Think the falling property markets in capital cities mean it’s time to get out of the property game? Think again. With the right strategies, developers and investors can potentially generate big returns, writes Dominique Grubisa.
It seems everywhere you turn these days there are dire predictions about the future of Australia’s property markets. In October, AMP Capital economist Shane Oliver tweaked his forecasts for the Sydney and Melbourne markets, predicting 20% falls in the two capital cities. We’ve heard tales of how some suburbs have already plunged 20%, the big banks are forecasting ongoing falls, and panels of experts are all predicting no light on the horizon for the next two years.
There’s no doubt that many of Australia’s property markets are now softening and that conditions are radically different in the east coast capitals to, say, a year ago. But if you’re a property developer or investor, it would be a mistake to throw your hands up, walk away, and wait for the market to head north again.
As the esteemed American investor Warren Buffet so eloquently puts it, smart investors are “fearful when others are greedy and greedy when others are fearful”. With the right strategies, property speculators can survive and thrive the current market, but how? Here are six smart strategies to get you started.
Joint ventures with property owners
One of the big challenges facing developers and investors is the drying up of credit. Under instructions from APRA, banks have previously capped investor loans and are now significantly reeling in the number of interest-only loans they issue. Put simply, it’s harder to get money to invest. If you’re a developer, one solution may be to consider forming a joint venture with the vendor of the property you’d like to develop. Essentially, you enter into a partnership where they supply the property and you supply expertise and potentially meet the construction costs. In return, they share the profits you reap. This significantly lowers your need for cash upfront. With vendors now achieving significantly lower sale prices and looking for ways to add value, a falling market is
Rent to own (lease agreement)
While not so common in Australia just yet, this approach is used in the US and elsewhere in the world. A vendor who is having trouble selling a property enters into an agreement with a buyer who might be struggling to get a loan. The vendor agrees to lease the property to the buyer over a period of, say, three years, with the buyer given the option to buy the property at the end of the period. The lease payments count towards the final price paid. Property investors can make a profit by acting as intermediaries, connecting potential vendors with potential buyers. Again, with property prices on the wane, more vendors will be keen to explore this kind of agreement.
Second mortgage carry back
This is another useful tactic for situations where you may not be able to borrow enough money to carry out the development you have in mind. Essentially the vendor steps in and lends you the shortfall. So for example, if you want a property worth $1 million and the banks will only agree to lend you $700,000. You reach an agreement where the vendor signs a second mortgage on the property for the remaining $300,000. You now have the money needed for the project to proceed and the vendor has $700,000 plus regular income provided by the interest payments on the $300,000. This works particularly well when buying from an empty nester who is looking to downsize to a smaller home.
Overage agreement
An overage agreement is essentially where a vendor receives a bonus if your planned development proves to be as profitable as planned. They might agree to sell you a property at below its market value (e.g. $900,000 instead of $1 million) with a legal proviso in the contract that if you achieve a certain profit they receive an extra payment (perhaps $200,000). This reduces your upfront investment and means the vendor takes on additional risk (and potential profit).
Option agreements
Acquiring a property before you know whether you will obtain a DA (development approval) and be able to develop it profitably is a risky business. An option agreement allows you to effectively take a property you are interested in off the market and then buy it at a time that suits you. You enter into an agreement where the vendor receives a small sum of money (typically 1% of the agreed purchase price) and agrees to sell to you at the end of one or two years if you choose to take up the option
If you are paying off a home mortgage and have property investments, there are ATO-approved tax solutions that can reduce the interest rate you pay on your home loan by multiple whole percentage points. Essentially, these solutions allow people who own a home and one or more investment properties to restructure the interest rates in a more tax effective way. So, rather than paying, say, 5.6% on your home mortgage, you might pay 2%. This can potentially improve your overall economic position, giving you greater scope to invest in the market.
So, don’t write off the property market. Instead of seeing the downside, look for the upside and potential opportunities.
For more info, visit www.dginstitute.com.au
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