What We Don’t Do
Why we don't recommend new properties as investments
We also want to make it completely clear that we don’t receive kickbacks or referral fees from developers. In fact we don’t even offer new properties as suggested investments for a few reasons...
These are when developers offer secret commissions for people to offer or sell their products. The problem with this is that the kick back is built into the price that you, the consumer, pay for it.
We are offered to sell these properties all the time and we simply refuse. And we can tell you the commissions paid can be as large as $60,000 per unit or house. This is the reason why so many new properties go backwards in value the years following the purchase. They simply cannot sustain these falsely inflated prices.
Please let us make a clear distinction here. There is a difference between private investment firms that offer “rental guarantees” as part of their marketing package and Government Departments or Australian Defence Housing Projects that do the same. Government or Defence housing offers are funded by the government and therefore the rental returns are real.
What we want to draw your attention to are property seminars (often promoted on the radio or in property magazines) that invite you to attend their investment event and as a part of their package offer guaranteed rent if you buy a property from them. These firms are usually flogging a property developer’s product or may be the property developer themselves. The risk comes when the rents they quote are inflated and built into your purchase price. Again – lets use an example to highlight the issue here:
If a unit in a high-rise building is being sold for $420,000 with a Guaranteed Rent of $450 per week for 2 years, part of your purchase price is to pay for your own Guaranteed Rent. It works in the following way; the developer knows that he can rent the unit very easily for $380 per week and have the unit filled for the entire 2 years. There is a shortfall of $70 per week over 2 years = $7,280. They also add some contingency into this figure knowing that every unit will not be filled on day one, so lets round it up to $10,000. The developer is not in the business in giving away $10,000 on every unit in the block so this is added to your purchase price, meaning the unit is only worth $410,000 plus the extra $10,000 rent = $420,000
And as long as there are similar units in the area that have sold for $420,000, then the valuations by the banks will stack up. The downside to this is that the rental returns stated at the time of purchase are usually inflated so after the 2 year period has ended, you are unable to gain the same rent per week.
The other major issue is that after the two years expire, all the other investment units in the block have had their 2 year rental guarantee expire now too, so there will be many other units in the block wanting tenants now as well. And sure enough there will be a large reduction in rent again to simply get them filled.
Poor yields also reflect on poor capital growth, as new investors are not willing to purchase a property with a poor rental yield.
The purchase price is a fixed price but you can generally add your own touches to the property, at a very inflated price of course…
The first few deals can sometimes start with a small discount on price, as the developer must get a few “Pre Sales” on the project to prove to the bank that this project will sell, this gives the bank a safer base of equity to work with before approving a loan to a developer.
Yes that’s right, you are purchasing a property that has not even had approval from the banks to be built?
Many companies offer these properties for sale and they can be good if purchased in the right location. The trick is ensuring that this is the case.
Property companies or marketer’s can align themselves with developers and simply sell the products they have available. As payment for aligning themselves and selling you a property off the plan they receive a commission from the developer who simply adds this onto your purchase price. This commission can be as high as 6% of the purchase price. For this reason bank valuations may come in low on these investments.
This is not research based investing! This is simply selling properties where the developer builds.
The other major issue here is that when high rise developments are completed, there could be 100 investors all looking for a tenant at the same time and as time goes on the properties remain vacant and landlords then have drop their rent price per week just to fill the property and the spiraling effect starts.
Some developers offer guaranteed rent for one or two years. This can be a trap, as this amount again is simply added into the purchase price. So you are really paying for your own rent! It works like this, the developer works with a real estate agency or generally multiple agencies that work out rent they could achieve if they filled the properties with tenants fast. The shortfall of market rent verse what they will achieve to fill fast is added to the purchase price.
This tactic gives the purchaser reassurance that the property will be tenanted from day one for the guaranteed period. The problem is that they will fill the properties with any tenants. No real due diligence is done on the tenants.
There are more dangers with purchasing off the plan:
- The developer goes bust before finishing the project – we have all seen building companies go under in the last few years so do your homework on the builder prior to signing to make sure that they are in a sound financial position.
- Depending on what type of development it is, when it comes to finance, the banks could either do a valuation from the plans or wait until completion and do a valuation then. Either way the valuations may not come in at the purchase price. This may prevent you from proceeding with the purchase and depending on the detail in your purchase contract; you may lose your deposit and you may also be liable for any losses incurred for the developer to resell this property.
