Everything you need to get started on your property investment journey

For a huge number of New Zealanders – more than 100,000 of us – owning investment property is a key part of our wealth creation plans.

Whether it’s a single property bought with the aim of creating passive income to help in retirement, or a growing portfolio that expands every few years, investing in real estate just makes sense to many of us. We all need somewhere to live, after all!

The number of New Zealand households renting is increasing each year and the bulk of those are living in homes provided by private landlords. This creates plenty of opportunity to use property as a way of building your own wealth.

Here’s what you should consider when buying an investment property.

Determine Your Borrowing Power

Property investment is one of the few investment vehicles in which you can use other people’s money (in this case, usually from a bank) to get to your goals. This is a great advantage of investing in property.

So, before you even think of buying an investment property, getting an idea of how much you can borrow is the first step. This gives you a general idea of your target price range, helping you narrow your property search within your purchase budget.

This step also helps figure out if property suits you at all: banks like lending to those with stable income, plenty of surplus cash after they pay their usual outgoings, and plenty of years ahead to repay the lending in full. Also, to start investing in property you need one of two things:

1. A cash deposit

2. Own your existing home (or other property) and have paid down enough debt to use the equity within that property as your deposit

Does Property Investment Suit You?

If you don’t meet those criteria, it’s probably better to consider non-property investments, or if you can and are still committed to property, consider working on your financial situation to ensure you’re in a good position to make the most of property investment.

Bank lending policies and interest rates change often. For an indication of how much you might be able to borrow, simply get in touch to book a no-obligation initial consultation with one of our team.

Understand and Accept the Risks of Investing in Property

Property investment is often described as ‘safe as houses’. Yet there are risks, for example:

• A lender can ask you to repay the mortgage unexpectedly and you may not be able to sell, or sell for enough to cover the mortgage

• Interest rates may increase, so the cashflow we make from the property is reduced

• If the investment property is mortgaged with the same bank as your own home, there is the risk that the bank could sell both properties if you run into difficulty paying either mortgage

• Natural or man-made disasters can directly impact the property, or reduce rental demand

• You might need, for some reason, to sell the property at a time when it has dropped in value, and be left still owing the lender money after the sale

• Unexpected expenses, such as tenant damage or maintenance

• Lower than expected returns. Even if property is still widely regarded as a good investment, the returns of investing in New Zealand property over the last couple of decades would be tough to match

Consider: the other common way to invest in New Zealand property

In any case, if you do go ahead with property investment, just like any investment, ensure you’re doing it as part of an overall plan to help reach your objectives in life. If you like, our financial advisers can help determine this too!

Settle on an Overall Strategy

There are basically only three property investment strategies. All can be used to achieve your investment goals over the long-term.

The question is: which is the right strategy for you?

Fix and Flip

Sometimes called ‘flipping’, this property investment strategy involves buying a property that needs some work, undertaking the required renovations to improve its value, and then immediately selling the property on.

The aim is profiting through renovation activity.

Buy and Hold

The buy and hold property investment strategy involves purchasing property and holding it for the long-term.

You might buy these properties and rent them out straight away or you might renovate the properties before finding tenants.

The aim is to hold these properties for lengthy periods and as they increase in value, you collect regular rent, and (usually) the mortgage is steadily repaid.

Develop

The develop investment strategy usually involves buying property or land and developing it into a new home(s), set of townhouses, apartments, etc.

As zoning laws have changed, this has become more popular in high density areas with developers purchasing a property with a moderate – large amount of land and turning it into multiple townhouses or apartments.

Once the development is completed the developer will often sell off the units, hopefully for a profit. Although it is not uncommon to keep some or all the units long-term and rent them out.  

Development requires the greatest amount of expertise; knowledge and a high level of due diligence is required. Because of this it is not a common strategy for someone new to property investment to take.

Which Property Investment Strategy Is Right for You?

While there’s no “right or wrong” answer, most New Zealanders find the buy and hold strategy is right for them. It requires no background or specialist knowledge and can require the least amount of money to get started.

It also tends to complement a day job, whereas the fix and flip or development strategies can easily turn into a fulltime occupation.

Type of Property

Investors usually enter the property market with a focus on either capital gains, or rental yield.

A capital gain is the profit you make when you sell a property for more than you paid for it.

Rental yield is the rent a property could earn over a year, expressed as a percentage of the property’s value. The most basic equation to work out your gross rental yield is your rental income divided by the property value, multiplied by 100.

It’s common for Kiwis to stick to what they know. If you live in a townhouse, you might be tempted to invest in another townhouse. If you already live in one, the allure of million-dollar-plus properties can be strong but choosing a different property type at a lower value can often yield higher capital gains and better diversification as there is more demand at the lower end of the value spectrum.

The type of property to buy depends on your individual plan. The ‘gain versus growth’ conversation will likely have an impact on what sort of property you should buy.

