Residential Property: Buying Existing vs Building New vs Renovate

In the property investing business, people are often in dilemma of whether they should build a new house, buy existing or renovate. Each has its own advantages and disadvantages. In this article we will explore a bit more what these advantages and disadvantages are and see which ones are most suitable for you.

General Check

Before we go further with each of the investment options, what we need to always make sure of is whether the property itself is the right property to buy. The long term goal is obviously capital growth, therefore, it needs a good balancing act between prices, growth, cashflow and how it can affect you as a person. We are a huge advocate for having a balanced life. There is no point of owning million-dollar property portfolio only to be living in a mortgage stress which you don’t have enough cashflow to even enjoy your life for a short trip or holiday!

So, as a general check, you need to make sure that your property has a good potential for capital growth. Things you can check:

• Population, whether it’s growing or decreasing
• Closeness with CBD
• Amenities such as closeness to bus stop and public transport, and if there are hospitals, schools, shopping malls, etc around the area
• Check for the type of properties people demand in the area. You may think that people always like a large 4×2 house, but that’s not always the case. A lot of older people prefer smaller house with easier maintenance.  So you need to know what your market is like, the age range, etc.
• Check for demands in the area. This can be determined via the “days on market”. A more high demand area has shorter “days on market” figure.
• Check if the price in the area is growing. You can look at a 10-year trend for example and see how the suburb is performing.
• Battleaxe lot and busy road street-front properties are often cheaper and demanded less, so make sure you’re not overpaying for them.

Buying Existing Property as an Investment

The great thing with buying an existing property is you don’t have to go through the process of building which, if you’re not careful, can be quiet painful and long. Also, the property is ready for you to utilise as an investment vehicle right from day 1.

The disadvantage is, a used property – depending on how old they are – often does not attract as high rent as the brand new counterpart, meaning, you might have to carry paying higher interest while holding onto it.

Before you buy, you also need to ensure that you are doing your research carefully in terms of the purchase price. You want to make sure you are not buying above market price.

With a built property, you will never know how much the seller spent on building the house. The last thing you want is to purchase a property above the market price just because the seller couldn’t go any lower due to the amount he/she might have spent on it. A good rule of thumb we follow is, we want to make sure the building price is not more than the land price.

For example, if the land costs $200,000 around the area, we want to make sure the building does not cost more than $200,000. As you’re aware, building depreciates and land appreciates. Thus, you don’t want to overspend on an asset that depreciates.

So, our strategy to minimise risk when buying a built property as an investment is as follows:

• Check purchase price ensure you’re not paying above market price. You can do this by checking similar sold properties around the area. There are a lot of websites such as realestate.com.au for you to obtain this data from.
• To calculate how much it’s worth we often calculate the land component from the selling price. For example, let’s say the house was built in 2008 (10 years old) and the land size is 450sqm. The seller was asking $450,000 for it.We can then use a ballpark depreciation calculator website to calculate how much the building has depreciated for. Let’s say it depreciates for $5000/year, meaning, over the course of 10 years the building has depreciated for $50,000. While we don’t know how much the original building cost was, as it is a depreciating asset, we can assume that $50,000 is what it costs after 10 years.We then subtract the asking price with $50,000 = $400,000. We can assume the land component is $400,000. Now, check the price of similar sized sold lands around the area. If a 450sqm around the area sells for around $400,000 then you are paying about right.

  What if the land component sells about $300,000 around the area? Then you either overpay, or you have to make this judgement: A standard 4×2 house often costs around $200,000 to build. Therefore, a new house built would have cost you $500,000. Is the 10-year-old house you’re purchasing worth $450,000, or should it worth less? Only you can answer the question. All we are demonstrating above is how to potentially calculate the right purchase price. You have to be very pessimistic with your numbers!

• Check rent prices around the area for similar house. This can help you in determining how much cashflow you have.
• Check for other outgoing costs such as strata fee, annual water and land tax, etc as this will be useful also to calculate the cashflow.
• Get a property inspection done to identify any potential breakdowns so you can calculate the costs and how they will affect the cashflow.
• Check with your accountant how much depreciation you can claim back in your tax return as this can assist greatly with your cashflow.

