Welcome to Finance and Fury, the Say What Wednesday edition.

This week the Question is from Emma.

“Hi Louis – Would like to get your opinion on if it is a good time to buy a property to live in or if it is better to continue renting? We have saved up for enough of a deposit to buy a property for around $600,000 and have been planning to buy for a while. But do you think that property prices are set to decline? Love to hear your thoughts.”

 

Great question – one I have been battling with personally for the past 18 months or so –

in this episode – we will be looking at renting versus buying – Pros and cons to each – to what degree Depends on a number of factors –

  1. Costs of owning the property – versus renting
    1. Ongoing costs – BC, rates, etc.
    2. Mortgage repayments – Size of the loan and Interest rates
  2. Price of property – obviously the higher the price the more it will cost in loan repayment – as well as more deposit that needs to be put down
  3. In looking at these factors – also need to consider the Opportunity cost – what is the best next use of the funds – relevant to the deposit amount and the ongoing cashflow that either owning a property or renting use
  4. But also – lifestyle goals and if you actually would prefer to own your own home versus renting
  5. So we will go through these in details

First – looking at the current state of the property market –

  1. It has been hot – the prices are up in a lot of regions – especially properties that have some land
    1. Large demand in a lot of areas – lower than average supply –
    2. Creates a more competitive environment for property
    3. So for those looking to get into the property market for the first time – makes it hard
    4. Another reason – interest rates are down – so prices go up
  2. Demographic trends – apartments in city centres may be on the down
    1. People are flocking out of cities – harder to get locked down
  3. So getting into the market is at a high water mark – depending on the type of property
    1. Brings another point in – will prices go down? Hard to say – originally they would have – but there have been plenty of government run initiatives to help boost prices –
    2. In addition – the affordability of the loans has been helped with bank holidays and interest rates going down –
      1. For anyone who bought a property before this helps –
      2. The bank holidays are coming due – have been staggered out so there may not be a major impact on prices
    3. Prices may go down in the short term – but if you find the right property – and plan to live in it for years to come – may not matter as much – still don’t want to overpay –

 

State of the rental market –

  1. There has been a shock to the rental housing market – there has been a reducing demand for rental properties at the same time as supply has increased
    1. People moving out of apartments
    2. There has also been an economic impact on the renters themselves – based around the RBA stats – Job losses have been much more pronounced for younger workers, who are more likely to rent homes
    3. Due to border closures – which have reduced international arrivals – The number of vacant rental properties has increased as new dwellings have been completed and some landlords have offered short-term rentals on the long-term market, particularly in inner Sydney and Melbourne. Government policies have supported renters and landlords. Rents have declined, partly because of discounts on existing rental agreements and it is likely that rent growth in many areas will remain subdued over coming years.
    4. But longer term – The RBA see net overseas migration is expected to slow considerably, further reducing demand for housing over the coming year. Treasury forecasts that Australia’s population will be 1.5% lower by June 2021 compared with pre-COVID-19 projections, equivalent to around 400,000 fewer residents
      1. A decline in population growth of this magnitude would result in a decline in rents of around 3 per cent nationally over the next few years, compared to pre-COVID-19 expectations, based on a model that uses historical experience 
    5. So there is an expected reduction in rents – so for these continuing to rent for a while there may be a benefit for rents being lower
      1. However – the RBA projections around this show that the number of apartment completions is expected to lower – is on a down trend in most major cities – so over time the market will equalise to reduce the oversupply – and rents may once again have an upwards trend

