Ease the pain

If your investment property has turned out to be a dud, it could be time to make some hard decisions

If you own an investment property with negative equity, meaning the mortgage is greater than the value of the property, should you bite the bullet and sell now? And what if your investment is worth less than what you paid for it even though it’s not in a negative equity position? It all depends on a number of factors, say the experts.

With house and unit prices falling in some of Australia’s key markets, some investors who bought at the top of the boom may be facing negative equity. The Sydney market peaked in July 2017 and median prices are down 5.4% in the year to July 31, according to CoreLogic. Melbourne peaked in November 2017 and had fallen 2.9% to the end of July. Of course, some single-industry regional areas, particularly those linked to mining, have fared far worse than this, with falls in values of homes and units of up to 30% or 40%.

Michael Yardney, a director of Metropole Property Strategies, doubts that many city buyers would have negative equity in the true sense but concedes that even if your property is worth less than you paid for it you may be worried.

“It’s silly to sell now and crystallise a loss if you have an investment-grade property,” says Yardney. “But if you’ve bought a dud – maybe you’ve been taken in by a spruiker – the worst thing you can do is hold on in the hope that things are going to get better.” It might hurt but it’s better to take a smaller loss now than a bigger one later, says Yardney.

Anna Porter, principal and property adviser with Suburbanite, agrees. “If the fundamentals are all wrong – for example, it’s in a mining area, or a serviced apartment or there is no tenant demand – there may be further downside.”

Think long term

But Porter also agrees that if your property is in a market with strong long-term fundamentals the best option is to hold. “Even in good markets, values can fall because of events such as a royal commission or an election but these are just speed humps in the

road and you should not panic just because everyone else is.”

So how can you tell whether the property you have bought is a lemon or you just have a short-term problem?

“Maybe your property is doing badly because of the cycle, so it’s a timing issue,” says Yardney. You can perhaps do something to manufacture equity, such as renovate. “But if it’s a location problem you can’t change that – location does 80% of the heavy lifting of investment property.”

It’s worth assessing the situation through an independent set of eyes because there are costs associated with selling, says Yardney.

And if you really do have negative equity, how are you going to make up the shortfall? Let your bank know because it really doesn’t want to own property in a mining town and it certainly doesn’t want bad publicity, so it may extend your mortgage if you want to hold on, says Yardney.

In weighing up whether to sell or hold, Porter says you need to assess the specific market the property is in. “Is there something in that market that will turn it around? If it’s just a timing thing, it might be worth pushing through the pain.”

Also investigate the opportunity cost of holding on. “Could you reinvest in something that will produce more growth?”

Porter is wary of renovating to manufacture equity. “You could be throwing good money after bad. You might get back to square one but you might not.” But if you want to lessen the pain of holding you might renovate for tenants, making low-cost, effective improvements to make your property stand out from the rest to attract a premium rental or longterm tenant, she says. Make sure you have the right property manager in place.

Also work with a broker to get the best interest you can, even though this might be challenging. Investigate whether you might be better off with a principal and interest loan.

Don’t lose any sleep

If you’re a negatively geared investor, you can get your tax breaks on your property each pay day rather than wait until the end of the year. To do this either you or your accountant will need to lodge a PAYG withholding variation application with the tax office either online or on paper (see ato.gov.au).

Maybe you can segment your property into two tenancies, says Porter. Does it have a separate self-contained area such as a granny flat or a garage conversion that can be rented out separately? If tenants are hard to find, does your property have the potential to provide affordable housing? Talk to your local council about this.

But at the end of the day, don’t lose sleep over it, says Porter. Remember it’s just “stuff”. If you’re lying awake at night, putting pressure on your health and family, it’s just not worth it.

She recently helped a couple with five investment properties in regional areas. They had bought seven to nine years ago, and four were in either negative equity positions or worth less than they paid for them. The final decision was to sell two and keep three. The first one to be sold was the one that they had some equity in due to paying down the loan. The second was in the worst negative equity position but it was in an area where there were tenant problems, which meant the owners were having problems getting insurance and other hassles.

Holding the other three was more a timing thing, says Porter, and over the long term they should be OK if not great. The couple decided to put surplus funds from the sales into buying one really good growth asset that Suburbanite helped them choose.

Poor asset selection can often result when people go on holidays, says Porter. “One big mistake a lot of people make is they go on holidays, love it there and decide to buy a property in the area without researching the fundamentals. Their attitude is ‘what can go wrong?’ ”

Neither Porter nor Yardney are big fans of regional investing. Major regional hubs such as Geelong will grow, says Porter, but it’s a long-term “nest egg” strategy. “But we discourage people from investing in smaller regional towns which don’t have diverse employment drivers.”

You want to invest in an economy that has multiple pillars, says Yardney, and this does not apply to many regional areas.