Residential property has been on an upward swing since late 2015. Just how long this growth stage will last I have commented on previously (See Newsletter, February 2018).  The market is still rising, attracting first home buyers and investors. It is slowing but is unlikely to come to a halt for at least another 18 months, while interest rates are low and demand outstrips supply.

Any property can be a good investment, but there are some general principles worth noting. Profit is gained from two primary sources – rental income and capital gain. Both are subject to taxation now, so it’s worth remembering that when working out what to buy and when you think you might sell it. Rents, of course, are income and are subject to income tax. The Government will also tax the profit made on any property bought now and sold within five years, if it is not your primary residence.

First, I want to deal with returns. Some properties give a higher rate of return (which now means anything over around 7% net) but come with higher maintenance costs and possibly a reduced chance of good capital gain. This kind of property is usually outside high-priced suburbs and outside the immediate campus area. While rents might be higher in a top suburb or the inner campus area, higher purchase costs usually reduce the net return. High-rent, low capital cost property is sometimes referred to as a “cash-cow”. It can be worth having at least one of these in a portfolio to keep cashflow high. They can also be a good first-time investment, providing a springboard for the next purchase.

Many investors, particularly first-time investors, want a low maintenance, hassle-free property and will sacrifice a little income for that. Bear in mind that a normal residential home will usually have a comparatively poor return. Take a standard three-bedroom house and the median sale price in Dunedin now of $400,000. Rent for such a property, depending on location and condition, is likely to fall within the range of $400 to $500 per week. That represents a gross return (that is, a return before expenses such as rates, insurance and maintenance) of around 5%, assuming the property is rented for 50 of the 52 weeks a year. If the rent is $500 per week, that gross return rises to around 6.25%. Subtract rates (say, $2500), insurance ($1500), maintenance costs or provision for such ($2000) and net return on a house rented at $400 or $500 per week is around 4% to 4.75%.

Better returns can be gained from residential properties that have more than one income stream. For example, a property that is built as two or more flats, or one that has been developed into more than one residence. Be aware, though, that local body rates are higher for this kind of property. Check also that a division of a property into flats has been permitted by the local authority. Buying through a respected real estate agent will provide some protection against an error in this regard as the agent is required to disclose that kind of information.

I will deal in more detail with capital gains in the next newsletter. For now, however, it is worth keeping an open mind on area. Some excellent buys and rental returns can be had in areas that might not be so popular for home-buyers. After the June 2015 flooding of South Dunedin and St Kilda, there have been some very good buys in parts of those suburbs that were not inundated.

Please note that this information does not constitute investment advice and legal, technical and taxation advice is advised before purchasing any investment property.