Hi Guys

Here is Valuit's July Newsletter.

Welcome …
to Valu in Review for July 2004
.

This month we focus on the discussion paper recently issued by the IRD and Treasury on proposed changes to the depreciation regime.

The usual summary of news articles in the press over the last month is also included.

We hope you

Read, learn, enjoy …… and happy investing!

WHAT DO THE PROPOSED DEPRECIATION CHANGES MEAN TO YOU?
What a couple of weeks it has been. Since the discussion paper was released we have been busy in meetings with Investors, Property Professionals and MP’s discussing the impact this is going to have.

Put very simply the proposed changes will mean some depreciation rate changes. These rate changes will be in the form of reducing the rate for some items and therefore the depreciation in the short term. Over the long term the depreciation will be very similar. The result will be a reduction in cash flow for investors in the early years of ownership.

We have done some examples as part of a group of Professionals that is working together to inform investors of what is going to happen.

The following is an explanation of the proposed changes. The table at the bottom of the article will help to explain the effects on cash flow.

Note: a copy of this article along with further diagrams is available on our website on the Current Issues page (www.valuit.co.nz).

Buildings
As an investor currently depreciating your $100,000 building at 4% Diminishing Value (DV) the depreciation is $4,000 in the first year.

The IRD proposes the depreciation rate to be 3% DV or 2% Straight Line (SL).

With the rate at 3% DV the deduction would be $3000 in the first year. Therefore, you would be approx $330 worse off or 6$ per week for cash flow in the first year based on a tax rate of 33%.

If you claimed the proposed 2% Straight line the deduction would be $2000 in the first and every year after. Therefore, you would be approx $660 worse off or $12 per week for cash flow in the first year based on a tax rate of 33%.

Chattels and Fit-out
As an investor you can currently claim depreciation separately on fit-out and chattels. These are at various rates but on average work out to approx 10% DV. For Chattels and Fit-out worth $60,000 this would mean $6,000 in depreciation in year one.

We are unsure of what items exactly IRD will classify as building for depreciation but some of the items that we currently claim at increased rates will default back to the building rate as shown above. As we are unsure we have done two calculations. One based on a worst case scenario (larger number of items reduced to the building rate) and a best case scenario (few items)
Under the best case scenario it is estimated that the average depreciation rate would drop from the current 10% to 7%. This would reduce your first year cash flow by approx $600 or $12 per week.

The worst case scenario would reduce the average depreciation rate back to approx 5% which would mean a reduction in cash flow of $1000 or $19 per week. A big drop.


Summary
These cash flows are only for the first year and the tables below show the effects over a longer period. The key for an investor is to have cash flow in the early years of ownership when expenses such as interest are high.

When you combine the reduced cash flow from the Building as well as the Fitout and Chattels the cashflow loss for you as an investor with $100,000 of Buildings and $60,000 of Fitout and Chattels would be $900 - $1,650 in the first year or $17 - $32 per week!

This would hurt you as an investor.

Best Case scenario cash flow change per year including Buildings, Chattels and Fit-out

Year 1 Year 2 Year 3 Year 5 Year 10 Year 15 Year 20 Year 30 Year 50
Yearly -$924 -$800 -$690 -$507 -$207 -$50 $29 $81 $ 72
Weekly -$17.77 -$15.38 -$13.27 -$9.75 -$3.99 -$0.97 $0.56 $1.56 $1.39


Worst Case scenario cash flow change per year including Buildings, Chattels and Fit-out

Year 1 Year 2 Year 3 Year 5 Year 10 Year 15 Year 20 Year 30 Year 50
Yearly -$1650 -$1449 -$1267 -$954 -$397 -$56 $158 $386 $550
Weekly -$31.73 -$27.86 -$24.36 -$18.34 -$7.64 -$1.07 $3.05 $7.43 $10.58

Where to from here?
As investors it is a great idea to make a submission commenting on the discussion paper. For this we will be in contact again in the near future giving you a little more of a brief along with the details and address for submissions to be made.