Building a New House as an Investment

Building a new house as an investment is what we prefer simply because you have total control on how much it will cost at the end. You also get a better tax benefit from the depreciation. However, building a new house also comes with its own risks! If you are not careful, the end cost can be astronomically high.

Things we often do when building are:

• Get a fixed final cost of the what’s going to be completed house inclusive of all pavings, landscaping, etc! When building a house it will involve two things: site works (eg. the cost to “clean and prep” the land so it’s ready for building) and the actual building of the house itself. As an investor, it is very-very important to know the end cost. As we always emphasize, investing is all about the numbers! You can get the builder to provide you with all these. You can even put a condition where if the cost is not fixed, you won’t go ahead. What often blows out is the site works. You simply don’t know what you may find in the land you purchase. It can be asbestos and other nasty things. However, it shouldn’t stop you from buying and building, you just need to know these costs so you can add them into your calculation.
• While it is not always possible to foresee the end cost, but you can at least get the builder to give you a very close idea of how much it will cost. These builders are very-very experienced thus will often know the ballpark cost of building a house in a particular area, and if the land is flat vs sloping, etc. Send them the address of the land you’re interested in and they can do a quick check with local council, etc for any potential restrictions or costs. Builders will be very-very happy to assist you as they also need your business!
• Don’t put emotion into it but wear a renter’s hat! You are not going to live in that investment house, therefore, there is no need of having wooden-venetian blinds that will cost you $2,000 each. At the same time, you also need to wear a renter’s hat meaning that you need to make sure the house is rent-able. Renters are not thinking the same as owner-occupier. So you need to steer away from using your emotion when building a house for investment. If you’re not careful, you’ll spend too much money on all these depreciating add-on.
• Build single-storey if possible. While double-storey house looks great and often rents higher, but you’ll be spending around $100,000k more in the building (which depreciates). And not just that, older people with weaker legs don’t prefer going up-and-down the stairs, thus, you’re potentially removing some portion of the renter market segment there.
• Don’t sign contract too quickly with any builder! Again, there are many builders and you should pick the one that can give you what you want. They always try to get you to sign too early, and if you’re not careful, it will be a messy undertaking if you need to get out of the contract!Get everything prepared upfront first eg. what house plan and at what price, what other offerings and add-on they can give such as evaporative aircon, stone benchtop, etc. Once you are happy then you can sign.
• Ensure room sizes are adequate especially the master suite! If anything, what often sets a house apart to win a renter’s heart is the master suite. We’ve had some house plans presented to us which room sizes are so small which we believe, when the renters look at them, will be turned away.
• Ensure your house receives a great deal of light. Think yourself as a renter, would you want to rent a house that feels dark and small or large and bright? Check them window sizes on the house plan presented to you, ensure they can give the house plenty of lights.
• Ensure the garage is heightened. By default it is 28 course which can fit an SUV, but when you try to open the boot, it may hit the ceiling. So it is best to go with a 31 course at the very least.

Renovation

Renovating is a great way of adding value to your house in a relatively short amount of time. While the theory is sound, there are some things you need to be aware of to ensure your risks are minimised.

• Beware of cashflow when renovating. Since you can’t rent the property out meaning you will have to carry the full burden of the interest rate.
• Forecast how much you will spend on it. Get quotes from various vendors for fixing the areas you want to fix.
• Check for potential crippling issues such as asbestos, damp, dodgy wiring, plumbing, etc as this can potentially increase your renovation cost exponentially.
• If you’re planning to sell, check average days on market of the area. You need to calculate the amount of the holding cost as this will eat up into your profit.
• Be mindful of the capital gain tax also as this will obviously reduce your profit.

Conclusion

In conclusion, whatever approach you undertake, has its own risks. You just need to minimise them as much as you can. The main thing is always to calculate the numbers. Treat this like a business!

Don’t just look at the capital gain alone. If you’re not careful, by the end, after all the headache and stress along the way, you only find out you’re making only a little bit of profit.