There are four broad types of residential property you can buy.

1. Freestanding House

Also called single family homes, this is what it sounds like: a home large enough to fit a single family standing alone on its own piece of property. It usually has just one kitchen, unshared walls, and unshared utilities.

Freestanding houses are often considered ‘growth properties’, which means they tend to increase in value more quickly than other residential property. There are several reasons for this:

• There is greater demand for this type of housing: the New Zealand dream is having your own home with a backyard! This makes them more valuable, and typically easier to sell

• Usually there is more potential to add value: more land means more scope to add a minor dwelling or subdivide the property

• Even painting the exterior a different colour or carrying out renovations is usually simpler – you won’t need permission from a body corporate, which is the case with most apartments

The main drawback of standalone houses is the price – they’re the most expensive type of residential property as they come with more land and bigger floorplans. The rent is also usually low relative to the price, and low in comparison with the rent achievable in apartments and townhouses.

2. Apartments

Apartments are separate residences within a single building.

Buying an apartment means you typically share the whole building and its common areas with other owners or tenants within the building.

Apartments can be popular with investors as:

• They’re the lowest price of all residential properties!

• Because apartments are relatively cheaper to purchase, while still attracting good rents, they tend to have higher yields

• Low maintenance

Though apartments do come with their drawbacks:

• Lower potential capital gains when compared with all other property types

• Body corporate fees, and sometimes body corporate politics or inaction!

• Less control. Because you are unable to alter the outside of the property, through landscaping or painting the property (think about it, you couldn’t paint the outside of just your apartment), there are a smaller number of ways to add value to the property

• Apartments often need the largest deposit relative the property value to obtain lending when compared with other property types. This is especially if the apartment is small or unusual  

3. Townhouses

In some ways, townhouses can nearly be considered to mix the characteristics of freestanding homes and apartments.

Townhouses are usually smaller than freestanding houses, they might have less bedrooms, and smaller rooms. They are also typically built on a smaller plot of land. Often, they are attached (“conjoined”) to other townhouses and share one or more walls with neighbouring properties.

Oftentimes, a set of 6-8 townhouses might be built on the equivalent amount of land that two freestanding houses would require. These are becoming increasingly popular in the main centres of New Zealand, as zoning laws are loosened, which allows for more intensification – in other words, building more homes on less land.

Townhouses are often popular with ‘buy and hold’ investors, as they’re:

• Lower maintenance than houses, so cost less to upkeep

• Typically located in central suburbs close to amenities, city or town centres, schools, public transport etc.

• Cost less than freestanding homes. This makes it easier for those seeking their first investment property, and usually means rents are higher relative to the price – i.e., the rental yield is higher than freestanding homes

That said, townhouses do come with a few drawbacks:

• The usual thinking is that they won’t achieve the capital gain of standalone houses. However, history shows us that the difference is marginal.  

• There has been speculation about lower building quality with some townhouse developments

• Because townhouses share some of the same walls, services, driveways, and car parks as with other townhouses within the development, they often come with a residents’ association. This can be thought of as a ‘diet’ version of a body corporate. That means there are extra fees to pay

• Less control over the property – even the exterior colour of the home may be specified by the residents’ association

4. Bare Land

When we talk about land in this context, we are talking about undeveloped land that has nothing on it – a bare site. Investors who purchase this sort of property are often known as ‘land bankers’ if they don’t immediately develop it.

Well-sited bare land may go up in value quite quickly, i.e., it offers great capital gains potential. It’s also low-stress if no development activity occurs – there are no worries about tenant damage, vacancies and so on.

However, obvious downsides of buying bare land include:

• Because you usually can’t rent out land to residential tenants, if you invest in land and don’t develop it, you probably won’t have any cashflow. This makes it a tough investment for regular Kiwis – as bills such as council rates and mortgage repayments will still need to be paid

• Land-banking is sometimes thought of as unethical, as there’s a limited supply of land, so many people think land should be put to productive use rather than just ‘sit idle’

• Potential downsides are highest. For example, a change in zoning could have significant implications for the value of the land

• If you choose to develop or subdivide the land, the costs and probable delays are significant

Choose a Place to Invest

Some people choose to buy investment properties in their own neighbourhood because they know them well. They know which sorts of properties are popular, understand what tenants are looking for and know the things to watch out for when selecting a place to purchase. Buying an investment near your home can be helpful if you’re planning to manage the property yourself, too.

But, if you hold a large portion of your wealth in a couple of properties in one location, you’re vulnerable to all manner of negative impacts:

• Disasters, especially in New Zealand. This could be an earthquake, volcanic event, tsunami, forest fire, or even a biological event such as mad-cow disease having an outsized impact on one part of the country when compared to other regions.

• Significant property zoning changes.

