Property Investment Returns – are they worth the effort?

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Early on it was a financial goal to have a rental property and earn rental income. A portfolio of rental properties earning rental income is a common investment strategy. You always hear about these people with rental properties sitting back earning property investment returns that cover their bond. I thought that this would be a good idea.

Property Investments

The simplistic view is that you buy the property and find a tenant who covers your bond. Then after several years you have a paid off property that pays you a rental income. Once you have done this you buy another property and do it all over again. Although it sounds easy there are many considerations when investing in property.

Things like changing property values, interest rates, bond financing, finding tenants, reliability of tenants, maintenance, rental income tax management, rates and services and body corporates to name a few. Trying to calculate and estimate whether or not this will provide a reasonable investment return really gets complicated.

Buying an Investment Property

I got the opportunity to create a property investment when I moved cities and decided to keep my old house and rent it out. I had been living in the house for the 3 years. It was a very comfortable 3 bed town house with a small garden in Fairland Johannesburg. The fairly new small face brick complex was in a quiet street with a great location.  This was the perfect rental property and I had no problem finding a tenant.

I continued to let it out for the next 11 years and had a total of 6 tenants. I managed the property rental by myself doing all the tenant advertising and maintenance required. I only skipped one month without tenants as I had to do some renovations.

After 3 years of living there the property value had increased significantly from R 370 000 to R 570 000. It was at this point that I had a choice to sell the property and take the profit  or keep it as a rental property. I decided to keep it as a rental.

My Experience Renting Out Property

I relocated cities and needed a deposit for another property. So I had the townhouse re-valued and extended the bond. After 6 years the rental income had increased but my bond interest portion had decreased so I was now paying tax on the rental income.

Since the property value had increased, I decided to again extend the bond to R700 000 to reduce the homeloan on my house. By doing this I could maximise the tax benefit on the rental property because the additional interest would be deductible against the rental.

Reviewing My Property Investment Returns?

In 2015 I started doing some calculations and realised that I was not earning enough of an investment return. I needed a higher rental, I had a good reliable tenant but was not able to get a higher rent. When she decided to leave I looked around to see if I could get a new tenant with a higher rent but this did not seem possible.

The rental property had also become a hassle as there was always something to be done and the constant worry that if the tenant leaves then I have to fix everything up again and start the process all over.

I did some more research and my own calculations and came to the conclusion that I needed a change of plan. I had also recently put together my early retirement plan. One of the goals was that I wanted to focus on becoming debt free. So I decided to sell the rental property and use the profit to reduce my homeloan.

Once everything was done and dusted I looked back and wondered what my property investment returns had been. Towards the end I knew that from a rental income point of view I was breaking even at best but probably loosing. However, I sold the property for 3 times more than I paid for it so I was confident that this had been a good investment. Or was it?

Property Investment Income and Expenses

I bought the property in 2002 for R 370 000, the transfer duty and bond registration added another R 33 074 so the total cost was R 403 074. I registered a bond for R370 000 with Standard Bank at a 9,5% interest rate.

In 2015 after 3 years I moved the bond to 20twenty(same guy who started 22Seven). I got a better interest rate of 9,25% and increased the bond to R570 000 based on the new valuation. The cost to transfer the bond was R5548.

This was the point that I decided to rent it out at R4150pm, the levy including services at the time was R880. In 2015 when I sold the property the rental income was R7050pm and the levy  R1500pm.

The total rental income for the rental period of 11 years was R 781 149. The expences for that same period was R 855 477. This included interest, rates, maintenance costs and some special levies.

What did profits look like?

That left me with a loss of -R 74 328, so clearly my concern that I was not recovering my expences was correct. However I knew that I would sell the property with a decent profit, so all was not lost.

In 2015 I sold the unit for R1 150 000, that is 3.1x the value that I paid for it in 14 years earlier. There were some selling costs that included legal fees and the electricity certificate totalling R8 092. The profit from the sale was R738 834, this sounded fantastic.

Remember I made a rental income loss so taking that into account the net profit was actually R 664 506. Unfortunately, because this is a capital gain I had to pay capital gains tax of -R 77 000. So my net profit after everything was R 587 506. Still looks quite impressive right?

Calculating my Property Investment Return.

Lets calculate the percentage return and compare this with what I could have got elsewhere. For this calculation I only used the rental period of 11 years.  My reasoning is that for the first 3 years I lived in the house and then had the option to sell and use the profit.

I used the starting value of R 570 000 and the final value of the sale after expences of R 1 062 032. The calculated GAGR (compound annual growth rate) over the 11 years is 5,8%. This is just higher than average inflation for that period of 5.7%. So at least I beat inflation.

I also compared this to the actual return I got from my preservation fund over the same period which was 7,4%. The JSE return during the period 2002 – 2015 was 12.7%. Arguably had I rather invested in an ETF like Satrix 40 which tracks the JSE I would have made a much better return.

Lessons and Conclusions on Property Investment Returns

My conclusion from this experience was that I would rather invest in the stock exchange. The returns investing in shares are at worst the same but more than likely better and they are significantly more diversified.

When I consider the time and effort that I put into managing this rental property then it just does not seem worth it. The main reason I managed a property investment return at all was due to the increase in value of the property over time.

This looks amazing, but that is only a CAGR of 8% over the full 14 years. Currently, the house price inflation is sitting at 1,85% according to the Lightstone property index report. Even if I had done significantly better on the rental income I would still have only come close to the returns from the stock exchange.

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Checkout this blog post on property investments  by Stealthy Wealth. There is a calulator that can help you decide if an investment is going to be worth while or not.  

Admittedly if you are completely focused on property investment returns and rental income then you can do better. To achieve this you are going to have to get the best out of everything, good value growth, high rental returns, no surprise maintenance costs and no bad tennents. Check out Frugal Locals blog on property investment for more useful information.

I have listed a few dos and don’ts to maximise property investment returns below. But for me the fact remains that this is not a simple risk free process, it is very complicated, time-consuming and requires real focus.

Dos and Don’ts of Property Investment

The Dos

Focus on properties with less maintenance e.g. flats and appartments

Buy property below market going rate

Achieve a rental well above all costs, bond + utilities

Choose property with reliable stable tenant target market in mind e.g. young professionals

Have a passion for property and desire to research and understand market

Build in safety factors on your return estimate including, refurb 5-10y, special levies and dodgy tenants

The Don’ts

Don’t have an emotional connection to the property

Don’t have gardens, roofs, garages and other maintenance heavy features

Don’t do it because it sounds cool and you want to have 2 propeties.

Don’t think that the property will increase in value and therefore it’s a good investment

Don’t do it because it seems easy and you will just sit back while someone else pays your bond

What have your property investment returns looked like? What advice do you have? Leave a comment to discuss.