Rent - Don't buy

[minimoke]

[quote]Originally posted by duncan macgregor

MINIMOKE, What a load of rubbish. What one eyed waffle it is obvious you have never been in the property business. macdunk


Duncan – you shouldn’t be making such assumptions.

Without boring everyone to death with the detail Tinker appears to be happy with his residential property for personal use which is obviously different from a business rental. And there’s nothing wrong with that.

If you want a business model, lets look at some rough numbers. Say you have a $500k property, you might have $250k worth of land and $250k worth of improvements – with lets say a $250 mortgage. Your carpet, for example is going to depreciate (or deferred maintenance/replacement) at between 12 and 33% DV, while your curtains are going to be around 22%. The building itself will be around 4%. Your rates will be around $2k and insurance around $800. Interest on your loan at 7% will be $17,500. This gives me annual costs of around $30k.

Say you sell your house at 3.5% commission and $1k in advertising and $1000 in legal – here’s another $20,000. But you could probably accrue this over 7 years being the approx average time we seem to spend between moving houses. So this is another $1,500 a year.

So for the pleasure of your own home (or residential investment) you have to come up with over $30k a year.

Your rental on the other hand might cost $450 a week or $23k a year – but you have $17,500 gross (from your $250k cash) to offset this.

[duncan macgregor]

minimoke, Lets not dispute the numbers, so for this debate we take yours as true and correct. You cost it out at $30k pa to own against $23k pa to rent on this $500k home. What you dont consider is the increased value of the property . My figures over the last thirty years show an average expected increase in house price in the home you talk about will be $50k pa. This means that by owning the property over the seven year time cycle you have lived rent free with money to spare. You might dispute this and say that the person that rents places his money in the bank where i would come back and say the person that buys does not pay rent. It all boils down to the simple fact that the appreciation in house prices plus rent beats what the bank pays. Therefore the smart investor uses the banks money to make money, at no cost to them. The real smart investor has hundreds of thousands of dollars invested in property with the banks money, at no or very little of their own money involved. The smart investor buys in the trough, and sells up at the peak. They all want the property market to boom and crash. macdunk

[minimoke]

Duncan, its not so much that I am ignoring the value of capital appreciation of property – its more that I am trying to keep thinks simple. If I look at the capital appreciation of property I ought to then factor the power of compounding interest with the bank deposit. A bit of a stretch at this time of day!

I guess where I have difficulty with your model is that given the property increases by $50k a year, it has actually cost you $30k in cash to get to that state – so you are roughly $20 k better off.

With the rental model you spend $23k and you make $12k net.

Either way you get a roof over your head.

Given this particular thread is on rental vs buying I am not sure that there is that much in it with these kinds of figures. However the picture changes drastically if you do not currently have any property assets on which to leverage. I can’t see any point in anyone considering buying if they are looking at a 100% mortgage particularly with rates rising. And the trouble with buying is you can’t write off a number of your costs.

The other issue to consider when using the banks money is that they will charge you, say 9% interest which is a net/cash sum payable. This means your earning capacity has to be around 13% gross. Basically the only way your model works is if a person has high equity and/or low debt servicing costs.

And I am not sure that I can consider a person buying their own residential property an “investor”. They will buy/sell property in the same market so this is a neutral position. I also recall that most retirees who trade down to a smaller property actually spend equal or more than the value of their previous home.

I agree the clever money will be around for those properties that will get flogged off at the mortgagee sales. I remember well how hard it was for me to fund a mortgage at 25% interest on one income. I suspect those double income people are going to struggle when their mortgage goes from 6% to 10%, particularly if they drop to one income. These people will simply not be able to afford to hang in there and ride the hard times out.

[Tinker]

Thank you all for your comments, bought back memories. As I recall the interest rate at the time was 7.5% and whenever I had $1000 in my bank account I trundled off dwon to the bank and paid it off the mortgage. Cleaned it out pretty quick. I remember my thinking at the time was where can I get a risk free post tax return of 7.5%? Nowhere so off the mortgage it went.

And I don't think I would feel as secure in the event of a death or loss of income if I rented. Plus I like my home.

And yes Halebop it has exactly doubled in 11 years. Still I would have been more wealthy if I had lived with Macdunk. Any room my scottish friend[]?

cheers
Tinker

[duncan macgregor]

MINIMOKE, Sorry to harp on but you miss the importance of the banks money you invested against your own. Do all the sums work out bank rates rental incomes property appreciation then after all that you still think the way you do For christ sake do it. macdunk

[wns]

Further to my previous post here...

"If" we were to sell all three houses today (which we won't)...

after taking into account all selling costs, capital gains tax on the two investment properties and paying off all associated loans in full...

The amount of cash left over would pay our rent (at current market prices) for the next 15 years!!

The total amount of cash out of our own pocket to buy the three houses was about the same as just one year of rent!!

