Investing in apartments

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Gone are the days when a three-bedroom house and a big backyard represented the ultimate choice in property investment. It’s all about delivering what tenants want, and these days they want convenience and comfort – and they’re prepared to sacrifice space to get it.

 

There was a time when investing in apartments was considered to be a far inferior choice to buying a home or duplex. The value of real estate is in the land, the experts say, so you should plonk your investing dollars in houses where the land value appreciates for many years to come.

 

The problem with this strategy is that modern tenants don’t necessarily want to live in houses. Our lifestyles have evolved as we’ve become busier and our lives faster-paced, explains George c, director of Metropole Sydney, and what we desire in our homes has changed as a result.

 

“People lead busier lifestyles now, and they don’t want to spend all their downtime doing the lawns and looking after gardens,” Raptis says. “These days, they’re a lot more comfortable in smaller homes, provided that they are located close to the CBD, and their space is wired up for technology.”

 

In terms of the long-held belief that houses grow in value faster than apartments, Raptis says that rule doesn’t always apply. “Some people have this notion where they think that a house and land is a good concept as far as investment is concerned, because obviously the land appreciates, but the house doesn’t,” he says.

 

“But here’s the thing: if you go out into the suburbs and buy a house and land package, you might pay $400,000. Of that, $100,000 accounts for the land, and $300,000 is the cost of constructing the property. So the part of the asset that appreciates is only a small portion anyway,” Raptis explains.

 

“If you buy an apartment in a premium land-locked suburb, the land has a higher value. There might be a block of 10 apartments in Bronte, for instance, where the land beneath is worth millions of dollars. Your land-to-asset ratio is a lot higher, and that’s really what drives the price up.”

 

In other words, Raptis is saying that it might be better to own a small slice of a highly valuable piece of land, rather than a large slice of a low-value patch of dirt.

 

To add weight to his argument, Raptis confirms that units have recently outperformed houses as far as growth is concerned. “That’s not traditionally the norm – usually, it’s normal for house values to outperform units,” he clarifies.

 

“But I think apartments will continue to make good investments, because it all comes back to supply and demand.”

 

Raptis points to Australia’s changing demographic as the main driver of growth in apartment living. “Obviously, units are more affordable, and rising property prices mean that more people are looking for units as opposed to houses,” he says.

 

“But as well as that, there are more single and two-person households today than there’s even been, and they don’t want to live in a five-bedroom McMansion out in the suburbs. They want to be close to the CBD, close to work and entertainment.”

 

The Australian Bureau of Statistics (ABS) projects that the number of lone-person households will swell significantly in the next decade or two, up from 1.8m in 2001 to between 2.8m and 3.7m by 2026.

 

“The way that we live is becoming more cosmopolitan, with beaches, cafes and restaurants creeping higher on the priority list,” Raptis says. “There’s a whole new generation of people leaving home looking at apartment living, and basically, it’s not necessary for these types of people to own a house with land.”

 

Apartments and depreciation

Tyron Hyde, director of quantity surveying firm Washington Brown, says apartments often attract higher levels of depreciation than houses, particularly if they’re located in high-rise buildings.

 

There are two types of allowances investors can claim when it comes to property depreciation. The first is the building allowance, and this deduction relates to the structure of the building, including brickwork, concrete, windows and gyprock.

 

The building allowance is quite straightforward: essentially, any work that falls into this category must be depreciated at 2.5% per year. If your investment property has $100,000 allocated to the building allowance, for instance, you would be entitled to deduct $2,500 per year for 40 years.

 

The second allowance relates to the plant and equipment within a property, such as ovens, dishwashers, blinds and carpets. It also includes common property items like the lifts, ventilation fans in the basement, and some common fire service items. This is where investing in an apartment can really pay off.

 

According to Hyde, “the more plant and equipment included within your purchase, the higher the depreciation”. And because apartments generally include more plant and equipment items, they can therefore attract higher depreciation allowances.

 

“It comes down to what’s known in the trade as ‘services’,” he explains. “Some of the services required in apartment buildings are obvious, such as a lift (transport service). Other services are less obvious, such as fire sprinklers, stair pressurisation and intercoms, which are all depreciable under this category.”

 

The other reason apartments can attract a higher ratio of plant and equipment has to do with the amenities onsite, Hyde says. Some complexes have swimming pools, gyms, tennis courts and common rooms, and in most states across Australia – except for SA and NT –investment property owners are entitled to claim their portion of these services and amenities.

 

How much depreciation can you claim?

(These allowances all relate to a $400,000 apartment in a capital city. They are very approximate to allow for illustrative purposes only.)

