You need to think about these factors when buying an investment property.
A common Singaporean
dream is to own a second property that we can rent out to earn rental income.
Many of us see this as a gateway to achieve financial freedom earlier or to
provide an income in our retirement, or even enabling us to indulge in greater
luxury.
What many of us don’t
realise is that owning an investment property can be very costly. It’s not as
simple as buying a property and ensuring we receive decent returns on our
investments or renting it out at the market rate. There is a lot more at stake
and we need to go in with our eyes open.
Read
Also: Singapore’s
Property Market: Is 2018 The Right Time To Start Investing In Private
Properties Again?
Overstretching
ourselves may be a bad decision that ultimately cripples our financial future.
Here are 10 things we need to consider when we’re looking to buy an investment
property.
#1 Mortgage Repayments
Everyone knows we will
have to take a home loan when we buy an investment property. In fact, it’s what
enables us to buy such a property in the first place, by putting down as little
as 20%. However, we should not use this to overstretch our financial resources.
Regardless of the rent
we receive, if we don’t crunch our numbers tightly enough, we can end up in a
situation where we have to fork out a substantial amount of the mortgage out of
our pockets.
This situation usually
arises when we are limited on the number of years we’re able to stretch our
home loan or the amount of loan we’re able to take because of the number of
properties we currently own or even the amount of debt we’re already carrying.
We should also avoid
scenarios where we’re at the edge of our finances, as any slight blip in the
economy, rental market or property valuation may suddenly put us in a situation
where we cannot afford to keep the investment property. This may end up with us
having to selling it urgently, and receiving a lousy valuation.
#2 Property Agent Commissions
While this is not a
hidden cost, it can be overlooked when calculating our cashflow and returns
from our investment property.
This entails paying a
commission to our property agent for his or her work renting out our property.
This typically amounts to a month’s worth of rental every two years, or just
under 5% of our monthly rent.
On the bright side,
the property agent knows that this is a recurring business and we’ll need to
engage him or her each time renewal comes up or if we need to find a new
tenant. This way, our agent may be incentivised to manage our property well,
including getting a good rental rate, ensuring prompt payment, helping with
sprucing up the place to rent it out and several other ways.
#3 Maintenance Fees
Majority of
condominiums in Singapore require us to pay a maintenance fee each month. This
fee is no small matter and can easily amount to approximately 10% of our rental
income each month.
This fee is usually
used to maintain condominium facilities, such as swimming pools, tennis courts
or gardens, ensuring adequate security measures as well as hygiene and
cleanliness. It can also vary depending the kinds of common facilities in the
condominium, size of the condominium and age of the condominium (older
condominiums usually require more repairs and upkeep). It also differs
according to the size of the properties in the condominium – where larger units
have to pay more.
#4 Wear And Tear
Miscellaneous costs
are quite important to account for but not very apparent in everyone’s
calculations. This cost component includes furniture, if included in the rental
package, water heater, carpets, air-conditioner as well as any repairs or
maintenance works required within the home. There is usually a small deductible
for these expenses that the renter has to bear, typically in the range of $100
to $200, with the owner having to bear the rest of the cost.
I actually stayed in a
condominium where the water pipes in the bathroom burst one day. This nearly
$8,000 cost, which came out of the owner’s pocket, was worth several months’
rent the owner must have had sufficient money to pay for it as well as had to
take into account a reduced yield for the year. A few months later, the tiles
popped up…
We should definitely
watch out for this cost as it can be very unpredictable. Also, whenever we
renew tenancy agreements, both existing and new tenants may have requests for a
fresh coat of paint, repairing broken lights, replacing an old furniture or
something to that effect. Of course, for older apartments, this type of
expenses can add even quicker.
#5 Property Tax
Property taxes on
properties that are rented out (non-owner-occupied) are applied very
differently to those we live in (owner-occupied).
For investment
properties (or non-owner-occupied properties), we have to pay approximately
10.7% on the first $45,000 of our property’s annual value, and incremental
percentages for every $15,000 increase in our property’s annual value up to
$90,000 (where anything above it will incur a 20% charge). This compares to
under 4% for properties we live in (or owner-occupied properties).
The IRAS (Inland
Revenue Authority of Singapore) defines the annual value of a property as the “estimated gross annual rent of the property if it were to be rented out”.
This is usually applied to investment properties even if it is not rented out.
#6 Insurance
Just because you’re
not living in the property does not mean you don’t have to buy insurance for
the property. Fire insurance is the basic type everyone should buy – this
covers the building’s structure, fixtures and fitting. This insurance will
basically reinstate your property back to its original condition.
Since you’re not
living in the property, you may not have much material possession to insure,
but a home content insurance policy may also be sensible to cover your
furnishings and renovation works.
This is an affordable
cost component that will insure you for a potentially large liability. Premiums
may amount to less than 1% of your rental income.
#7 Income Tax
Income tax is another
cost component we may overlook. Any rental income counts towards our personal
income tax. If this causes us to jump into a higher tax bracket, it may be even
more costly for us.
If your rental income
inflates your income by $40,000, you will definitely be pushed into a higher
income bracket. At bottom end of the spectrum, this means even you’re a
retiree, anything above $20,000 will be counted as taxable income.
Conversely, if you’re
renting a property, you cannot deduct it off your income tax. So consider this
carefully if you’re gunning for such a strategy.
#8 Monitoring Costs
Imagine renting out a
condominium and realising two years down the road that it has not been
well-kept and is in a poor condition. Not only will we need to spend money to
spruce it up for the next tenant, we will also quickly realise that its value
may be heavily affected.
This is why it’s so
important to monitor the condition of our properties. Also, any illegal
activities taking place may have implications on us as the property owner.
While we’re not living in a large country like the US, where we may need to fly
down to another state to check on it, we still need to spend time and money
going to our unit from time to time.
#9 Weak Economy
This is another area
many people tend to conveniently overlook. In the event you’re not able to rent
out your property, you may fall into seriously financial stress with mortgages
and all other costs still due every month.
According to the Urban
Redevelopment Authority’s latest statistics, vacancy rates of private residential units
(excluding ECs) stands at 8.4% as of 3rd quarter
2017, slightly higher than the 8.1% recorded in the previous quarter.
The statistics also
highlighted that 12,200 private residential units and close to 3,000 executive
condominiums were completed in the first three quarters of 2017, with close to
6,000 more due in the fourth quarter. In 2018 and 2019, there is also an
estimated 11,500 and 10,500 more units that will be available in the market.
With this stock coming
online in the next couple of years, it may cause some weakness in the rental
market. This is especially so if the government continues to tighten foreign
labour policies.
#10 Administrative Expenses
It might be a good
idea to have an accountant to take care of your investment property matters.
You may not have the experience of knowing everything that is deductible (or
those that you should be depreciating) or even the time to take care of it.
This usually comes up
to a small fee and may be worth your time if you have more than one investment
property to juggle.
You Should Also Consider Other Factors
In today’s low
interest rate environment, an uptick in rates could affect our monthly mortgage
payments, and make it suddenly unaffordable. Similarly, as discussed above, any
change in government policies (including additional cooling measures or foreign
labour policies) may also adversely affect our financial situation.
All this means we have
to cater a buffer and not try to stray on the limits of our comfort levels when
purchasing an investment property.
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