Looking at the numbers –

  1. The numbers for renting is pretty simple – what is your weekly rent – some other expenses – like water (depending on the agreement) and electricity –
    1. But the weekly rent is the major cost of renting –
    2. Scenario – if someone is renting for $500 p.w. – what is this the equivalent to in a mortgage?
      1. Depends on the interest rate – but assuming 2.8% – A mortgage the size of $528k – with a 30 year term you would be making PI repayments of $500
      2. Assuming there is a 20% deposit – means that the property value would be around $660k (deposit of $132k)
    3. Bit of a rule of thumb when looking at property to consider what the rent should be – especially from the investment side of things – if you can get a rent of $100 p.w. per $100k on the property value – consider a good rent – rental yield of 5.2% – but this has become harder with prices increasing at a greater rate than what rents have been able to increase by
      1. Rental increases more correlated to wage growth than credit growth
      2. But in this scenario – the gross rental yield is closer to 4% – which is pretty much in line with a lot of the market at the moment
    4. So a PI repayment of $500 p.w. may be very similar to what the rent for a $660k place would cost – obviously there are going to be differences – between apartments and houses –
    5. But the difference here is that there are opportunities costs in both scenarios – renting is considered dead money – but so is the interest component of the PI repayment –
      1. In this scenario – $284 of the $500 repayment is going to be interest – this changes up the comparison quite a bit – as just under $216 is going back to the principal repayment of the loan
      2. These principal repayments can be looked at like forced savings – come back to this in a minute
    6. But with owning a property does come additional expenses – when Comparing renting to the cost of owning a property it can be broken down into two factors – home with land versus an apartment – have similar costs – electricity, rates – but may be lower in some cases for apartments
      1. Home – has some ongoing costs – maintenance – looking after a yard, or pool, etc.
      2. Apartments – has different costs – also apply to some townhouses – like BC
      3. Total costs can vary – but with rates alone – these may be $2k, then ongoing costs may be $6k on top – another rule of thumb is that the costs to a property in ongoing expenses – outside of the bills for water, electricity, etc range around 0.5% to 1% of the property value each year – so maybe around $3.3k to $6.6k for a $660k property
      4. Total ongoing costs may be around $8k
    7. Comparing rental costs to the ownership of this property – varies depending on your situation – so you would need to work this out based around the equivalent of what you are looking to buy versus where you are renting – but looking at the previous scenario –
      1. Renting – in the rental cost might set you back $26,000 – with water (maybe) and electricity and other bills like internet on top – but these expenses are paid regardless in a lot of cases
      2. Owning a property – Mortgage repayments of $26,000 on a $528k mortgage – as well as ongoing costs of maybe around $8k p.a.
        1. Total of around – $34k versus $26k – but if the property costs more or the rent is less – numbers will be different
      3. But in this scenario – The overall costs will be higher for owning a property in a lot of cases – even though rates are low – if rates go higher then owning a property will definitely be lower
        1. However – the ongoing costs when taking out principal repayments are lower – interest and ongoing expenses would be $22,784 – so if you consider principal repayments as forced savings then renting is actually more expensive

Advantages of renting really comes down to simplicity as well as an ease on the overall cashflow – when considering principal repayments

Advantages of owning a property –

  1. Getting capital growth – even though if it isn’t an investment – can be used as a form of equity builder
    1. But it does have the potential to increase wealth – not investment wealth – but could be used as a piggy bank to buy another property
      1. One of the major reasons Australians are some of the wealthiest per capita is due to PPR properties being included
    2. PI Repayments – P components are more or less forced savings – whilst you cant access it directly – have to get an additional loan
      1. Capital value example – If you buy a property and have the loan of $528k – making the minimum repayments of $500 p.w. with the interest of 2.8% – then in 10 years time the mortgage would be $397k – paid off $131k
        1. If the property grows at 3.5% p.a. – initial price of $660k – then would be worth $930k – so the net equity in the property would be $533k
      2. Can use it to do debt recycling to build additional wealth – refinance for a second loan for investment purposes –
    3. Beyond the financial – lifestyle factors
      1. This has been a major one for myself – when I was younger than I am now and single – renting was easy – busy with work and other extra-curricular activities – didn’t want to have to deal with a property
      2. But with a wife and first child on the way – re-entered the property market – for land and lifestyle

In summary – sometimes the right answer isnt purely financial – if you find the right house and it fits your personal lifestyle goals – then it can be the correct decision to buy

  1. But it is important to consider if the options are practical – and are affordable –
  2. Not just now but long term – take into account changes in your own personal situation – like starting a family with maternity leave
  3. Also – is the loan affordable at higher interest rates – probably not a concern for a number of years – can be a good time to pay off a mortgage
  4. So it is important to do the numbers – if the costs and repayments are in line with what you can afford – as well as having funds left over for flexibility – and the lifestyle factors are important – then it is the right time to buy a property to live in

Thank you for listening to today’s episode. If you want to get in contact you can do so here: http://financeandfury.com.au/contact/

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