to prior benchmarking in real estate value.

Failure to diversify locations and building styles within a property portfolio in real estate. Not all real estate sectors of the property market move in a uniform way – even in the high demand areas. Diversity in a real estate portfolio can help the investor ride out any short-term anomalies in one area or market sector.

Relying on historical statistics. Most of the property real estate data we see is already three months old. This puts the investor in the position of trying to make tomorrow’s decision with yesterday’s news. You can’t beat on-the-ground homework for the most accurate picture of where the market is and where the real estate markets are moving.

Lack of independent information. When seeking advice from anyone in an advisory capacity, always check their qualifications, length of time in business, affiliations, any vested interest, what they abse their recommendations on, what ongoing services they provide and ensure their fees are paid by you, the customer, and not by other interested parties. Always ensure they have unrestricted access to the real estate market.

The cost of waiting for the “ideal” circumstances. This could be a wait-and-see attitude to interest rate movements or whether the property real estate market is going to soften. There’s no right or wrong time to buy an investment real estate property. If investors apply the long-term principle then the cost of waiting can be very expensive indeed!

Monique Wakelin is the co-founder of Wakelin Property Advisory, www.wakelin.com.au, a Melbourne-based property consultancy. For more home purchasing and real estate investment tips and checklists, please visit this link.

Tall Poppy Syndrome | Are you reluctant to talk about real estate property investing with friends and family. If so, you’re not alone!

Written by Michaela Ryan for the February 2007 Australian Property Investor Magazine (www.apimagazine.com.au).

Welcome to Australia – land of the tall poppy syndrome. Don’t we just love to applaud Aussies who’ve become rich or famous … that is, provided they have the right amount of modesty. And you can never have too much modesty, it would seem. So how does a successful real estate property investor fit into a society which worships the idea of being ‘down to earth’? Jan Somers and Margaret Lomas, are both real estate property authors as well as highly successful property investors. Here they share some ideas about managing tall poppy syndrome.

The dilemma about real estate investment properties
Friendships are integral in Australian society, Lomas says. People often build their lifestyles around their friendships. So it’s important to realise that your real estate property investing does have the potential to threaten some friendships. Unfortunately, Lomas has seen it happen to a number of her clients.

“I find that, especially when everyday battlers do really well with real estate property, their friends start to see them a little bit differently. My favourite expression is that in Australia people like you to get ahead, as long as it’s not ahead of them. It’s almost one of those things that keep people back from achieving as much as they possibly could. They’re worried about what their friends may think,” Lomas says. So how can you be successful and keep your friends?

1. Getting your friends involved with investing in real estate properties

Lomas suggests that you could try to get your friends involved in property investing right from the start. “Motivate them before you become successful. Get them committed to and sold on the idea themselves, and do it as a group,” she suggests.

2. The hush-hush approach in real estate investing with friends and family

Another option is to keep quiet about your achievements. “some of my clients don’t event ell their friends what they’ve achieved,” Lomas says. “That’s very sad, that you can’t talk about success because then people do think that you’re boasting or bragging… And we often hear the expression, ‘Oh they think they’re too good for us now’.”

While Lomas feels it’s a shame for people to play down their real estate success, Somers is more accepting of it. “That’s just life,” she says. It’s just a social skill. You don’t want to intimidate people. You don’t want to make them feel uncomfortable.”

Somers knows this from personal experience. “When we started to invest in the ‘70s in real estate properties,” she recalls, “I thought it was such a great idea, I used to tell everyone. It probably took 10 years or so to realise it felt like I was selling Amway. The response was sometimes a bit cool.”

People would often infer that Somers’ success had been thanks to good luck, or good timing, rather than any hard work or effort. They’d explain away their own inaction by saying: “Weren’t you lucky you bought when things were cheap?”

Somers would respond, “Well, you can do it too,” and she’d see them back-pedalling, “as though I was trying to sell them a concept.” In time, Somers grew tired of what she calls cross between tall poppy syndrome and Amway syndrome. “I take reverse view on real estate investing now. I don’t talk about real estate property at all. I suppose I’ve become older and wiser and now I can see people are just different. They just don’t want to do it and they don’t want to talk about it. And they don’t want to feel intimidated by it.”

