Why Property

1. Why property?

What you’ll learn in this step: Sensible investments in property – residential or non-residential – have many benefits, including capital growth.

Property has been a popular route to wealth for many Australians for many years. Buying their own home is often the first ‘investment’ many people make; purchasing another property may well be the second – even before shares and other assets.

But your first investment in property needn’t be your home. Indeed, buying a small apartment to rent out can be a good way to accumulate funds so you can eventually buy your own place, in an area where you want to live.

Increasing numbers of young Australians are choosing this route, buying in one suburb while renting in a more desirable and expensive area – or living at home for a while longer.

Still others are diversifying into non-residential property via property trusts and syndicates.

Sensible investments in property have many attractions. Property can be less volatile than shares – though not always – and it tends to be regarded as a safe haven when other assets are declining in value.

It has the potential to generate capital growth (an increase in the value of your asset) as well as rental income. Then there’s the tax advantages associated with negative gearing (more about that later).

However, as with any investment, there are no guarantees. Property prices go down, as well as up, and sometimes tenants are hard to find – especially good ones who pay on time and take care of your investment.

Investors need to have a keen awareness of the interest rate environment – how higher rates might affect their expected net return and the market for their property should they wish to sell. They also need to make sure the return or ‘yield’ from their property stands up against the return they might have achieved had they invested in shares, for example.

2. The potential return

What you’ll learn in this step: Returns come from capital growth and from rental income.

Capital growth

Capital growth is the increase in the value of your property over time and is one of the main reasons people invest in residential real estate.

Historically, Australian residential property has experienced strong capital growth – the long-term average annual growth rate for property is about 9 per cent – but periods of stagnation and even decline are also part of the picture. The nature of the property cycle means real estate should probably be thought of as an investment with a 10-year horizon.

Take the experience in recent years. In 2003, Australian house prices were rising at a rate of about 20 per cent, but since then prices have come to a virtual standstill in many areas and have gone backwards fast in some of the hot spots.

Your best chance of achieving capital growth is buying the right property, in the right place, and – most importantly – at the right price.

Research current house prices. Keep an eye on sale and auction results in the papers, or buy reports on specific suburbs from researchers like Australian Property Monitors’ Home Price Guide. Talk to real estate agents and observe at auctions.

Rental income and yield

You should apply the same standards to a property investment as to any other investment, ‘benchmarking’ the potential return against what you might achieve elsewhere.

An important measure is a property’s yield. That can be calculated by dividing the annual rent it generates by the price you paid for the property and multiplying that by 100 to get a percentage figure.

Let’s say you bought a unit for $400,000 and rented it out for $350 a week (or $18,200 a year). That’s a yield of 4.5 per cent. That might compare with a dividend yield of, say, 7 per cent had you invested in a particular company’s stock.

But let’s say you bought a worker’s cottage in a mining town where prices are low but the rental income as good as in the big city. Pay $350,000 and rent the property out for $600 a week and you’ll achieve a yield of 9 per cent.

Remember, yields fall as house prices rise (if rent doesn’t rise commensurably).

Keep an eye on vacancy rates – the proportion of properties sitting empty out of the total rental supply.

If landlords have to fight for tenants, they won’t have much ‘pricing power’ with regard to rent. However, if the rental market is tight, and tenants are competing for properties, they’ll be prepared to pay a bit more to get in the door.

A vacancy rate above 3 per cent is a warning sign, and it may pay to be wary of areas where there’s going to be a big increase in the supply of apartments.

In any case, build into your calculations of your likely return periods when you’ll be in between tenants.

3. Tax

What you’ll learn in this step: Many people invest in property with the aim of taking advantage of Australia’s negative gearing rules.

Negative gearing

Gearing basically means borrowing to invest. Negative gearing is when the costs of investing are higher than the return you achieve. With an investment property, that’s when the annual net rental income is less than the loan interest plus the deductible expenses associated with maintaining the property (such as property management fees and repairs).

When you’re negatively geared you can deduct the costs of owning your investment property from your overall income – reducing your tax bill. High-income earners benefit the most, because they’re in the top tax bracket.

In addition, while you record a loss on the income from the property, in theory capital gains in the value of your property should make the investment worthwhile.

But don’t over-commit to property just to get a tax deduction. Those tax benefits generally don’t come until the end of the financial year and you have to make your mortgage payments in the meantime.

That said, you can apply to have less tax deducted from your pay to take into account the impact on your overall income of expected losses on an investment property.

Say you earn $45,000 a year, gross, in your day job but you can reliably estimate that you’ll make a $15,000 loss on an investment property. You can apply to have your tax payments calculated on an income of $30,000 rather than $45,000 – giving you more cash in hand now, rather than a refund at the end of the year. Get your sums wrong, though, and you’ll owe the tax man money at the end of the year.

See www.ato.gov.aufor information about pay-as-you-go (PAYG) withholding payments.

Remember, too, that a capital gain – which will be taxed – is never assured. What’s more, the benefits of negative gearing are smaller when interest rates and inflation are low and can be offset by charges such as the land tax levied in NSW (see www.osr.nsw.gov.au).


The owners of investment properties can also claim depreciation of items such as stoves, refrigerators and furniture. That involves writing off the cost of the item over a set number of years – the ‘effective life’ of the asset.

The ATO sets out what it considers to be appropriate periods. The cost of a cooktop, for instance, is generally written off over 12 years – you claim one-twelfth of its cost as an expense each year.

There are two different types of depreciation – an allowance for assets such as the cooktop, and an allowance for capital works, such as the cost of construction.

