Know your stuff: property is not a passive income
Every year, at least one of our Money Makeover candidates has a property investment and while the goal is for the property to help grow their wealth, it is often this investment that puts them under financial pressure, writes Maya Fisher-French
Property investing is believed to be a relatively easy investment that allows you to create an investment portfolio that pays a passive income, yet in reality it is not passive.
Investing in property requires a great deal of homework, knowledge and financial management. You need to have cash flow, be prepared to manage tenants and understand the costs of holding property.
Apart from a mortgage, there are additional costs such as levies, rates and maintenance.
All of these costs need to be considered before buying a property, whether it is as a home or an investment. Money Makeover candidates Sanet and Marius bought an apartment as an investment for their daughter. But, rather than being an investment, it has become a drag on them financially.
What they had not included in their calculations was the high levy. They were able to rent the property to cover the monthly mortgage repayments, but they were out of pocket each month on the R3 000 for levies and rates.
Zydah Manuel, portfolio manager at Absa Home Loans, says this is not an uncommon error made by investors.
“Before you consider buying an investment property, research the rentals in the area.
“Calculate how much you could reasonably expect to receive as rental income and then do your calculations on the mortgage repayment, levies, rates and regular maintenance.”
BE CONSERVATIVE ON RENTAL
When calculating your annual rental income, factor in tenant turnover.
There will be a cost to finding new tenants and there will be periods of time when you do not have a tenant.
When calculating your affordability, assume your rental income is only for 10 months of the year. This will provide you with an idea of whether you have the cash flow to supplement any shortages. For example:
RENTAL INCOME: If your rental income is R5 000 per month, assume that, for the full year, you will earn R50 000 in rental income (R5 000 x 10).
COSTS: Your costs, such as the mortgage and levies, are calculated over 12 months. If your mortgage is R4 000 a month and the levies and rates are R2 000 a month, your total cost for the year is R84 000.
SHORTFALL: This means you could have an annual shortfall of R34 000. You should have a financial buffer of at least R34 000 saved up to meet it. This could be calculated at R2 800 a month that you need to fund that buffer.
IT TAKES TIME TO COVER THE COSTS
Unless you have a very large deposit, it is unlikely you would be able to purchase an investment property which is fully bonded and cover the mortgage and levies from the rental income.
You should either postpone the purchase until you have a deposit, or ensure you have the monthly cash flow in your budget to supplement the shortfall.
Over time, as rentals increase, a higher percentage of the expenses will be covered by the rental income, however, it takes time to reach this breakeven figure.
One advantage you have with a rental property is that the interest portion on the mortgage is tax deductible.
If you are running at a loss in the beginning, you can use this to lower your income tax payable.
SIDEBAR: PREPARE YOUR FINANCES
Whether you are buying a property as a home or as an investment, you need to prepare your finances, says Manuel.
1Draw up a budget to determine income and expenses. Review your budget to ensure there is affordability to purchase a home and sufficient surplus to factor in interest rate hikes and all the associated costs for home ownership.
2Check your credit score with the credit bureaus. You are entitled to one free credit report a year.
3Do a pre-qualification for a home loan and know how much you could qualify for and shop with confidence.
4Prepare for the associated costs of purchasing a home:
- Sufficient funds to pay for a deposit
- Bond registration and transfer fees
- Bond initiation fees
- Insurance for the new home, for both the building and contents
- Moving costs
- Enquire about rates and taxes, and water and electricity for the property
- Levies (in the case of sectional title)
SIDEBAR: WHAT TO DO IF YOU FACE A CASH CRUNCH
If you have bought a property and are now facing financial difficulty, the most important step you can take is to speak to the bank.
“It is vital that the customers engage with the Home Loans Collections team as soon as they foresee financial difficulty. Time is of the essence to develop viable solutions to try to remedy the situation. The sooner a customer advises us of their financial situation, the sooner we will be able to look at the different plans or options we have in place that will best assist the customer,”
The bank has several options, depending on the circumstances:
1With short-term plans, home loan instalments can be reduced for a period of six months and reviewed or extended, depending on the customer’s situation. Concessions can be to reduce the instalment to as low as 25% of the contractual monthly payments in extreme cases, based on affordability for the customer.
2With the long-term plan, the loan could possibly be restructured. This includes restating the tenure to up to 360 months to reduce the monthly instalments. This plan is primarily dependent on the customer’s ability to meet the affordability criteria and the fulfilment of the arrangements successfully. As always, each situation is assessed individually.
3If you are unable to restructure the loan or your financial situation is such that you are unlikely to be able to resume payments, take action and sell the property. Most banks offer a platform to assist distressed buyers to sell their home.
Absa’s assisted sales programme is HelpUSell. It allows the customer to work with the bank in selling the property for the highest possible offer.
“In the event that there is a shortfall after this sale of the property, we are prepared to grant concessions or rebates to allow the customer to extricate themselves from the debt,”
SIDEBAR: ABSA BUY-TO-LET OFFERING
Absa Home Loans offers property investors assistance with the purchase and management of their investment properties.
Manuel says the bank will finance up to 100% of the property value and will consider both existing and future rental income to assess affordability for you.
“We also provide our clients with access to credit bureau TPN’s tenant management solutions. Our clients can use this service to assist in vetting and managing tenants, including credit checks, lease packs and access to the TPN rental property management software RentBook,” says Manuel, adding that investors should also register with the SA Property Investors Network as a new or experienced investor, to grow their knowledge and network.
“We recommend investors open a separate Evolve Business Account to better manage their investment cash flow and ensure that they are keeping their personal finances separate from the investment property.”
Visit www.absa.co.za/homeloans where you can read more about buying a home and find answers to the most frequently asked questions.
If you really want to get your finances in order, you have to start tracking your spending. If you cannot commit to that, it is unlikely you will be able to reach your goals.
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Absa Enterprise Development assists SMEs with access to business development support, markets access and access to funding based on certain criteria’s being met. For further information on Absa Enterprise Development you can email ed@absa.africa
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