Yes we were lucky with the timing of our purchases, but as the saying goes "you've got to be in it to win it"!

Looking at it another way: over the three years the cost of renting was less than the combined cost of our initial deposit plus closing costs + 3 years of loan repayments, rates, insurance & upkeep.

But to be ahead of where we are today, if we rented, I would have had to invest that 'saving' and multiplied my money by more than 10 times within three years. Could I have done it? Possibly, but probably not.

Am I glad we bought the first house instead of continuing to rent the last three years? You bet I am!!

[minimoke]

quote:Originally posted by duncan macgregor

MINIMOKE, Sorry to harp on but you miss the importance of the banks money you invested against your own. Do all the sums work out bank rates rental incomes property appreciation then after all that you still think the way you do For christ sake do it. macdunk

Duncan, I appreciate this is a topic dear to your heart and that you speak with the enthusiasm of your successful experience. However when we look objectively at the numbers we might get a different story. Now, the numbers are such a hard one to deal with so it doesn’t really help making generalisations. My generalised numbers above show nothing between the option of renting or buying a place to live in. The numbers are obviously quite different if you are looking at a rental property or indeed a bare piece of land.

Your posts seem to miss two critical elements that go into the numbers. First the cost of using the banks money – it doesn’t come for free. In today’s market the ANZ has a variable loan rate of 9.25%. The numbers here aren’t difficult. On a $100k loan I have to pay, from one source or another, $9,250 PA – and this means I have to earn $14,000. The cost of using the banks money in my various property deals has ranged from around 6% to 25.1%, and this is during your 30 year period of capital appreciation which you use as the basis of your average 10% increase.

The second element you seem to gloss over is the cost of maintaining your asset in such a way that it either remains fit for use or you are adding value. You only have to go down to Bunnings or Mitre 10 or the local garden centre in the weekend to see how much money people are pouring into their properties. Even your own piece of bare land will be costing you something. Every now and then you are going to have to till and resow, and within 30 years you are going to be looking at refencing. The numbers are even worse those who lease their land out for horse grazing.

If you want to give me a hypothetical property to purchase I am more than happy to run the numbers to see what we can come up with.

[duncan macgregor]

MINIMOKE, The paddock next door was purchased using money from an inheritance by the owner. The property cost exactly 11 years ago $68000. He leased it out to a farmer at the cost of the rates being the rent. His object is to sell it off as his childrens education fund. He asked my advice on selling the property as he had an offer of $340000 on the table. My advice was dont sell he still has roughly five years before the money is required, my viewpoint being that during the next five years i expect the property to double in price. That is a real life example, i can give you lots more if its to work out figures. macdunk

[minimoke]

quote:Originally posted by duncan macgregor

MINIMOKE, The paddock next door was purchased using money from an inheritance by the owner. The property cost exactly 11 years ago $68000. He leased it out to a farmer at the cost of the rates being the rent. His object is to sell it off as his childrens education fund. He asked my advice on selling the property as he had an offer of $340000 on the table. My advice was dont sell he still has roughly five years before the money is required, my viewpoint being that during the next five years i expect the property to double in price. That is a real life example, i can give you lots more if its to work out figures. macdunk

So it looks like he's achieved around 17% average growth per year - but I'd guess most of that was achieved in the last 5 to 7 years. I'd have to say you've got balls since it seems to be that you are suggesting continued compound growth of 15% over the next 5 years for essentially a non productive and uneconomic piece of land whose value is driven solely by demand.

I am presuming the current owner is maxing out the economic value since there appears to be no revenue stream when he brought the land and there isn’t one now.

Since you are advising him to hold his land on the basis of asset appreciation it appears the owner will be up for capital gains tax when he comes to sell, so his $680 sale price will be substantialy less.

I personanly can't see rural land values increasing at 15% PA over the next five years for a couple of reasons; one being increased petrol will be a disincentive for people to build their dream home on the lifestyle block. Secondly with increased interest rates, alongside the view of using the banks money at say 9.25% a person/s has to earn $100k to make the $63k needed for the interest bill. I don't see wage growth at a rate that would match this increase level of funding needs. I'll leave the issues of GST payable aside as this would just come down to cash flow. Since there doesn't appear to be any economic use attached to the land I don't think it too likely that the new owner would be able to claim the interest as a tax expense.

So the guy in 5 years is going to sell his land for $680,000 (net somewhat less) to someone who has to earn $100k to pay the mortgage on the revenue expectation of a grand or so to offset the rates and the future promise of further substantial gains in capital value. I can’t see it happening but lets follow up in the future.

[duncan macgregor]

MINIMOKE, Your arithmetic is so far out its unreal. $68k at 17pc over 11 years ?. No capital gains he is not a trader its not a business. Rural lifestyle land is and has skyrocketed they dont make it anymore, it will go up faster in the future. No upkeep, no mortgage, rates paid, he would be a dummy to sell. macdunk