Thursday, 30 July 2015

Why did investment loan interest rates just rise?

Recently I wrote about how this was the golden age for mortgages, how the current rate environment couldn't last and how you should think about refinancing your home loan to save you thousands of dollars.  I thought interest rates would increase at some point but I certainly didn't predict it would happen this fast.

If you're an Australian investor you may (or may not) have noticed that the interest rates on your mortgage jumped significantly last week.  That's because most of the major banks (led by ANZ and CBA) increased their investor loan variable interest rates by 0.27%.

Unlike most rate rises and falls this was not driven by a change in the Reserve Bank's cash rate nor was it driven by external costs of funding.  It was caused by the financial regulator (APRA) deciding to slow down the growth in lending to investors which have been driving a bubble in Australia.

Who does the rate change affect?

Monday, 27 July 2015

Why I gave up my Investment Property and moved into it as my own home

A few years ago I asked the question: 'Should move into my investment property?'.  It didn't make the greatest financial sense and in fact it didn't grant me the lifestyle I was looking for as a young, single bachelor.

Fast forward 3 years and all that has changed.  I'm now married and my wife and I we made the decision to move into my investment property...it was the right thing for us to do at this time.

So what changed?


When my wife and I sat down to work out where we wanted to live when we got married we actually decided to keep the investment property as an investment and to move into another rental as we saved for our own place.

This is not what my wife wanted.  Unlike my outlook on life her every decision is not dictated or influenced by financial considerations.  She wanted to live in her own home with a garden.  She didn't mind where it was either.

I was far more picky.  I couldn't be more that 45 minutes from the city, I wanted it to be in a decent area, close to public transport and to amenities. Unfortunately most of the houses which combined decent land size and good areas were well out of our price range...hence the decision to rent.

One concession I did have to make was that we would be in our own home by the time we were looking to have kids.  The property market is so hot in Australia at the moment and buying another property in this kind of environment is definitely not what I was looking to do! 

That being said I made that concession because my wife really doesn't push me all that much in terms of financial issues and this was one thing she was adamant about.

Fate intervened unexpectedly


You may remember that last year I had a mild panic attack when I raised my rent on my tenants and they never responded...had I just lost amazing tenants by being too greedy?  All was well though because on the date the rent increase came into effect they just started transferring the new rent amount.

This year I knew something was up when they didn't sign a new lease even though I offered them the ability to sign a one year lease at exactly the same rent they were on last year.  Sure enough a few weeks before my wedding they gave their notice of intention to vacate and their due date to move out was 4 days after my wedding.

Deciding whether to move in became purely a financial decision


My rental property is great and I've always been glad that I bought a suburban family home however it is not a 10 year house either for my wife or myself.  I'm not the biggest fan of the area and my wife wants more land to garden.

What it is though is a perfect interim place to live.  Somewhere we could live for 3 or 4 years while we save and look for our next place.

So the decision became...is it worth getting another tenant in and us find another place to rent for a shorter period of time or do we give up the rental income and tax deductions and move into our own place?

Pros of moving into the rental

  1. I needed to do quite a bit of work on the property and doing this while tenants are in there is quite difficult
    • Things like repainting and carpeting as well as replacing a fence have all been on the things to do list for years and being there myself will help me get this done

  2. Putting off buying another property for a few years
    • Earlier I mentioned that I was incredibly wary about the current state of the Australian property market.  If we hadn't moved in the pressure to buy a place from my other half would have been intense!  I have managed to push this inevitability back 2 to 3 years
  3. The rent I was receiving on the property was approximately $40 a week less than what we were looking to spend on a rental
    • Normally the interest deductibility of your investment loan would needed to be counted in this valuation however my property was positively geared so I wasn't actually getting any benefit from this.

Cons of moving into the investment property

  1. It was an area that I wasn't too keen on living in.  
    • The area the investment property is in is great if you are raising a family but it is useless if you want things like convenience to the CBD, cafes etc.  However given my wife and I are looking to start a family soon the family aspect of it suddenly becomes far more compelling
  2. It reduced the imperative to save hard for our own home.  
    • I think people save for a variety of reasons.  My wife is brilliant at saving if she has something to save for.  My major concern was thay by living in our own home already thay she would not have the same motivation to save.  If I'm going to honest this is still a concern and I'm testing ways to keep us on track
  3. All the repairs and expenses that are part of home ownership are no longer tax deductible.  
    • This is a very real downside and it bit me in the backside almost as soon as I moved into the house
    • I suddenly had to paint, fix fences and repair burst water pipes all without the benefit of being able to claim the expenses back on tax.  Some of the bigger jobs I will keep receipts for and add it to the capital value of the property (and depreciate it later when it goes back to being a rental) however smaller jobs I will no longer be able to deduct.

After weighing up all these pros and cons we decided to move into the property...so what swayed it for us?


So why did we decide to move into the Investment Property?