- If you haven’t purchased this way before you must be wary of the inclusions and the quality of the inclusions. Also check the quality of the fittings and finishing’s. If this is a house and land package off the plan, check if your contract says “turn-key”, this generally means it includes driveways, carpets, landscaping, blinds etc, if not, you could be up for these as an additional cost later down the track.
- Developers may sell the first few units in a block to their employees at an inflated price. So when you come and buy they will show you that a few have already “Under Offer” and at higher prices. The developer may then release his employees from these contracts, penalty free, but you are then stuck. Ask to speak with other purchasers if you can. It happens a lot.
- The Developer could sell and settle one property to a friend or family at an inflated price. This then sets a price precedence for valuation of future sales. A valuer may use this sale upon which to value other properties in the same development. At the end the Developer and friend can resell the property and even if they lose a little on one property they gain on all the others sold at the inflated price.
- The law states that a property must have 7 years builders’ warranty against any faulty workmanship. Now this all sounds good but we have all heard the hard luck stories of other owners trying to get a developer to come back after one year to rectify some work under warranty. Investigate the builder’s insurance policy and find out what it covers or excludes. You don’t want to end up in court and further out of pocket.
- Our advice is to always pay for an independent valuation yourself, before signing any contracts and have a chat to the valuer to get their honest opinion. They cost approximately $450.
- Essentially you are gambling on the fact that the property will go up in value or at the very least stay the same price between the time you sign the contract and the time you settle. Quite often though this is not the case and valuers will value properties much less than the purchase price. The problem here is that banks use valuations as the guide to how much they will lend, not purchase price. Meaning you may need to come up with the shortfall in cash, which many investors simply do not have.
- Now not that there is GST included in the sale price of an “Off the Plan” unit but within the construction price many facets have GST for example: Labor hire, cost of goods used to build and these must all be included in the sale price which you the end consumer pay. Much like a brand new car… the old saying where your car drops in value by 10% by the time it leaves the car yards driveway is true because the 10% is the GST… same with new property.
We would like to point out a common easily misread and therefore misleading phrase” Hot Spot”. Almost all magazines and seminars that use the following statements which can be misleading;
- We tell you where the Property Hot Spots are
- The best places to buy
- Where to buy and get 20% growth
The reason for this is due to the fact that these statements are referring to past tense, these were the locations you should have bought into a year ago. They have already BOOMED and if you buy there now, you would have simply missed the boat.
A “True” Hot Spot is a location where the property is about to BOOM, an emerging market and should you buy there, you will make the gains in property values… and you know when you have bought in the next Hot Spot because a year later that location will be all over the investing magazines, newspapers and shows like “A Current Affair” and “ Today Tonight” stating “ We tell you where the Property Hot Spots are”.
Better still they don’t make the media and TV shows then it’s a hidden gem.
When investing with the wHeregroup, we love it when a year after we have been buying in a particular area, this Property Hot Spot is advertised all over the TV and magazines… why??? Because then you can be sure that hundreds of property investors will race out to buy in this location and put a final boost into our already gained property price.
The sad part for these investors is that approximately 6 months later this location then flattens and they make no gains at all.
Similar problems to Off the Plan Units, we see huge kick backs in both these types of properties. Then there are over supply problems that arise in many locations, poor yields on offer and investors having a real bad time with their investment.
Often the properties we buy for clients are 5-7 year old House & Land Packages that investors have either been ripped off on and are now selling due to the bad experience having had bad tenants that have been shoved into their properties, recommended by the same companies that recommended that property as a suitable investment in the first place. Or investors buying in the high part of the property cycle and selling in the low. wHy they do this? There are many reasons.
Now there is only one exception here… and that is if the property is brand new in the area I am investing in and the owner is going bankrupt or is in financial stress and we can buy well under market value. These are few and far between.
This is very sneaky non the less though it is illegal.
An investor approaches a vendor and negotiates a price. The investor then says that part of his conditions is that he will pay a higher price for the property and sign a contract at this price as long as the vendor pays for their stamp duty.
The increase in purchase is the stamp duty payable, rounded up to the nearest thousand to avoid suspicion.
Why would an investor do this?
So that they can borrow 95% of the inflated purchase price which would include the stamp duty. And therefore their deposit is only the 5% deposit. This could save them $20,000 which they could put their next purchase.
A few problems here is that it is contract fraud along with that the banks will only lend 95% of the purchase price, meaning the purchaser must pay the stamp duty themselves. They would not allow this is they knew about this.