• Economic downturns are a normal and inevitable part of life. Any economic downturn usually hurts some segments of the economy more than others, which flows through to property values. For instance, during the pandemic the New Zealand education sector was hit hard, which majorly reduced demand for international student housing. Most suburbs – or even towns and regions – tend to attract certain types of people, so you don’t want to be caught out by a downturn which might hurt one group more than others, reducing tenancy demand, or property prices in your chosen area.  

On the flipside, you could get lucky and see a major uptick in values if you manage to concentrate all your efforts in the ‘right’ suburb, but are you willing to bet your whole livelihood on it?

Diversify Your Property Portfolio

Alternatively, diversification of any investment portfolio gives you broader exposure to the market, and helps you identify opportunities in areas that are a little further from home. Property investment is no different. No one city, region, or type of property ticks all the boxes, but broadly speaking you’ll want to look for:

• The long-term economic prospects of the region, town, or city. Importantly, all residential property markets are closely tied to the long-term prospects of their general location

• Linked to above, likely population growth

• How expensive, or affordable, housing currently is

• Rental demand and current rents (“rental yields”)

Consider Tax Efficiency

Tax should never determine your overall investment strategy, as tax rules are always subject to change. But in any event, investing in a tax-efficient manner should always be a consideration.

A couple of years ago, government policy changed regarding the taxation of investment property cashflow, when the Inland Revenue Department (IRD) released a 216 page document explaining that the IRD will view most investment properties as more profitable than they actually are in practice. Mainly, this is by disallowing mortgage interest deductions as a property investment expense. However, a 20 year exemption applies for newly-build properties (“new builds”). Read on to learn more.

Around the same time, it was decided that property investors no longer qualify for actual tax returns based on the losses on your rental property, but those losses do accrue and ‘stay with’ the property until it becomes profitable. Then, once those losses are fully absorbed your rental property can become taxable income. This is based on surplus income after all the expenses of rates, interest, insurance, body corp etc.

The Bright-Line Test

If you’re looking to flip a property (buy to renovate and then sell at a profit) rather than rent it out, you need to be aware of the tax implications. You’ll nearly certainly be classed as a property development business and taxed on the gains you make. It will be worth talking to a tax adviser or accountant about this.

Even for buy and hold investors, several years ago, as an attempt to take some of the steam out of the property market and stop prices rising too rapidly, the government introduced a ‘bright-line test’. This test determines if you must pay a capital gains tax on profits if you buy and sell a property within a certain time frame.

The bright-line test kicks in if you sell an investment property within a certain timeframe. The bright-line property rule looks at whether the property was acquired:

• on or after 27 March 2021 and sold within the 5-year bright-line period for qualifying new builds or within the 10-year bright-line period for existing properties

• between 29 March 2018 and 26 March 2021 and sold within the 5-year bright-line period

• between 1 October 2015 and 28 March 2018 and sold within the 2-year bright-line period

To qualify for the 5-year bright-line period for new builds, one of the following must be satisfied.

• For an existing new build, the person must have acquired it no later than 12 months after the code compliance certificate (CCC) was issued for that new build under the Building Act 2004

• Where the person makes an off-the-plans purchase for a new build, the CCC confirming the dwelling was added to the land must be issued by the time they sell the land

• Where the person constructs a new build on their land, the CCC confirming the dwelling was added to the land must be issued by the time they sell the land

New Build Properties

New builds are homes that have either just been built, are in the process of being built, or if they will be built soon. For instance, if a developer is selling off the plans.

New builds are currently the most accessible for everyday New Zealanders to invest in, as:

• A tax exemption exists with mortgage interest. That is, mortgage interest is still a deductible expense. This can make a huge difference to the cashflow for a highly leveraged investor.  

• Current loan to value restrictions on lending favour new builds, as usually only a 20% deposit is required to purchase. To buy an existing freestanding property, a 40% deposit is required. As leverage – the ability to borrow to invest – is a key advantage of property investment, so this is a major attraction

• They don’t require as much maintenance, they’re new

• People want to live in new, dry, warm, properties – which probably means better quality tenants and less vacancies

• Problem-solving. It’s no secret there’s a lack of housing in this country, by buying a new build, you’ll be doing us all a favour by adding to the housing stock!

Tax is a complex area at the best of times. A tax adviser or accountant will help you figure out if the bright-line test applies to your situation, and whether your new-build property is tax-advantaged under the current tax settings.

Buy!

If you’ve read this far, you’ve got the knowledge. So long as you’ve got the finances, you’re ready, so it’s time to act.

When you’re looking for an investment property you need to think with your head, not your heart. This is an investment: emotion shouldn’t come into it. Run through calculations to ensure you’re likely to be getting what you want.

Then, you’ll be well on your way to financial freedom as a property investor!

Your property investment pathway could start with a complimentary financial health check – get in touch to arrange yours. It would be our pleasure to assist.