Planning to retire in a comfortable financial position fuelled by your property assets and investments?
If you answered yes, you’re not alone. Millions of Australian landlords have turned to property investing for this very reason.
But as many of us have learned the hard way, buying a rental property isn’t always a smooth road towards real estate riches. There are many aspects to consider, and the most important one is arguably strategy.
This is the step that many people fail to consider upfront, but it’s one of the most important, explains Peter Sarmas, director, Street Advocate.
“Ideally, you want to put together a plan as to how you see yourself retiring,” he says.
“Is it a stream of income you require, or the lump sum sale of the investment property that you hope will provide you with an income? Do you plan to sell the properties at the end, or transfer them into your SMSF and rely on the income, or sell and pay down debt?”
These are some of the questions you need to ask yourself when deciding exactly what you hope to achieve out of property investing.
Once you feel you’re ready to take the plunge and add your first (or next) investment property to your portfolio, then it’s time to look at buying the right property assets that align with your strategy.
“Depending on how far you are away from retiring, and your appetite for risk, this will determine what type of property you purchase and where”
For instance, are you planning to buy an older property that you are going to renovate to add value?
Have you decided to invest in a brand-new property so you can leverage the depreciation deductions in your tax return?
Or is a development or subdivision project on the cards?
“Depending on how far you are away from retiring and your appetite for risk, this will determine what type of property you purchase and where,” Sarmas says.
“Start with the end in mind and consider the number of years from your retirement date in order to strategically plan. The key to investing, like with any asset, is to start as early as you can and then invest consistently – without sacrificing your lifestyle too much!”
Whatever your strategy, it’s important that you adopt a big-picture view, which essentially means you invest beyond your own backyard.
“The best opportunity for growth may not be in your own city,” says Luke Graham, property investment manager at Omniwealth Property.
He adds that “you need to understand the fundamentals of property investment so you can be prepared for the journey ahead, remembering that property is typically a long-term commitment to wealth creation”.
Planning for retirement in an uncertain economy
The challenge in planning to invest in property for your future retirement is that unfortunately life “throws up what I call ‘curve balls’,” Sarmas says.
“You get married, you have children, you start a business or change your work and therefore salary. We also need to consider the other unknowns, such as the economy and market cycles, which determine interest rates moving forward. Looking to the future, I see less stability in the workforce, with more people underemployed as work becomes globalised.”
Owing to such uncertainty, and the fact that you may be planning for your retirement in the distant future (at least 20 years away), investors should aim to be flexible and open in their approach to real estate.
“I don’t believe any one strategy or plan is the solution to all answers; what is most important is that if you are buying property
to invest in, then it must be for the long term,” Sarmas says.
“Data from CoreLogic shows that it takes 15 years for a property to double in value. The question is, how do you best use this capital gain to increase your wealth?”
Here are some of options you may consider at the end of your investment period.
1. Become mortgage-free
“You may decide to pay off your own home first and start investing in property,” Sarmas says. This is the go-to strategy for those who have a very low tolerance for risk.
When you retire, you may decide to sell your own home – which is not subject to capital gainstax – and move into smaller digs. “You can then use your
full tax-free profits to pay off much of the remaining debt on your investment properties and then live off the income stream provided by the investment properties,” Sarmas says.
3. Sell and celebrate
“The more standard approach in retirement is to sell one or two investment properties to clear your remaining debts, and/or use this lump sum as a source of income,” he explains. “The only issue with this strategy is that capital gains tax is payable, so some tax planning and advice is important.”
USING A ‘BUY AND HOLD’ STRATEGY TO CREATE RETIREMENT WEALTH
There is one golden rule for property investing and creating wealth through real estate in a non-speculative way, Sarmas advises, and this is to use a buy-and-hold strategy.
“The most conservative investors use this strategy to build equity over time, which they then use to build their investment property portfolio,” he says.
“At some point, however, when you decide to go down the path of buying multiple quality investment properties, you will hit a number of walls. The two most important which need consideration are serviceability and negative gearing.”
Serviceability of the loan
This is another way of describing how much money the bank will lend to you based on your salary income and your investment income, minus living expenses, mortgage repayments and any other costs.
“At some point, if you don’t have positive cash flow properties your serviceability will run out,” Sarmas warns.
“New laws aimed at reining in lending standards regulated by APRA have tightened up and are restricting serviceability. Banks have also stepped in and banned the purchase of certain properties in perceived ‘risky’ areas, such as mining towns and new apartments in areas like Southbank
A number of investors are sold on the idea of tax minimisation through property, but the most important point in all of this is that you must pay tax in order to be able to claim tax,” Sarmas explains.
“As obvious as that may sound, many people are caught. With time and age, income earned usually falls when moving from full-time work to part-time then no work at all. At this level, little or no tax is payable – which is great on the one hand but a disaster on the other if you’re relying on negative gearing for your investments to work financially.”
Put simply: previous running costs such as repairs, maintenance and body corporate fees, which were potentially claimable for an investment property, are no longer tax deductible if you have no tax payable.
“Add to this the possibility of the land value of each property you own increasing, giving you a land tax burden, and you have a situation that could become costly and burdensome at retirement, rather than assisting you in retirement.”
How can you overcome these challenges?
Designing a pathway to retirement through property investment “can be challenging, speaking from experience”, Sarmas says, “but that doesn’t mean it’s impossible”.
“In your initial planning, you really need to engage the right advisors who will review your circumstances and risk profile and who are prepared to buy into your vision,” he advises.
“Setting up the appropriate company structures, and having financial planning goals with the right tax and legal advice and insurance, is important. Each service should be independent of each other, but they should also be able to work in unison for your ultimate benefit.”