Tax and legal advice
Cate Bakos

Why tax benefits should never drive your investment goals

By Cate Bakos

Depreciation is a tax benefit often chased by investors, recommended by planners and revered by tax accountants – but it’s not necessarily a good thing when it comes to real estate investing.

Blogger: Cate Bakos, director, Cate Bakos Property 

While depreciation helps with cash flow, it should never be the reason for investing in property. In this pre-election period, when negative gearing and investor tax benefits are featuring daily in the media, it helps to put perspective around the issue. After all, why do most investors choose property as an asset class? Surely not just for tax breaks?

All too often, I meet investors who have a sad tale to tell about the limited value growth their brand-new or newly refurbished apartment has sustained. Whether it be in Melbourne’s Docklands, an outer-ring Sydney refurbishment or a southern Queensland coastal off-the-plan development, the stories have a lot in common. Many purchasers find themselves making a loss when they sell their property within a few years of the initial purchase.

Why so some properties sell at a loss within a few years after they have been purchased brand new?

The obvious consideration is that perhaps the vendor overpaid at the time, but in fact this is not the reason. Comparable sales evidence often suggests that purchasers all pay reasonably similar prices for comparable units within similar developments. Presumably, they bought with enthusiasm, whether the purpose of their purchase was for occupation or for investment.

Nobody ever purchases property and anticipates that over a seven-year period they will sustain a capital loss. In fact, a common misconception is that property doubles in value every seven years. Yet in many popular, inner-ring areas where amenity, public transport, lifestyle and desirability reign, certain blocks can perform counter to other properties in the same suburb, and these poor-performing investments are heart-breakers for investors.

One common but rarely mentioned factor plays a significant part in the negative capital growth that new apartments sustain: depreciation.

Quality finishes, trendy spaces, great fixtures and fittings, and high depreciation schedules entice many investors to consider opting into brand-new developments. Many investors get excited over these types of assets, particularly when hefty tax deductions through depreciation are on offer. We often have clients coming to us with clear instructions from their accountant to pursue a new property for tax-saving reasons.

This strategy can often present a serious roadblock to immediate capital growth, though.

When the value of the dwelling and improvements is greater than the land component, the impact can be more costly than the short-term tax savings. In the case of an apartment block, it is more difficult to exactly determine the land ownership percentage that can be allocated to one particular owner. Common areas in strata developments are often considered ‘undivided and equally shared’ among residents, but for the purposes of calculating the ‘relative share’ of the land value, apartments of varying sizes may be determined to have unequal ownership of the land. It varies between complexes. What is important to note, though, is that the relative land ownership per resident in terms of land value would be distinctly lower than the value of their dwelling. After all, the brand-new fittings and fixtures, quality build and exciting interiors have had zero depreciation at the point of occupancy.

From the moment of settlement, the calculated rate of depreciation will be quite high, and any investors in the block will presumably enjoy some decent tax savings. But as we know, depreciation is an inverse-compounding situation. As the years go by, the tax write-downs diminish, until one day they are negligible. What investors often forget is that depreciation means losing value. It is only acceptable for a dwelling to lose value if the land it sits on is growing at a strong rate; strong enough to offset the rate of the depreciation.

Sadly, the first few years of ownership can see a new property diminish in value while depreciation runs high.

However, with the slowdown in the rate of a dwelling’s depreciation at around three to five years, and particularly in tightly held, inner-ring locations where capital growth of established property is tracking positively, original owners in a new or redeveloped block can likely expect that their asset will start to turn the corner in terms of capital growth.

Often this three-to-five-year mark is the best time to buy for investors who value low maintenance, some depreciation and positive-trending capital growth prospects. The property is usually still glossy and fabulous, and the key to this is the land-to-asset ratio.

The land-to-asset ratio underpins so much of our decision-making as advocates and investment property advisers, and it’s always disappointing to see situations where vendors could have invested their savings differently at the time, but instead have sustained a market loss. We are often asked why new and off-the-plan investments decline in value in the early years – a low land-to-asset ratio is one key reason.

My most valuable tip I can share on this matter is for investors to always aim for a land-to-asset ratio of greater than 50 per cent. Try to ensure that the dwelling component represents no more than half of the value you are about to pay, and ensure that the land is supported by multiple genuine growth drivers. Ideally, the location should be supported by more than one major employer, and lifestyle features such as cafes, schools, transport and community. It should be obvious that desirable tenants will be easy to find, and likely to love the property in question.

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About the Blogger

Cate Bakos

Cate Bakos

Cate Bakos is an independent buyers advocate, a qualified property investment advisor, and owner and manager of Cate Bakos Property.

