Keep a close eye on that rental property

By MARY HOLM

I know you usually tend to discourage investment in residential property, and back it up with sound logic.

But I would appreciate your comment on this situation, as it appears to be meeting a long-term goal.

Six years ago I bought a two-bedroom unit for rental, contributing $40,000 equity and taking out a table mortgage for the remaining $65,000 (Christchurch prices).

The intention was to not make a high return, but to have the rent pay off the mortgage and cover insurance and rates, so that in a few years I would finish up with an asset which had paid for itself. Maintenance has also been covered, partly by personal labour.

Admittedly the mortgage is for 25 years, but I expect to inject a lump sum at some stage to bring the process to an earlier close.

So far it seems to have worked. The rent of $160 a week is covering the outgoings, although giving a negligible return, and the mortgage has reduced to $60,000.

In the meantime the market value has increased by about $15,000. If I sold now then my equity has increased by $20,000 over the original $40,000 invested, in six years.

This seems a reasonable investment to me, but have I missed something?

Secondly, I am considering changing the plan now because I have shifted cities.

Would it pay to leave it for some years more to allow mortgage repayments to start eating into the outstanding principal, thus increasing equity?

You will gather that I'm not a big-time investor, but I am interested in your comments on the idea of equity gain as opposed to return on capital invested.

Brace yourself. I'm going to say something positive about rental property!

Through a combination of good luck and good management, you seem to be one of those who have done it well.

On the good management side:

You bought a unit. These tend to provide higher rent per dollar invested than houses.

The rent covers your mortgage and other costs. You're not under the same strain as landlords who keep dipping into their own pockets to keep the whole thing afloat.

You got a mortgage for about 62 per cent of the purchase price. That's lower than many investors. It lowers the riskiness of the investment.

The unit is probably a slightly different type of real estate from what you live in - assuming you own your own house. So you're somewhat more diversified than those who rent out a property similar to their home. Again, that lowers risk.

You've done some of your own maintenance, which keeps costs down.

What about luck? For a start, you've had a reasonable increase in property value in a period in which values have fallen in some areas.

You might put that down to smart buying rather than luck. People who do well with investments tend to do that.

But I reckon buying a single rental property, with a mortgage, is rather like buying a single share.

Everybody always thinks they're on to a winner. But only some turn out to be right. Many do okay, and some lose some or even all of their money.

It also sounds as if you've done well with tenants. You don't mention any long vacancies or tenant damage. There's got to be some degree of luck in that - which, by the way, may not last.

Now, as an absentee landlord, you need to decide whether to continue with the investment.

There's no obvious answer to that. I know, from long-ago experience, that it's more complicated being a distant landlord.

Nobody else cares about the place as much as you do. And you can't do your own maintenance.

On the other hand, as you say, you're getting to the point where less of your mortgage payments go to interest and more go into reducing your debt. That's always encouraging.

And you sound content with the investment. If you've got a reliable - and not too costly - person in Christchurch who can be Johnny On The Spot when necessary, perhaps you should stick with your unit for a while yet.

The key question is: What else would you do with your $60,000?

If you were to put it into another rental property in your new city, you might not be so clever and lucky next time.

And each time you sell one property and buy another, you have to pay agents' commissions, legal costs and so on.

But if you were to invest in my favourite long-term investment, an index fund that holds world shares ... I reckon you should do that. (Surprised?)

It would give you much broader diversification. Your average returns over the long run would probably be higher. And there'd be no worries about maintenance, tenants and so on.

Speaking of returns, your last sentence rather confused me.

The return on a property investment is made up of the excess of rental income over expenses, plus capital gain.

You say the excess rent is negligible. But you've made a gain of $20,000 on the $40,000 invested, over six years.

That's an annual return of about 7 per cent, and it's probably not taxable.

You're right. That's reasonable.


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