An investor (we'll call him Bill) bought a house 20 years ago for $200,000 with deposit of $25,000 and rented the house out.
Now the house is worth $400,000 and is debt free.
In the early years Bill had to top up the mortgage payments since interest, rates, insurance, repairs and maintenance exceeded the rental income. He had to have a job with a reasonable income to do so.
They had some tenant troubles so he got no rent for a few months, and he had to renovate the property twice, plus the other usual expenses.
The keys to successful property investment are a good income, not buying in a boom, long time frame, patience, good management, and the courage to venture forth and buy a rental in the first place.
Now Bill retires
Now the house is worth $400,000 and the rent is $400 per week, or $20,000 pa.
Expenses are rates and insurance of about $3,000 pa. Maintenance will vary but is probably on average at least $3,000 pa.
Net rental after expenses is $12,000 pa before tax.
That is only a 3% pa. gross return on an investment of $400,000.
Of course there should be capital gain too, but that is not always there, and anyway it cannot be spent or used as income till he sells the property.
A game changer
For 20 to 30 years Bill had been an accumulator whilst he had an income from his job. Now he is retired and his wages have stopped.
Bill and his wife receive a about $26,000 pa government super but they want an income of $50,000 pa.
The rent of about $12,000 pa. gross seems pretty paltry, considering the property is worth $400,000.
Furthermore they would quite like to upgrade the car and buy a caravan, and need $40,000 but they cannot take a lump sum from the property without selling it.
The right mix
Since cash flow from their investments has suddenly become their number one priority, and now access to some cash is also a priority, just having rental property alone in retirement is not ideal.
The right combination will nearly always include a substantial portion of investments in bonds and shares, as they can fulfil two purposes;
- Provide income
- Provide access to ready cash
The return on their rental property is 3% rental income and say 3% to 5% pa capital gain, a total of 6% to 8% pa.
A balanced portfolio of bonds and shares will probably provide a similar return over time, but with the added advantages of liquidity (access to cash) and of course diversification.
Property investment can be pretty rewarding, but it takes time.
Once you move into retirement and require investment income, it may not be quite so good.
As always use common sense, and if you are unsure, do half and half.
This article was supplied by Alan Clarke who is the author of a book entitled "Retire Richer" which is a practical guide for everyone age 25 to 85. Alan also writes a regular blog on www.investandretire.co.nz
Alan is an independent authorised financial adviser (AFA) and his disclosure statement is available on request and free of charge.