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Tune in to the latest episode of Property Showcase, the podcast with the inside track on the products and businesses that will help turbocharge your portfolio, maximise returns and make your overall investment experience seamless and stress-free!

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To hear more about these services, make sure to tune in to this episode of Property Showcase!

 Make sure you never miss an episode by subscribing to us now on iTunes!

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Son Pham is the accredited Head of Mortgages at Rethink Financing\/Rethink Investing. He has over 6 years\u2019 experience writing loans, over 12 years in the wealth management industry working for the likes of CBA, AMP and private practice and he is also a licenced financial planner (AFSL 326450). He has multiple investment properties that are cash flow positive which help pay his mortgage on his home and fund his lifestyle.<\/p>\r\n

Son is able to write all types of residential and commercial property loans.<\/p>\r\n

In this episode of Property Showcase, head of mortgages at Rethink investing Son Pham joins host Tim Neary to unpack how an investor should approach getting a mortgage in place with banks tightening down on serviceability.<\/p>\r\n

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    In this episode of Property Showcase, director of investment services for Open Corp Michael Beresford,\u00a0joins\u00a0editor of Real Estate, Tim Neary to share why he disagrees that the cooling market means that the best times are behind us.<\/p>\r\n

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Mortgages in a tighter lending economy and why Brisbane is a good option
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Will Magee has had ambitions to enter into the Australian property market for quite some time, but it has been more than just finances holding him back.  Having been granted permanent residency just two weeks ago, Will is wasting no time and is now in the process of signing papers and finding his first investment property.

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In this episode of the Smart Property Investment Show, Will joins host Phil Tarrant to share why he is purchasing his first property in partnership with his brother, discuss the complications that can arise from such a strategy, and unpack the ongoing plan for building a joint property portfolio with his brother.

Will will also share how they approached saving for their first property, why he is taking out the mortgage in his name exclusively, and share their savings plan for the year ahead.

If you like this episode, show your support by rating us or leaving a review on iTunes (The Smart Property Investment Show) and by following Smart Property Investment on social media: FacebookTwitter and LinkedIn.

If you have any questions about what you heard today, any topics of interest you have in mind, or if you’d like to lend your voice to the show, email [email protected] for more insights!

RELATED AREAS OF INTEREST:

From property in Australia to a ski lodge in Japan
Mortgage Trusts, an alternative first step for property investors
Should a real estate title be in one person’s name only?

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A property investment plan years in the making
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  ["title"]=>
  string(75) "Regional Victoria showing up Melbourne in price performance, new data finds"
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Median house prices in regional Victoria outperformed that of Melbourne in the June quarter, the latest REIV figures reveal. 

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Median house prices in the regions rose 4.0 per cent to $419,500 but in Melbourne they dipped by 0.6 of a percentage point to $840,000.

The result in Melbourne was due to a 0.8 of a percentage point fall in prices achieved at auction; this was despite a lift of 2.3 per cent in private sales.

Inner Melbourne suffered due to auction prices, where median prices fell by 4.9 per cent to $1,459,000 but it was middle Melbourne that was hardest hit, with a 5.4 per cent drop to $974,500.

Outer Melbourne had a good quarter with the median rising by 0.5 of a percentage point to $681,000.

Apartment prices in regional Victoria grew by 3.7 per cent to $304,500 while the metro media was up by 0.5 of a percentage point to $604,000.

REIV President Richard Simpson said that despite fewer sales, many sectors of the market were performing well.

“2017 was a bumper year and while the trendline has flattened, despite the fall in median house prices in the June quarter, median prices are still up this calendar year for both houses and units, in Melbourne and in the regions,” Mr Simpson said. 

In particular there was been strong growth in regional centres which is probably due to the first-home buyers’ concessions said Mr Simpsons.

“The first-home buyers’ concession has been a boon for regional areas. A new entrant to the property market buying a house at the regional median will pay no stamp duty, while a first home buyer of an apartment in Melbourne at the median price would pay stamp duty of nearly $25,000,” he said.

Mr Simpson said that more prospective buyers are looking towards regional Victoria which is also having an effect in Melbourne.

“Melbourne’s outer perimeter continues to grow. Small increases in the June quarter mean that the median prices for both houses and units have risen over 10.5 per cent from a year ago.

Mr Simpson said moving forward that vendors need more realistic expectations as the highs of 2017 are now over.

“Negative chatter about the future of the sector coupled with stronger lending controls by financial institutions has created some uncertainty and vendors need to be realistic with their price expectations,” Mr Simpson said.

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Regional Victoria showing up Melbourne in price performance, new data finds

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