should i sell or should i keep a $1,625,000 rental property returning $62k p.a rent

[aussie in new zealand]

hi there,

i - or rather a trust owns the above property in epsom, and for all intents is 100% financed, so interest alone is costing $84k p.a plus associated costs - maybe another $8k p.a so around $92kp.a cost versus $62k p.a income.
the above house was my PPOR, until i bought another place in the same street, and renovated, and decided to rent the previous house.

the trust has 4 other properties as security, and R/C account of $150k to cover shortfalls over the next few years, so financially it is doing fine at the moment.


basically properties are worth $4.6m with total loans (including the R/C )of $3m so lvr around 65%.

i guess what i am asking is the property provides a lousy gross return / yield, and obviously a negative net return, but you would assume that it would provide a good capital growth in this market ? so should i keep it ? or sell it into a hot market.

the house owes me / trust $1.3m and was valued 3 month or so ago at $1.625m - which i would possiblyget maybe $1.7 or $1.8m for it at auction.

this would reduce the trusts debt to less than half, and would put the trust into a positive return situation.

today i dont need to sell the house as there is no problem in finance, and even if the interest rate went to 9% i still would not need to sell, as i could easily afford the repayments.

but a house that loses 30k p.a, and if the interest rates rises - the loss could be as much as 80k loss per year, you have to pray for capital gain !

any ideas ?

[Rosco]

There is no specific right or wrong way, and as you say you are effectively praying or gambling for capital gains. Only time will tell.

Here are a few points to consider

1) Can you increase the rent to improve the position?
2) Can you reduce expenses? What interest rate are you on, and can you do better?
3) Is the loss tax effective? Is it offsetting some taxable income and saving you tax?
4) Do you have a balanced portfolio? ie this property is very negative, but do you have other positive properties to support it. If you had a number of positive properties making $30k profit per year, then this situation would be find.
5) Are you protected against interest rate increases? ie do you have some of your loans fixed for stability?
6) Do you have secure income to pay for the loss? What happens if you have an accident or loss your job?

Main thing comes down to how confident you are the property will go up in value.
- inflation at say 3% is $50k per year. Do you think your property will keep up with inflation
- 5% growth is my personal guess as to the next 10 years. On your property this is $80,000+ per year. There is no guarantees this will happen!
- 6.5% per year is the approx average growth in NZ over the last 20 year. This would be $100,000 + growth per year
- 1.8% capital growth is your break even point, presuming $30k is your cost and no tax advantage. Do you expect your property to grow this much each year?

From your post, it sounds like your personal house is very similar, so you do have a lot of your wealth in one basket! Conservative take, would be to sell. But personally I would try to keep and consider my points above.

Ross

[aussie in new zealand]

hi Ross, thanks for replying,
1)not really $1200 per week is as high as i could get with good longish term tenants
2) can always do better - but on average over the 3m its 5.5% mixture of floating, and 3 yr at 5.6 % $2.25m so could save a couple of thousand p.a by locking in. but really only have 700k to lock in.
3) loss will be in the trust, so no offset for salary. but losses will accumalate in the trust not a bad thing.
4)overall the trust will make 30k loss p.a at current interest rates, and costs. i have 1 commercial property, and the rest rental houses.
5) as per point 2
6) income is plus $500k p.a with my own business and dividends so no problem on servicing the loan.

so income and servicing the loan in bad times is no problem, but i just dont see any real reason to keep the house, beside the fact that i renovtaed it, and lived in it for 4 years, so only a personal attachment.

i guess if i had a reserve of $1.8m and someone paid it - then i would be mad not to sell it ?

[Gladdynook]

How would the ird view this? Would they look at the massive losses and therefore categorise you as a speculator for which capital gains tax would be applicable?

[cube]

How would the ird view this? Would they look at the massive losses and therefore categorise you as a speculator for which capital gains tax would be applicable?

Irrelevant - capital gains are applicable if the original intent at time of purchase was speculation. Original intent was PPOR, so unless there is a pattern of trading, I don't think CG will apply.

[Rosco]

3) loss will be in the trust, so no offset for salary. but losses will accumalate in the trust not a bad thing.
4)overall the trust will make 30k loss p.a at current interest rates, and costs. i have 1 commercial property, and the rest rental houses.
5) as per point 2
6) income is plus $500k p.a with my own business and dividends so no problem on servicing the loan.

You should be able to structure to offset loss against other income. There are a few different ways and options. Would save you $10k per year in tax that you could use to reduce the mortgage, which then reduces the loss.

in 5 years, how much more do you think the property will be worth? Will this be a lot more than the $150k loss?

High side, your property could go up 10% per year, or $800k gain. Is this a reason to keep it? Even half of this is a good gain at $150k cost and mostly the banks money.

You could use some of your income to pay down the debt, so that it could pay for itself long term. Also rents should slowly go up.

In 10 years, how much will you kick yourself if you have sold?

Ross

[aussie in new zealand]

Hey thanks for your comments, replies.

Capital gains or speculation is definately not an intent or an issue with the ird, as it was purchased and lived in for 4 years, until I decided to buy another property and renovate again.
And believe me if I could get more than $1200 per week rent from the property I would, but even I cringe at someone paying $1200 per week rent.

I owned the place out right, and then sold it to the trust, when I purchased my current ppor, and renovated again.

I have a offsett account which I park any spare cash I have, so this will in time negate the losses in the future , I should be able to save around $200k p.a, which will effectively bring the interest cost down.

In reality if I sold the place and did get $1.8m I could then buy 2 or 4 more properties at say $500k each and not lose so much p.a and would potentially make more capital gain in the future ?

I guess the question is, will a $1.625m property in Epsom achieve a greater capital gain in 5 or 10 years, as opposed to 4 properties in mangere bridge over the same period ?