 

Type of dwelling
Year 1
Year 2
Year 3
Year 4
Year 5
Total
House

 
$7,000
$5,000
$4,000
$3,500
$3,250
$150,000
Unit
<4 floors
$8,500
$7,000
$5,500
$4,750
$4,250
$175,000
Unit
4–8 floors
$10,000
$8,000
$7,000
$6,000
$5,000
$200,000
Unit
> 8 floors
$12,500
$10,000
$8,000
$7,000
$6,000
$225,000

 

 

Body corporate fees – a guide

When you buy an apartment, you’ll be required to contribute regular strata fees to the owners corporation. These contributions go towards repairs and maintenance of common areas, such as stairwells and gardens, and maintaining the overall complex.

 

The amount that you’ll pay can vary from as little as $15 per week, to more than $100 a week for fully featured high-rise apartments.

 

As a guide, you can expect to pay:

Amount (weekly)
Property type
$30
For an established 40+ year old property – also expect high capital expenses for building maintenance
$40–50
For a 20–40 year old property
$60–80
For a 10 year old property
$100–200
For a large, modern apartment

 

Source: Luke Woollard, principal, Pacific Lifestyle Property

 

 

What to look for when buying

When choosing a unit there are specific details that can help you refine your search and improve the desirability of your property.

  1. Bedrooms and floor space

The more bedrooms and the larger the floor space the better. If you’re looking for a two-bedroom unit, look at buying something above 80m2, and above 110m2 for a three-bedroom unit. More bedrooms mean that as an investor you can charge more rent, and your tenants can split the rent further to reduce their costs.

“The more bedrooms, the better it is in terms of affordability,” says Rich Harvey, managing director, propertybuyer.com.au. “Two-bedroom units are in high demand, but I always think the larger the unit the better because construction costs are going up.”

  1. Level

The position of the unit in the building is the next element you need to look at. If your unit is in a quiet suburb, your tenants or buyers will probably be young families or empty nesters. These types of tenants or buyers will be looking for an easily accessible but safe, smaller apartment block with a unit on the first two floors.

 

Renting families are likely to expect that the apartment has its own garage or allocated parking spot. They may also pay more for a home with a good view of the city, water or surrounding suburbs.

 

If you are looking to buy in an active inner city apartment block, you will most probably be renting your unit to young professionals. In the upper end markets these tenants will pay for good views, but in the general tenant market, any level of the building would suffice.

 

Peter Koulizos, author of Top Australian Suburbs, believes that no matter who your market is, the ground floor of a unit complex is by far the best decision for an investor.

“Some people would argue with me but I would say ground floor is best from a landlord’s perspective because you don’t eliminate any of your market. If you go above ground floor you eliminate the older generation who don’t want to go up the stairs, or people with young kids,” he says.

  1. Orientation

Property experts agree that an apartment facing towards the north and away from the road would make a highly desirable unit in the right area. This type of unit would receive good air flow and minimal noise from traffic.

 

A unit which is newer or has been renovated to incorporate modern open plan living will also be attractive to tenants and owner-occupiers. Look for an apartment which provides plenty of natural light and areas which can be used to entertain and relax.

  1. Details

Investors should be looking to buy established dwellings with character details as these properties will return higher capital growth due to their individual designs, says Koulizos.

“I am talking about anything up until art deco or WWII – before then is classified as ‘character’. They were built with higher ceilings and more solidly, and they look nicer than the new high-rise apartments,” Koulizos explains.

 

As an owner-occupier, you may be better off buying a newer apartment as it is less likely to have major problems and there is generally less maintenance involved.

 

The strata report

Never underestimate the value of a strata report when buying a unit. It may cost you around $200 but it will reveal any history of problems with the building (that won’t be included in a professional building and pest inspection or evident through a visual inspection).

 

It is wise to pay a solicitor or a conveyancer to interpret the report for you, because there can be some hidden areas which can add a huge amount of cost.

 

The report will detail all financial and historical details about the unit block, including:

  • Past and proposed expenditures
  • Any outstanding repair work or bills
  • Strata or special levies (sinking fund for larger repair work or administration fund for day-to-day work)
  • The value of the sinking fund
  • Insurance (and its premium)
  • Repairs that have been undertaken
  • Complaints made by owners
  • Any history of disharmony between owners
  • Existing by-laws (rules and regulations which owners and tenants must abide by) – this might include renovations or pets

Dale Kennedy, managing director and building consultant at Inspect It, says these hidden areas can add a huge financial liability to your purchase. “There could be a defect in the building that is not related to your unit but which you have a shared responsibility financially to it. There may not be enough money in the sinking fund to cover these special items of repair, like the discovery of concrete cancer, waterproofing issues or upgrades for fire regulations,” he says.

