There are three attributes of properties that you must be aware of. If you always keep them in mind when buying or investing, you will make a tidy profit.
Properties are great investment vehicles but a lack of awareness could be detrimental. You would think that investors would have got it all figured out when it comes to purchasing long-term assets. But quite often it is human nature to let excitement or greed cloud your judgment. The ability to manage this would spell the difference between a sound investment and a risky one.
Here are the three things you should not allow to blindside you:
1. Property is not liquid
Property is not liquid. Property is a superior asset class. It appreciates and is a tangible physical asset with intrinsic value. Property will not lose its entire value overnight the way it can happen with stocks. However, property is one of the least liquid of assets. Unlike stocks, you can’t liquidate your property overnight. To sell your property, you would have to enlist an agent who will then advertise your property. After multiple viewings with prospective buyers, you may sell the property.
This whole process can take anywhere from weeks to months. Even after it’s sold, you don’t get cash in your hand. There is a long process that involves the buyer acquiring financing, signing a sales and purchase agreement, transfer of name, and statutory submissions. For a freehold property, the process will typically take another three months. So, even if you sold your property the day after you advertise it with an agent, you still need to wait three months for the entire transaction to conclude and to receive the cash value of the sale.
As you can see, property is NOT a source of immediate cash.
Never invest in property or buy a property thinking that you can liquidate it whenever you need cash. You need savings for that.
If you were to suddenly lose your job, your property will not be a source of immediate cash. Your savings will be. Your assets in equities can also be a source of immediate cash. Just because you have 20 properties, it does not make you financially secure if you’re highly leveraged with little savings and no diversified investment portfolio.
To illustrate, let’s say Malcolm, a senior manager at an oil and gas company, has 20 properties. He made smart purchases and all his properties give him a breakeven cash flow. He has mortgages on all the properties. The monthly mortgage repayments on each property averages RM2,000. Malcolm has not bothered to save or have a diversified portfolio.
He assumes that investing all his money in property is the right thing to do. Property appreciation gives him high potential returns as he is leveraged. Therefore, putting all his money in property seems like the intelligent thing to do. Suddenly the economy turns bad and Malcolm finds himself out of a job. Oil prices have hit record lows. It’s difficult to find a new job as most oil and gas companies are now downsizing. Four of Malcolm’s tenants have also lost their jobs and have served their one-month notice to Malcolm.
To add to his problems, 3 tenancies are expiring on the same month and Malcolm’s agents have not been able to find replacement tenants as yet.
By the second month, Malcolm is still jobless, and he has 7 apartments without tenants.
He needs to fork out RM14,000 to pay the mortgages. Malcolm does not have much savings and this extra expenditure is a huge burden. Malcolm cannot convert any of his properties to immediate cash to help him in this dire time. Can you see if this problem persists, that Malcolm would be pushed to a forced sale? This reiterates the point that you must plan your cash flow and never let your investment property substitute as savings.
2. There is a cost to keeping and maintaining a property
I believe 90% of the time people buy an investment property, they are negatively geared. That means, their monthly mortgage repayments plus costs are higher than the rent received. If you do not have sufficient income (and savings) to bear this cost, your investment is high-risk. As in the case of Malcolm above, if you lose your job or your source of income, your properties will become a burden and you may be forced to sell your property. You will rarely gain in a forced sale.
I know what you’re thinking now…
Let’s assume you bought a really good condominium, something where the mortgage is lower than the rent. Your monthly mortgage payment is RM2,500 but your rental income is RM3,200. That’s a profit of RM700. Surely this is great right? Not likely because you’ve forgotten about other costs. Here are just some of the other costs you may have overlooked:
1. Taxes (assessment and quick rent)
2. Joint Management Body fees (for strata property)
3. Annual improvements & maintenance (repainting, replacing furniture, repairs, etc)
4. Memorandum of Transfer (MOT) on stamp duty (for new purchases)
5. Mortgage Insurance
If these costs work out to an additional RM700 per month, your net income is zero, which is still good. However, if they exceed RM700, then you’re negatively geared.
3. There are vacancy periods
If you rent out your condominium unit for RM3,200 per month, your yearly income should be RM38,400 right? (RM3,200 x 12).
Not exactly. If your property was vacant for a period before you got a tenant, that’s a cost to you.
To illustrate, let us assume that you got the keys to your investment property on 1st January 2018. This is the month you started paying your full mortgage. It then took you one month to find a tenant. So you received rental income from 1st February 2018. Therefore, in the 12 months from January 2018 to 31st December 2018, you received income for 11 out of 12 months. Your income for the year was RM35,200. Not RM38,400.
This, in turn, brings down your average monthly rent from RM3,200 to RM2,933. I think you’ll agree with me that the longer your condominium is vacant, the lower your actual rent becomes. It can be better to lower your rent to reduce the vacancy periods between tenants.
In the case above, if a potential tenant offered you RM3,000 on the 2nd of January, it would have been better to take the offer then to wait one month for someone to accept RM3,200 per month. Vacancy periods are a significant cost that many property investors are not aware of. This should be part of your math when purchasing a property or when calculating the returns from your property.
For more investing strategies, read What is the 18-year property cycle & how will it make you a better investor?
*This article was repurposed from “The Ultimate Guide to Buying Property” first published on LivingSpace