Although we came to the same conclusion my wife and I reached the decision to move into the investment property for quite different reasons:
  • I saw it as a financially neutral decision which allowed me to put off buying into a hot property market for a few years.  The risk to this approach is that we take our foot off the wealth building accelerator because we are comfortable.
  • My wife saw it as an ability to get into our own home ahead of children which provided stability.  The risk from her point of view is that we don't actually move after a few years and she doesn't get her garden.

I'm learning that relationship finances is as much about finding common ground even if they are for completely different reasons rather than always compromising what you you both want.

So what do you think about my decision to move into my investment property? Would you have done something different?

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Wednesday, 22 July 2015

June 2015 Annual Report

The last year saw so many changes in my life and as I look at the financial impact of these changes it really struck me once more that you can't look at your financial life without examining your whole life.

Your financial life and position is a direct reflection of the whole life that you choose to lead.  As a very simple example if I had not been preparing for a wedding this year I probably would have had significantly more saved towards my house.  That being said if I wasn't looking at getting married in the short term I probably wouldn't be looking at saving for a house.

This was a transition year for me.  It was a year where things other than finances took centre stage and I didn't mind that...the work I had done over the past 4 or 5 years had put me in a position that a bunch of life changes were not going to significantly impact my life.

For those of you who read my blog regularly you may have noticed that I plan my financial goals with a December year end but I do my annual review on a June year basis.  This is purely a matter of history.  I started this blog in June 2010 and the logical time to do an annual review seemed to be a year after that point.  I have thought about changing that several times however it always provided a useful midpoint review of both my goals and my progress.

Goals: Achievements and progress


Thursday, 16 July 2015

June 2015 Net Worth: $561,000 (-0.9%)

After an incredibly strong performance last month, this month saw my net worth slip by almost 1% driven almost entirely by an incredibly weak Australian share market.  In this post I'm going to highlight what happened to my net worth this month, what drove most of the chances and where I am heading in the future.

In the coming week I will also upload my annual performance review which tends to give far more detail about how my portfolio is structured.  My apologies for the late posting of this month's net worth.  I was on leave from work (and my computer) for a few weeks as I was getting married and moving home...I will also post more about what is happening on the personal front soon.

Before I take a deep dive into my performance this month let's have a look at the headline numbers.

Monday, 22 June 2015

Niche Website Update - June 2015

This is a new series of posts that I'm going to be doing tracking how my niche websites are doing.  Up until this point I have just been referring to one website (Banker's Pitch) however when time permits and once Banker's Pitch has settled down I plan on creating several more niche websites.

I don't know whether this is a strategy that will work for me but I'm keen to find out!

Monthly performance for May 2015

This month was all about getting my website up to speed.  I also spent some time optimising the site to get better search results.  These efforts were not in vain as you can see from the traffic results below:



As you can see the number of sessions in May was more than double that in April.  Some of that was a bump I received from people on this blog but a lot of it had to do with the fact that I was starting to get ranked much better in Google for some of my keywords.

I'm still not getting any meaningful revenue from the blog however monetisation is not one of my top priorities at the moment...I'm still trying to generate traffic and get my blog name out there.

Below I have outlined a breakdown of some of the activities I have been undertaking to try and get the website up to date.

Monday, 15 June 2015

Negatively Gearing the Stock Market

This is a guest contribution from Jeremy Kwong-Law

We have a national obsession with property investment in Australia. A key reason is because of the tax benefits of negative gearing. The idea of paying less tax is simply too appealing to most people (who can afford it).

Negative gearing only makes sense if the capital gains on the asset is more than the interest cost. Otherwise paying less tax is really because you are making less money, and losing wealth along the way.

Most people only think of investment property when they think about negative gearing. But there are actually other asset classes where negative gearing can be effective. The stock market is one of those.

Individual stocks are too risky to apply a long term negative gearing strategy. However, index based Exchange Traded Funds (ETFs) could be a suitable option. I previously wrote about why ETFs are a better way to achieve a diversified portfolio compared to direct stock holding (here).

With this concept in mind, I tested a $500K investment in the SPDR ASX 200 ETF (STW) using a negative gearing strategy. A $500K negatively geared investment property in Sydney was the comparison case. I selected the SPDR ETF because it is the oldest index ETF listed on the ASX, providing the most data points.

Over an investment time-frame from 1 Jan 2005 to 31 Dec 2014, the investment property offered better outcomes through negative gearing:
  • Return on Equity on the property was 206% compared 104% from the ETF
  • Total tax offset for the property was $214K compared to $116K from the ETF


 Despite this, the analysis shows that negatively gearing the Aussie stock market is a viable option. In fact, ETF offered a few benefits compared to property investment:
  • Lower entry cost - A deposit for an investment property is likely to cost more than $100K, whilst you can start an ETF portfolio with a few $1,000s
  • ETFs are much more liquid than property
  • there is a lot less hassle compared to property investment. ie. no need to manage tenants / real estate agents
  • lower transaction costs - buying an ETF is as cheap and simple as buying a stock with your online broker. Buying an investment property is difficult and expensive. You need to consider legal fees, stamp duty, and other costs

Funding


To fund the two investments, I assumed a loan at 65% LVR or $325K. This leaves a $175K equity / cash investment at the start. The mortgage's variable rate is based on the RBA’s published rate across the 10 year period. The Margin Loan for the ETF is assumed to be 2.85% p.a. more expensive than the mortgage. This difference is the spread between a CommSec Margin Loan and a CBA mortgage as at May 2015.



