Are we on the right track

[Goodbup]

Hi,
Am new to pt after being advised that this is a great place to learn lots about property investment from. I have so much to learn as I am thinking about investing in more property in the future. I say more, because up until now we had only bought 2 investment properties, but had to sell one earlier on this year.
The property we have left is in the Bay of Islands which we bought in November 2002 for $155,000. It was valued at $165,000 when we bought it and was valued at $209,000 in December last year. We bought it for the long term hoping that it will be worth a lot more in about 10 years time. It is an old 3 bedroom house on a 837m2 section about 5 minutes walk to the beach. It is one of those "worst house, best street" situations. Anyway, we bought the house through our LAQC company which we set up for the purposes of buying property. We were advised to set up the LAQC company and I have to admit, I don't know much about it - whether it's a good idea or not. The reality is that we are having to top up the mortgage each month for this property by $480. We rent out the house to very good tennants for $200 per week. When we bought the property, the then tennants were paying $160 per week. Not long after we bought the property, the tennants moved on, and we found ourselves struggling to attract new tennants. We settled on the only ones who were interested and increased the rent to $200 per week. The mortgage we have is P&I over 30 years and the outgoings/incomings look like this:
Mortgage over 30 years $160,000 = $12,601.42 pa
= $ 1,050.12 per month
Expenses(Rates, Insurance, Lawns
Maintenance, Bank Fees)= $ 295.84 per month
Total expenses per month = $1,345.96
Rental Income = $ 200.00 per week
= $ 866.67 per month
The reality is that I don't think we could get more than $200 per week rent. This might seem obvious to others, but I can't see why we have to top up the mortgage with $480 per month for a $160,000 loan over 30 years. Am I not seeing something here, or is it because the property is negatively geared. Can anyone help. How do others manage to get positive cashflow from their properties. Is it all to do with the yield. How is the yield worked out.

[beama]

Maybe interest only

You could always change your mortgage to interest only, that would greatly reduce your mortgage payments and makes things easier on your pocket.

How often do you pay your mortgage, weekly, fortnightly or monthly, making weekly payments can save some $$ too.

How much equity do you now have in your property? Maybe you could use the equity you have to purchase a cashflow positive property which in turn can make the top up payments on your current property, this would mean the money doesn't have to come from you personally like it is right now.

Thats my two cents
Beama

[Monid]

Hi Goodbup

Well to start with the yeild is figured out buy multiplying the rent by 52 then dividing that by the purchase price.

So for example if you buy a property for $100000 and it is rented for $200
then the yeild will be ($200*52)/100000=%10.4 for the property to be positively geared the yeild at least needs to be greater than the interest rate on the mortgage.

To be even more certain of positive gearing you need to work out a net yeild, which is determined by multiplying the rent by 50 (Gives you two weeks of the property being unrented) then subtracting all the predicted yearly expenses ie upkeep, rates, management fees etc.


Now the short answer is yes you are negatively geared and that is why you need to top up your rent to cover your mortgage. That said given the losses you ought to be making at least some tax savings (Though of course less than you are loseing)

The next obvious question is what should you do?
Now of course this is up to you and depends a lot on your financial situation (ie can you sustain the losses in the mean time) And you have to understand that this advice comes from a relative newbie, I have only been in this game for a year myself.

Given my understanding of the situation I would probably sell the property now and try and use the money from that to find some cashflow positive properties.

I think that we are pretty much at or close to the peak of the market and as such this presents a rare opportunity to get out of negatively geared properties at a profit.

Now I am probably going to get hammered by some of the other posters for the harshness of that claim against Capital Gains properties however it is very rare that anyone seems to factor in the effects of inflation of CG properties profits. What I mean by this is that the amount of profit made should be measured against the dollar value when the property is purchased. Thus inflation becomes a key factor in determining whether you have sold for a profit.

lets pretend that inflation has been about %3 for the last two years and that you sell your house for the price of $209000 (with all transactional expenses paid)

Then in real terms the $155000 you paid is now in today's terms worth $164439.50

we then subtract this from the sale price of $209000 to get a profit of $44560.50
From this we have to remove the costs of you financing the house at $11520 for the two years

so you have made roughly $33000 a fairly nice profit

now each year you wait to sell the property the question is going to be is the rise in the inflation adjusted price going to be more than I am paying from my pocket to sustain this mortgage. If you think yes then by all means hold onto the property, if not then sell it and reinvest the money elsewhere.


Beama's suggestion might serve as a good compromise however since it takes the onus off your pocket.

Anyhow don't be put off by my opinion if you think it is good then keep on going with it, I am just trying to give you some tools which might be useful in assessing the value of your investment.

Hope this is of some help
David

What do other people think?

[Gerrard]

Some good points made above.

My first question is "Why are you investing in property?".

Once you answer that question you can decide whether this property fits with your plans, or whether you should sell it.

Think about your personal plans for the future too. One good reason to keep the property is if you intend to use it as a retirement or holiday home at some point. Owning property doesn't have to be purely about making money!

Good luck
Gerrard

[drelly]

I have a few questions...

1. Do you have any other debt?
2. Your monthly expenses seem high, can you break them down for us?
3. Would the house work as holiday accommodation?
4. Where in the BOI is the house?