Somers still jumps at the chance to help someone with a specific enquiry about property real estate investing. She’s just extremely unlikely to be the one to bring up property real estate in a social situation. “I think there’s only a tall poppy syndrome if you’re there talking about it, and you’re flaunting your wealth. If you flaunt it then you’re going to get knocked down,” she suggests.

“If you turn up at Woolies, like I do, in thongs and shorts, there’s no tall poppy syndrome at all.” She concedes, “There is a tall poppy syndrome in real estate investments where some people will unjustly be dragged down. But in most cases it’s probably self-inflicted.”

3. Being selectively quiet about real estate investments

A small number of your friends might be excited about property and investment in properties. So it can’t hurt to ‘test the waters’.

When you come across someone who’s into real estate property, it’s usually pretty obvious. They’ll want to hear all about your investing real estate strategy and they’ll be happy to reciprocate with details about their properties, and their future investment plans.

Of course, there will always be people who aren’t interested in property. And there’ll always be people who are insecure about your success. If you value your friendships with these people, you might have to accept that you’re better off not to mention real estate investing around them.

4. Seeking out like-minded people

If your friends and family just aren’t interested, why not seek out new people? “We truly have a lot of success when we’re motivated and supported by people hwo think like we do,” Lomas says. Some investment real estate advisory companies have real estate focus groups where clients can get together and talk freely about their real estate investments. It’s a great way to stay motivated and to learn from other people’s experiences in investing in real estate. And you’re likely find plenty of people who are happy to celebrate your successes with you. You can also meet other property investors by attending real estate seminars. (If you’re not sure about the presenter’s reputation, search the internet and see what you can find out about their background).

Alternatively, if you already know of one or two like-minded people, you can always set u your own interest group. One real estate investor we profiled in API a couple of years ago did this very successfully. Before he knew it, tea and bickies at the mate’s place turned into a big scale affair with guest speakers at a local community hall.

5. The ‘who cares’ approach in investing

You’ve done well with your investments in real estate and your want to spoil yourself with a better lifestyle. A new home, car or boat. Perhaps a new school for the kids. At this point, a visible gap might open up between you and your friends. Tall poppy syndrome might kick in.

Let’s assume you’re not carrying on like an egotistical jerk, and therefore the tall poppy syndrome is unwarranted. You’ve worked hard and now you’re reaping the rewards in real estate investments. Should you really care about the opinions of people who’d prefer you to be less successful, because that would suit them better?

Lomas jokes, “I think (investors in real estate) should say, “I couldn’t care less what anybody thinks’, because I would rather be old with fewer friends, than old (and) poor with lots of friends.”

Lomas doesn’t mince her words, but she makes a reasonable point. Sometimes it’s probably worth asking whether it’s worth continuing a friendship with someone who can’t be happy for you when you do well.

Life’s easier if you can be authentic in your real estate dealings with other people. If real estate property is a big part of your life, it’s hard to constantly hide that. And it’s also hard to hid the fact you’ve accumulated significant wealth. Arguably, you’re doing no-one a favour if you keep hiding your real estate investment success from others.

In the oft-quoted words of author Marianne Williamson: “You’re playing small doesn’t serve the world. There’s nothing enlightened about shrinking so that other people won’t feel insecure around you … And as we let our own light shine, we unconsciously give other people permission to do the same.”

A word on investing in real estate with families

In an ideal world, your family would be thrilled to hear about your capital growth and your increased rental yield in real estate investments. But in reality, a lot of the discussion in this article about friendships applies equally to family members. Some will be supportive, but you can’t expect everyone to be.

Somers says she’s even less likely to talk about real estate property with her family than she is with friends. “I just don’t bring it up at all,” she says. “It’s just not something I feel as though I want to impose on people.” Somers also feels there’s no need to tell people- even family members – how many real estate properties she and her husband own.

It’s enough is the answer she gives if asked. They’re aware of how well you’ve done and there’s no need to rub their noses in it.

Of course, like anything, its about assessing the relationship you have with a particular family member before deciding how open you can be about your real estate investing. So long as you’re careful who you talk to, and even then you try to keep your ego in check, you can’t go too far wrong.

Dealing with Misunderstandings in Real Estate Investing

It’s possible that people around you don’t understand how real estate property investing works. There might be some occasions when you’re better off setting them straight.

For example, property investors in real estate often comment that their friends think they must have large piles of cash sitting around.