Both loans are repaid on a monthly basis, to the same dollar value. At the end of the 10 years, principal outstanding is $256K (79% of the initial loan amount).


Running costs & other tax offsets


The cost of the ETF is completely absorbed within the unit price so there are no other fees to pay - ever. For the investment property, there are a few costs:
  • Real estate agent management fee of 6% of rental income;
  • Depreciation on the property - I assumed 40% of initial investment is depreciated (some consultants suggest you can depreciate up to 60%!).

Income


The ETF pays a semi-annual dividend. Over the 10 years, it provided an average annual yield of 4.7%. I did not factor in franking credits.

The property starts off at 3.5% gross rental yield. Rent rise every year in December, at the rate of Sydney rental growth (ABS data). Over the period, average annual yield is 3.8%.

Asset Value


Property value in Sydney achieved big growth in the past decade, gaining 58%. The $500K property in Jan 2004 was worth $792K in Dec 2014. The Aussie stock market didn’t do as well over this period. The ETF share price increased from $40.79 to $50.25, a rise of 23%.

The higher asset value growth of property also translates to much higher equity value growth. Equity in the property grew from $175K to $536K, an impressive 206%. The ETF equity value grew from $175K to $357K, a 104% increase.



Tax offset vs cash flow


Obviously this whole strategy is about tax offsets - both investments achieved this. The property had tax offsets of $213K over the 10 years, whilst the ETF offered $117K of tax offsets.

Interestingly, the property offsets were achieved with lower impact on cash flow. Negative cash flow for the property investment was only $82K over the 10 years. The ETF had $117K of negative cash flow. This is mainly because property is able to claim non-cash tax deduction in the form of depreciation.

What does it all mean?


This is another example how why Aussies love investment property and negative gearing. You can achieve strong net wealth growth and tax offsets - a double whammy. This also shows that a negative gearing strategy can be applied to other asset classes.

Investing in ETFs is a way of achieving negatively geared investment in the share market. A core benefit of ETFs over individual stocks in this content is diversification - reducing risks. The risk of investing in a Sydney property and the SPDR ETF was similar in the 10 years. Sydney property prices had a standard deviation of $83K, whilst the SPDR ETF measured in at $84K.

On the face of it, investment property seems to be a more compelling investment class. They offer higher returns, more tax offsets and lower negative cash flow. However, I didn't account for a few things that are negative for property investments:
  • stamp duty and other taxes;
  • vacancy risk - if you can't rent out your property you get no income;
  • significantly higher legal fees;
  • higher transaction costs when you sell the asset, real estate fees of at least 1%.

The high cost of entry is also a critical issue for investment property. Currently, 1-in-3 Sydney suburbs have median home price of more than $1M. The initial cash deposit required is well north of $100K. For younger investors, this is a tough ask – an idea of reaching that deposit sooner is HERE.

Younger investors can explore the benefits of negative gearing through other asset classes. The asset must be able to achieve higher capital growth than the interest cost. One obvious option is the stock market, which usually delivers higher long term returns than all other asset classes. If negatively gearing the stock market is an interesting strategy, an investment in index based ETFs are a good option to start.

Do you negatively gear the stock market?  Share your thoughts in the comments below!

Jeremy Kwong-Law (@jeremykwonglaw) is Cofounder of www.BetterWealth.com.au. He is a former investment banker turned technology entrepreneur, a muru-D alumni (Telstra startup accelerator). Passionated about leveraging technology to provide better financial products & services to consumers. Coffee snob, business book reader, and fitness fan.


Tuesday, 9 June 2015

How do you keep track of your share trades?

It's coming up to tax time and normally at this time of year I write a post on how you should start to think about your tax time affairs and start to get your affairs in order.  This year however I'm going to do something different.  I'm going to present a problem that I have...the solution I current use...and see if you have a better solution to this problem.

Problem: I don't have a good system of keeping track of my share trades for tax purposes


One of the biggest problems I have as someone who buys and sells shares is keeping track of the trades for tax purposes.  

It's not that I don't record every transaction that I make - I do and I am meticulous about it.  The biggest problem is working out the tax implication of every sale that I make.
The problem I have is keeping track of working out what is the optimal parcel of shares to sell and the number of shares remaining in the parcel
The problem really exists where you have bought shares over a period of time, either through dollar cost averaging your way into a stock or when you have been participating in a DRP and have been accumulating shares