The more we speak out the greater the chance of reducing the losses to cashflow.
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We have tried to include a variety of articles and viewpoints on property recently contained in the media. Please note that the articles are a summary of the main points and we endeavour to reflect these as accurately as possible. The contents do not constitute professional advice and should not be relied upon as such. We strongly recommend that you seek professional advice at all times. The information is in no way a reflection of views held by Valuit Asset Appraisals Ltd or its staff.

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Interest Rates
As widely expected the Reserve Bank has increased the Official Cash Rate by .25% today to 6.0%.

The Bank has indicated that further increases in the Official Cash Rate by the end of the year are likely.

The next Monetary Policy Statement is scheduled for 9 September.

Median House Prices
The median house price was down $5,000 to $243,000 from May to June. It is believed the major influence on this was a large number of apartment sales in Auckland at the lower end of the price scale. Overall sales were down (impact of winter and rising interest rates) and the length of time to sell property was up 1 day to 31 days.

Mortgage Lending
SuperBank (available at New World, Pak ’N Save and 4 Square supermarkets) has started offering mortgages. Point of differentiation is that it rewards loyal customers by discounting the interest rates charged. The longer the mortgage is with them the bigger the discount up to a maximum of .6% off of the standard rate.

A pilot programme being run by Kiwibank for the Government offering no deposit mortgages of up to $150,000 has had fewer loans approved than budgeted (1,800 over 2 years). 400 homes have been bought and a further 200 loans approved in the first 10 months. Between 20–30 % of applications are being approved.

Housing Less Affordable
New research released by the Centre for Housing Research has found that
1. approximately 33% of tenants pay more than 40% of their income in rent (the belief is that if more than 30% of income is spent on housing then you are living beyond your means).
2. but only 16% of people that own their own home are paying more than 40% in housing expenses
3. during the last 15 years housing has become less affordable both as owner-occupiers and to rent
4. Aucklanders are worse off than people living outside of Auckland.

If trends continue it is expected by 2011 that there will be 80,000 fewer homeowners (ownership rate of 62%).

Guaranteed Rental Returns - Heritage Equities
Heritage Equities was established as a vehicle for investors to invest in a portion of 32 units in the Heritage Hotel. A guaranteed rental return of 9% was offered for 5 years. The directors of the company have recently advised investors that the company can no longer sustain the investors’ guaranteed return and meet the commitment to its lenders. The offer will therefore expire this September at the end of the agreed period. It appears that the units will be sold and the company wound up.

Increasing Development Costs
Recently a couple of new developments have either been cancelled prior to the start of construction (with any pre-sold deposits returned) or the developers have asked for more money from the purchasers. This is due to increased costs in the construction industry since the original cost estimates and the developers receiving the final costs.

In the instance where developers have requested additional money from the purchasers the response has been mixed with some refusing to pay any extra while others have agreed to the extra costs.

Rents Easing
Two cities (Invercargill and Nelson) are reporting reductions in rent to ensure occupancy rates remain high.

Reasons given vary from supply and demand (less renters – students or immigrants), to inadequate heating over winter forcing renters to look for warmer accommodation, to seasonal workers leaving the regions.

Landlords are experiencing a $15-$20 drop per week in rent compared to the same period last year.

A Move to Small Commercial
In Auckland some investors that have traditionally invested in residential housing are moving into entry level commercial. This is being made easier by developers recognising that many small business want their own space. Investors who are attracted by yields in the vicinity of 8.0% and stable tenants are snapping up quality units around $500,000 mark.

Thames
Completed and proposed infrastructure spending (hospital, stormwater, runway at airport) in Thames has seen renewed interest in the town. The Council is looking to cash in on its central location between Tauranga, Hamilton and Auckland and is employing a consultant to concentrate on economic and industrial development in the region to further encourage growth.

Greymouth
There are 8 housing sub-divisions underway on either side of Greymouth within excess of 220 sections becoming available. This could lead to an oversupply in the short-term but the demand for housing will increase as the local economy grows. The last time there was a new suburban sub-division in the area was in the 1970’s.

Head Office
Phone: 0508 482 583
Fax: 06 877 5571
Email: [email protected]
Web: www.valuit.co.nz
VALUIT Specialists in property depreciation
Regards