As for +ve cashflow... I had a brief look at property up that way (I'm in Whangarei) but soon realised that anything in Kerikeri or Paihia was hard to make work as far as cashflow was concerned. Kawakawa and Kaikohe have cheap property and a lot of investors are buying in Kaikohe because of the new prison. However, neither of those towns have anything going for them and little reason to grow long term.

[inzvestor]

Re: Are we on the right track

Hi Goodbup

Great first post and I hope there are more like this to come.

... we bought the house through our LAQC company which we set up for the purposes of buying property. We were advised to set up the LAQC company and I have to admit, I don't know much about it - whether it's a good idea or not. The reality is that we are having to top up the mortgage each month for this property by $480.

Firstly, I would ask who advised you to set your property up this way?
and
Were you at any time advised that your property was negatively geared and that you would have to make payments to supplement the rental income received?

Was the property purchased as a rental property with a view to living in at a later point in life?
If so, you will most likely be better keeping this on a P&I loan rather than switching to Interest Only.

Beama's point (below) makes sense too and may be worth considering, however, this may not fit your risk profile.
"Maybe you could use the equity you have to purchase a cashflow positive property which in turn can make the top up payments on your current property"

Was the other property that you sold already doing this?

Do you still have any money to be able to pay off a chunk of the loan to bring the negative equity figure down and possibly turn this into a positive cashflow situation?

Goodbup asked;
"How do others manage to get positive cashflow from their properties?"

This is a good question.
There are several ways to do this.
1) Buy a property where the income received less expenses is higher than mortgage repayments.
2) Put down a larger deposit to help 1
3) Increase the appeal of the property and raise the rents accordingly
4) Extensively research the rental market prior to purchasing to ascertain what rents can be achieved for similar properties.

Many properties are priced out of the rental market and may only be suitable for main residences (but may have great capital growth opportunities)

Hope this helps. We look forward to more posts from you.
Above all - don't give up !!

[JetBlue]

I am new to this, but have to ask this question:
what is LAQC company? what is the advantage/disadvantage of setting up this company to purchase IPs?

Will it be better to set up a trust to purchase IPs?

Thank you.

[orion]

Hi Goodup,

Mostly I agree with what Inveztor has to say, I would definitely in no way consider interest only in your situation. In fact, it is not a property that I would have purchased for a long term buy and hold. You are topping it up significantly every month and even if you have other income to cover this, it is not a strategy to use for future buying, as you will sooner or later run out of cash flow to top up your loans.
The options are to hold onto it - and learn from this one, or sell (at least you have had some capital gains since buying which is a bonus) and buy properties that you don't have to top up each month. Look for a yield of at least 7% and put in sufficient deposit to make costs approximately the same as rental income, ignoring depreciation. You may possibly have to purchase properties in a different area to make this work, I am not familiar with the area you have bought in.
Set some goals of what you want to achieve from property and a timeframe, how many hours a week you are prepared to put into your investing, and then post another message so we can suggest some ways of getting there.

Regards
Graeme Fowler

[cube]

I am new to this, but have to ask this question:
what is LAQC company? what is the advantage/disadvantage of setting up this company to purchase IPs?

Will it be better to set up a trust to purchase IPs?

Hi JetBlue,

Hopefully, I answered your question about LAQCs elsewhere.

Use of an LAQC or Trust for the purposes of PI is a personal choice, but with some implications, such as:

1. Losses accrued in a Trust cannot be accessed by individual tax payers. They stay locked in Trust until the business makes a profit.

2. If a business, PI, is in the same trust as the family home, then the protection of the home afforded by isolating it from the business may be lost.

3. Using an LAQC to access tax advantages whilst a loss is made, and then transferring it to the Trust when it makes a profit may look like tax avoidance (ref article in NZ Property Magazine a few months back!)

4. Trusts are more complex, and thus expensive, to set up.

Hope this gives some food for thought.

cube

[Anged]

Thanks Cube,
Your last statement answered a few of our questions. My brother n law suggested that we but the rental into trust for the kids, but i think we may on off for a bit longer.
It was suggested from the mortgage guy that we too should form a company for the rentals, but I had a wee chat with the accountant to which she advised us not to yet.

Ange and Marty

[Glenn]

I agree with most of the above points.
My penny's worth is that the new investor is in fact that.

Most of us that have been in the business for a while and have done well can identify with this. I ask you how many small businesses do well the first two years. You have to do the long hard slog for what at times can seem far too long before you will see any fruits of your labour.
As for me I believe that you need to be putting more into paying off the principle in order to make the numbers look better.
Savings is what the dirty word is.
Every time I buy another property I seem to go backward for two years. Then looking back it always looks good.
I have seen just so many people sell up after they have made a good capital gain and sure they get to buy a new car, take a trip, or upgrade the home but really they have just shot themselves in the foot.

The aim of the game is to stay in the game.

One dollar in the bank every week from investments is worth $2 in the hand from your own labour. Getting a one off $30,000 capital profit is not as good as an annual payment of much less.

Glenn

[graemeh]

The lure of a new car is difficult to resist. I've just given in to the desire but I know it means a hole in my pay packet for the next 48 months!

Like everything it's a balance. The cost of the new car is about 2% of the cost of the places we have bought over the last two years, so it's not major, but I know I will be very glad when the 48 months are up and it is all mine.

I don't think people should live like paupers while building up huge empires but then you shouldn't go and spend all your money on things that only depreciate.