8 Tips to understanding Cash Flows in Investment Properties
Buying an investment property is a big step in your overall wealth creation process. Like any other decision, a lot or research is required to ensure the investment fits in with your current financial plans. Most people look at investment properties to achieve some of the following:-
- Long Term Capital Growth
- An Income Stream in Retirement
- Tax planning
- Negative gearing
To ensure that your long term plans are achieved, you need to look at the short term to safeguard future planning strategies. Basically, the most important consideration is to understand how the Nett Cash Flows are determined. If you cannot fund the expenses and meet the interest payments on any borrowings in the short term, it will not matter how good the potential long term growth is. You could have to sell in the short term. To understand Cash Flows, you need to look at the issues that affect them.
Issues effecting Cash Flows
There are at least 8 areas to consider when assessing cash flows and whether this fits with your overall financial plans. Especially whether you can fund it in the short term.
• Acquisition or Purchase Costs
When applying for finance you will need to have a very close estimate of the total cost of the project. If you are under financed initially, then need extra funds later, these funds may not be available from the original source. This could lead to either an incomplete project or obtaining funds from other sources ( maybe family or friends ). The extra borrowings then affect your planned cash flow and could require further personal input.
• Rental Property Expenses – What you can claim
You can claim expenses relating to your rental property, but only for the period your property was rented or available for rent. There are a long list of items that can be claimed against. To see what the ATO will allow you to claim, we suggest you visit the ATO website or discuss with your Accountant or Financial Adviser.
As a building gets older the items within it wear out, so they depreciate in value. The ATO allows property investors to claim a deduction related to the building and the plant & equipment within it.
Property depreciation is made up of two main elements: capital works deductions and depreciation of plant and equipment.
1. Capital works deductions are available on the structure, including items that are not easily removed.Remember this is not the purchase price but the cost of the building.
2. Depreciation of plant and equipment is available on mechanical and disassemblable fixtures, including those deemed to have an effective life set by the Australian Taxation Office.( ATO )
The rates are set by the ATO and are different for Capital works and Plant & Equipment.
To claim depreciation against income, it is advisable to obtain a Tax Depreciation schedule from a licensed Quantity Surveyor.
• Interest Rates on Borrowings
At present ( September, 2014 ) interest rates are at a historical low. As investing in property is considered long term, it would be prudent to suggest that sometime in the future, interest rates will rise.
When and if this happens, who could predict? But, as an investor, you need to be prepared and understand the ramifications it will have on your “Cash Flow”.
Remember any increases in interest rates could mean your investment would require extra funding. If your property Cash Flow is negative, this funding would need to come from your personal income.
• Occupancy Rates
For planning purposes, don’t assume that the property will be occupied 52 weeks of every year. Check with Property Managers in the area to gauge what sort of occupancy rates can be expected.
• Lenders Mortgage Insurance – LMI
Lenders Mortgage Insurance protects the lender against a financial loss if you default on your loan and the property is then sold or repossessed.
This insurance covers the amount owing on the loan if the amount recouped from the sale is not enough to pay off the loan in full to the lending institution.
• Australian Taxation Office – E Variation
An E Variation allows you to apply for variation to your PAYG withholding tax. In essence you can receive your tax refund each fortnight or month depending on your pay periods. If you are not eligible for E Variation you will need extra funds to meet outgoings until you receive your tax refunds. Check with your accountant for further details.
• Property Manager
A property manager charges a percentage of the rental income to manage your property. This rate will vary from manager to manager. Don’t choose your manager by the cheapest rate. Do some research, check on testimonials and contact existing clients if possible.
This is a general overview to what effects Cash Flows in Investment Properties. For a detailed account of these issues and links to various important web sites download your Complimentary Ebook now.
About Geoffrey Boyd
Having spent 23 years in the Financial Planning Industry, Geoffrey was
looking forward to retirement. It was then that some friends asked him
how they should go about buying a house.
This started 3 years of research into all aspects of planning and preparation when buying real estate from an outsiders point of view.
All the research, hints & tips, ebooks and software programs developed from this research are now available at www.hobig.com.au
Contact Geoffrey direct on 0448 843 214
or E: firstname.lastname@example.org
Home Buyers Information Guide