 

 

Inspecting your unit

If you’re considering buying a unit you should be prepared to view between 10 and 50 units before settling on your shortlist.

 

Weekend open inspections are a great time to poke around the apartment and carry out a few DIY preliminary assessments of the building. Although it is essential to get a professional building and pest inspection carried out, you can do your own investigatory work to help cull the danger units from those with future potential.

 

Also take the opportunity to talk to the real estate agent or the vendor if they are present. The following questions can give you great insight into the property:

  • What is the history of the unit?
  • Did the current owners do any building work?
  • Who was the builder and was it approved by council?
  • How long have they lived in the unit?
  • Why are they selling?

If you think you have discovered a genuine fault in the unit or building you are considering purchasing, it is essential you call in the experts to take a look. For between $500 and $600 you can get a professional building and pest inspection that could save you tens of thousands of dollars on future repairs.

 

If a fault is identified but you are determined to make a bid on the apartment, your building and pest inspection can come in handy when negotiations get serious.

 

Buying process

The legalities of buying a house and a unit should be the same for each purchase. However, there are some key points of difference to keep in mind when purchasing a unit (over a house).

  1. Get a copy of the strata report and get a strata search – the person who does the strata search will explain to you in plain English what has occurred in the strata report
  2. Ask the professional doing the search whether the building is adequately insured (and if there is proof of how much the insurance covers). Go to www.strataman.com.au/insure.html for an example
  3. Ask yourself whether you can afford the quarterly levies
  4. Know how much you may have left to pay on the quarterly council, water or electricity rates
  5. Make sure you have done your due diligence before bidding at auction – this includes your strata search
  6. Keep in mind the individual unit, common areas and entire building when bidding at the auction – keep your emotions out of the purchase if you’re an investor

Buying a unit checklist

1.    Affordability – the unit should be below or on par with the median price of the suburb

2.    Location – buy in an undervalued suburb with strong capital growth prospects. Aim for capital growth above 8% pa

3.    Rental yield – if the yield is below 5%, you want the future capital growth to far outweigh the negative cash flow

4.    Proximity – the unit should be within walking distance of good quality schools, and within 1km of reasonable shopping facilities and good public transport facilities (road, rail and buses)

5.    Entertainment/lifestyle – the unit should be located within 2–3km of entertainment, dining, cafes and sporting facilities

6.    Owner-occupied stock – look for a block of units that has more than 70% owner-occupiers. If it does not, strong competition from other investor stock will reduce rental yields

7.    Street appeal – choose a unit in a quiet street with attractive surrounding homes and landscapes

8.    Layout – the more bedrooms, the better, and ensure the unit has a modern or renovated kitchen

9.    Storage and parking – ensure the unit has storage space and a garage

10.  Aspect/light – look for a property with good natural light and a north facing aspect

Source: Rich Harvey, managing director, propertybuyer.com.au

 

Top 5 unit defects (DIY inspect)

 

Seek professional evaluations if you spot the following in your open inspection:

1.    Cancer in the concrete floors – indication of ‘spalling’ (concrete cancer). Order a strata report (around $270–320).

          Look for: bumps on concrete flooring

          Cost:  from $5,000 per unit repair

 

2.    External concrete balconies – steel re-enforcements can sometimes be placed too close to the surface of the concrete and the ambient moisture in the air can cause the steel to rust and produce ‘spalling’. This may cause damage to the structural strength of the balcony.

            Look for: rust stains on external balconies

            Cost:from $8,000 to rectify

 

3.    Structural damage – water entry into the basement garage may cause structural damage to the building caused by lack of water proofing.

          Look for: water leaking into the basement garage area from surrounding soil

          Cost: difficult to rectify due to the extensive nature of the necessary repairs

 

4.    Internal alterations to the building – these alterations can affect the structural integrity of the building and should be approved by a structural engineer and the strata managers of the building.

            Look for: any signs that internal walls have been removed

            Cost: no cost, see strata report for approved removal

 

5.    Cracking to brickwork that is horizontal or diagonally up the wall – this is never a good sign as it can indicate structural movement due to inadequate footings. Refer this defect to a qualified building inspector. TIP: If you can put your finger the crack, walk away! It is far too significant!

          Look for: cracking (small and large).

          Cost: price can range depending on the severity of the structural movement

 

Source: Dale Kennedy, managing director and building consultant, Inspect It

 

Disclaimer: The ‘top five’ is a recommendation only and does not cover all the areas that you should evaluate when purchasing a property. In all situations we recommend you get a professional pest and building inspection report completed and seek further advice where needed to assess the home on your behalf. This is a guide only and should be treated as such. Prices will vary according to the company and the services included.

 

 

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