It’s a good idea to talk to a quantity surveyor or other depreciation specialist right from the start, so you make full and correct use of the available depreciation allowances.

The higher the depreciation bill, the higher the amount to offset against income when you’re negative gearing.

Capital gains tax

Capital gains tax (CGT) is the tax charged on capital gains that arise from the disposal of an asset – including investment property, but not your place of residence – acquired after September 19, 1985.

You’re liable for CGT if your capital gains exceed your capital losses in an income year. (If you’re smart, you’ll time asset disposals so that if you really must take a capital loss it’ll be at a time when it can offset a capital gain).

The capital gain on an investment property acquired on or after October 1, 1999, and held for at least a year, is taxed at only half the rate otherwise. This means a maximum rate of 24.25 per cent if you’re in the highest tax bracket.

The capital gain is the profit you’ve made over and above the ‘cost base’ – the purchase price plus capital expenses such as subsequent renovations. Make sure you keep good records of these sorts of expenses.

Capital gains tax is a complex area, so it pays to get specific advice about how it applies in your individual circumstances.

Making your investment pay

If you hold your investment property for long enough, hopefully you’ll reach the stage where losses start turning into gains. The rent you’re charging should have risen over time, and you’ll be steadily whittling away at the mortgage.

Once your rental income exceeds your mortgage repayments you’ll no longer be negatively geared, however. And no negative gearing means no tax advantages – but that doesn’t mean you should rush to sell.

Yes, you’ll have to pay more tax because the income you’re making is more than your losses – but the fact is you’re making money, which is why you invested in the first place.

The temptation may be to take your profits and plough them into another property – and that can be a perfectly reasonable strategy – but don’t lose track of the costs involved in selling. Stamp duty alone is a big disincentive.

4. Selecting a property

What you’ll learn in this step: Good buys aren’t necessarily close to home.

Having worked through the financial considerations, and bearing in mind that you’re not actually going to live in the property, you should be able to make a fairly rational decision about where and what to buy.

You’ll want to benefit from as much capital growth as possible, so the first rule is to buy in a growth area.

That might be a suburb located within 10 kilometres of the city centre, or a suburb with special attractions such as a beach or trendy café strip. Proximity to a ‘hot’ suburb could mean your suburb will be next to rise in value.

It could even be a regional town supporting a booming industry.

Narrow your search down even further by looking at a property’s access to transport, shops and leisure facilities and its appeal to your market – whether they’re young professionals or blue-collar workers.

Another decision is what to buy – house or unit? old or new? Units usually are a much better proposition for landlords. They’re easier to rent out and easier to maintain: there’s no lawn to mow, and when things go wrong in the building the expense is shared with the other owners.

Properties with a view are always more desirable than those without, and tenants like facilities such as balconies, internal laundries, undercover parking and security.

These sorts of facilities may not be available in an older property, which may have to compete with a new apartment building down the road with all the mod-cons.

If the property you’re interested in is already rented, ask about its history of tenancy. Have there been periods when it hasn’t been occupied? If so, find out why. You don’t want to inherit those problems.

The bottom line: balance what you can afford to buy with the rent you’ll be able to charge. There’s no point buying a waterfront property if you can’t find tenants happy to pay the sort of rent you’ll need to make the exercise worthwhile.


Once you’ve found the right property, the actual mechanics of buying it will be the same as if you were buying a home to live in. See our guide to buying a home for what happens next, and for pointers on how much to borrower, where to borrow, and what types of loans are available.

There are few differences between borrowing for a home and borrowing for an investment property.

Some lenders charge a higher interest rate for investment properties because they say their risk is higher, but shop around and you should be able to get a rate that’s the same as for an owner-occupied property.

One option of particular interest to investors is the interest-only loan, where you don’t pay off any of the principal, just the interest.

Such a loan can make it easier to estimate the true returns from a property. A tax advantage is that interest payments for investment properties are tax deductible, while payments off the principal are not.

One strategy that is being touted is to take out an interest-only loan and divert the money you would have paid off the principal to your tax-efficient superannuation fund. Upon retirement, you use your super pays off the loan. Remember, though, that this money is locked up until at least age 55 and you won’t have access to it if you strike a cash-flow problem.

5. Managing your property

What you’ll learn in this step: It takes time, effort and money to look after a property.

It’s possible to manage a rental property yourself, and in so doing save a management fee that’s usually around 5 per cent of the rent. But it can be time-consuming and it’s hard to remain emotionally detached when you have tenants ringing up complaining about every little thing, or you personally have to deal with damage to your property.

The other option is to use the services of a professional property manager. They’ll have up-to-date information on what’s happening in the market and what tenants are prepared to pay. They’ll have prospective tenants on their books, and experience vetting tenants. Because they manage many properties, they’ll have access to reputable trades people at cheaper service fees.

And their fees are tax deductible.


Managing your financial risk as a property investor also involves insuring yourself against a myriad of potential hazards.

It’s up to your tenants to take out home contents insurance to cover their possessions, but you’ll need building insurance. Then there’s ‘landlord’ insurance, covering risks such as malicious or accidental damage to your property by a tenant, any legal liability should a tenant injure themselves, and lost rental income should tenants move out without paying.


Be prudent about renovations. The colour palette of the kitchen in your investment unit may offend your sensibilities, but it only makes financial sense to replace it if a better kitchen will stop the unit sitting vacant or lift the rent you can charge.

Make a ‘cost-benefit analysis’ of your renovations. If the kitchen is going to cost $10,000, and you’ll have to borrow the money and pay interest, but it will only add $10 a week to the rent, it’s probably better left alone.

Don’t ‘overcapitalise’ by spending too much on design, finishes and fittings.