People aren’t always aware that net wealth doesn’t necessarily equate to a large bank balance. If you’re highly geared, you might actually have less cash flow than your non-investing friends and family for quite a few years.

Just be prepared for people who “joke” that the drinks should be on you because you’re doing so well in your real estate property investing.

Choosing the Right Real Estate Assets

Part 4 of the ‘Take Control: How Home Equity puts you in the driver’s seat’ by Monique Wakelin for the API Magazine, Dec 2006 magazine issue that focuses on being smart with your home equity and investment property strategy.

As mentioned earlier, choosing the right type and location of real estate property is crucial to achieving the desired outcome. If we look at the demographics, homeowners account for about 70 per cent of the Australian population, leaving a consistent 30 per cent pool of renters. Rental demand remains particularly strong in the locations and for the types of real estate property that enjoy the highest levels of underlying growth – and growth is all about buying real estate property that’s in high demand and limited supply.

Real estate investors will never get the type of capital growth required in oversupplied sectors of the real estate market. The target properties are generally 2 to 10 km from the central business district of major capital cities and a key feature is scarcity. This can only be found in architectural styles – for example, Victorian, Edwardian and art deco styles are irreplaceable and limited in supply. Access to schools, and other amenities are vital in these areas. Specific streets and locations also need to be taken into account.

The aim is to hold on to real estate and properties, that’s subject to greater demand than supply for the long term. Even when other sectors of the housing market are showing price stagnation or decreases, these prime real estate assets will remain relatively stable. In the case of apartments, the prime holdings are in smaller blocks in the right locations and always with car parking. Such properties are hard to find and the investor real estate must know at the outset what price to pay for them.

An apartment condominium purchased in the Melbourne suburb of Armadale is a case in point. A one-bedroom apartment condo in a small block built in the mid-1960s with its own car parking space sold for $25,000 at the time. The same apartment is worth about $250,000 on today’s market. It has demonstrated 10 per cent annual compound growth since it was built and is in high demand on the rental market. Or, a single fronted Victorian, one of a pair, in a very consistent streetscape that was renovated in the 1970s and is still in good condition, was purchased by an investor in real estate in 1997 for $236,000 and sold for $437,000 in 2001. Its current estimated value in the real estate market is $540,000.

Using your home equity as leverage

Part 2 of the ‘Take Control: How Home Equity puts you in the driver’s seat’ article from the December issues of the Australian Property Investor magazine written by Monique Wakelin.

Many Australians and North Americans have something of a mental block when it comes to using the home equity in their own home as leverage to buy real estate investment property. They feel a little jittery about perceived risks to their primary source of security and shelter.

But most people who buy an investment real estate property already have a home an duse the leverage factor because it’s a ready-made “deposit”. This enables the home owner to “re-borrow” part of the equity of the home. These borrowings become a small part of a loan that’s paid back at the applicable rate, along with any other funds borrowed for the investment real estate property.

The basic principle is that home equity is the happy by-product of the initial deposit the owner put in, any principal that has been paid off and any capital gains the home has achieved.

The main benefits of using home equity to buy investment property are:

The Ability To Borrow
Up to 100% of the purchase price of the investment property plus costs. The investment property will remain the primary source of collateral for the lender, as they will generally finance 90 to 95 per cent of the value against that investment real estate property. The notion of “putting the home on the line” doesn’t apply under these circumstances.

There’s No Need To Own
Your home outright or sell it to access enough home equity for an investment real estate purchase. Wise use of this equity can put you into the wealth-creating assets much more quickly than if you wait until you own it outright.

While this strategy increases your mortgage on the home, a wisely chosen investment property will provide enough compounding growth to outstrip the cost of servicing the debt. The golden rule is for the real estate investor to focus on the quality of the asset they’ll own and not merely on what they owe the bank!

Smart investors in real estate and property categorise property borrowings in two ways: as productive debt and non-productive debt. Productive debt is used to purchase real estate assets that will grow in capital value and help contribute to financial independence. Non-productive debt is for consumable items that don’t increase in value or provide income – including cars, holidays and clothes. Non-productive debt attracts higher rates of interest as it’s usually sourced through credit cards or unsecured personal loans.

The residential property investor in real estate is using productive, tax-effective debt to make money through capital growth.

Details about home equity loans and more are found at this condominium resource website for condo owners.