Routes to property gain
ONE of the biggest questions in real estate is whether it is best to invest for rental return or capital growth.
A property investor obviously needs rent to help pay expenses, but in my opinion investors are better to focus on capital growth than rental return.
Let me explain with an example. Let’s imagine there are two property investors: Jack and Jill.
Jack bought his first investment in 2000 for $200,000. It was a new townhouse on a small block of land in a new estate of an outer suburb in a major capital city.
As the property was new, Jack was able to gain a premium rent and was collecting $220 a week.
Jill also bought her first property in 2000 for $200,000. It was a small, period-style property on a reasonable block of land in an up- and- coming suburb in a major capital city.
Her property was not new so she could not charge a premium rent, but due to its proximity to the city she was still able to charge $200 a week. Jack was attracted by the new property and relatively high rent, while Jill was focused on the location and the potential for above-average capital growth. Fast track to 2015. Let’s assume that Jack was able to consistently get an additional $20 a week in rent over each of the past 15 years.
This is an extra $ 1040 per year or a total of $15,600 in rent. So, Jack is in front with the rent.
What about the capital growth?
In the past 15 years, property prices have almost tripled in most Australian capital cities.
This means they have increased at a rate of about 7 per cent a year (which is about the average annual increase over the past 70 years).
As capital growth is based on location, land and the property’s appearance, Jill’s property should have greater capital growth than Jack’s because her property is closer to the city, is on a larger block of land and is a period-style home.
Let’s assume that Jack’s property increased at 1 per cent less than the long-term average, at 6 per cent a year.
Let’s also assume that Jill’s property increased at 1 per cent more than the long-term average, at 8 per cent a year. That would make Jack’s property now worth $480,000. He has made a reasonable capital gain, as it is worth much more than he paid for it.
However, Jill’s property is now worth $630,000. Her property is worth $ 150,000 more than Jack’s.
Why? Jill focused on capital growth whereas Jack focused on rental return.
We all need rent to pay the bills, but the biggest profit is in the capital growth. – Property lecturer and author Peter Koulizos runs thepropertyprofessor.com.au
BURNING QUESTION: Investors can gain more from capital growth than rental return.