It also falsifies the median house price of locations as well as the median would increase.
Although stamp duty is paid on the higher amount, the Office Of State Revenue would not view this favorably.
Solicitors would also jeopardise their professional indemnity insurance by allowing this to occur. I would say also that the real estate agent would also jeopardise their license in allowing this conduct to occur.
Ever seen those hand written signs on telegraph poles at traffic lights that say:
We buy houses fast – with cash – no agents fees
Or signs out the front of houses that say:
For sale – no bank loan required pay $547 per week
These are properties that are being sold or purchased as vendor financed.
To explain further:
- A property is purchased by an investor for $200,000 using their signs above – these attract those vendors who are desperate to sell and don’t want to pay agents fees and want a quick sale. The purchaser buys the property well under market value. The investor purchases the property with a loan from a bank at let’s say an interest rate of 5.04%p.a.
- The investor then offers the property for sale again immediately by way of “Vendor Finance, no deposit required, even if you have bad credit” targeting people curious to find out how this works and wanting to get into their first home;
- Once a suitable First Home Owner agrees to buy the property, it is then sold for $250,000 on a 105% loan by the vendor on a special contract drawn up by the vendor and their solicitors;
- The inflated purchase price has covered any stamp duty costs the vendor had to pay when purchasing the property initially plus a tidy profit in a short time;
- The vendor then offers the new purchasers an interest rate of around 2% higher than what they are paying the bank;
- And often the contract stipulates that the purchaser must hand over the $7,000 or whatever the amount of the First Home Owners Grant is to the vendor;
- In many instances, the new purchasers must pay up to several thousands of dollars deposit as well, pretty much whatever they have in savings
- The vendor further covers their bank loan repayments (5.04% Interest Only on initial loan value) through the inflated loan repayments the purchaser has to make to the vendor. This figure is calculated in a principle and interest repayment of the sale price of $250,000. So their repayment is quite high – For example – the new purchasers make Principle and Interest repayments on $250,000 on an interest rate of 7.04% which equate to monthly repayments of $1670.
- Therefore the vendor is gaining $788 profit per month from the new purchasers;
- Often the contract of sale stipulates that the title of the property remains in the vendors name until the loan has been repaid in full. If there are any defaults in payments then the vendor has full right to repossess the property back from the new purchasers, leaving them high and dry.
- The new purchasers have been selected very carefully by the vendor. They bank on the purchaser defaulting so that the vendor gets to keep the deposit, plus the First Home Owners Grant and the property. Then they start all over again with another group of new purchasers.
- Just a note – all bank loan contracts exclude this type of activity. However if the vendor does not disclose their intent to on sell the property under vendor finance to their bank – they may never find out – so it continues.
This activity is also illegal in some states of Australia, for obvious reasons…
Be wary of property investment clubs selling volumes of properties in one area. Find out who owns the land and the building companies and if they are in any way linked to the investment club. Common practice amongst these companies is to buy a parcel of land, subdivide into many lots, sell these to investors and have their own building company build the houses. Again suburbs can be filled by investors and definitely no research into locations done here, they simply buy where the land is cheap and sub dividable.
A great source of research is Google… so Google their name and spend some time scrolling through the pages… its amazing what you can find.
I have seen many companies that have been sued and lost for defrauding clients, change their name to stay out of the press, been arrested for other malicious activities etc. It’s worth your time knowing who you are dealing with..
This is where property companies try to sell properties to interstate investors. Again there is no research as to why this area is better than any other; they simply sell where they have built the property.
You may recall media reports of this type of scam in the 1990’s out of Queensland. Unfortunately the same offers remain around today – to explain further;
- Advertisements seek middle-aged couples looking to invest. They know that these investors usually have plenty of equity in their home. These equity rich investors and then invited to a free seminar
- During the seminar, the investors are presented with very compelling “data” showing them how they can buy property in other states that are “that are often better than their own homes and at a cheaper price” – e.g. new two story properties similar to their own but for $200k less. The key here is the leveraging of the new property against the investors perception of value for money in their home.
- The investors are pampered and flattered during the seminar and are sold on the idea of “We’ll even fly you to inspect the property for FREE!” The flights then arranged by the property company, and soon, 40 or so investors are jetting off to check out the prospective properties;
- Once the investors land they are escorted to a bus and driven strategically to the location. I say strategically because the bus will never pass a real estate agency along the way nor see any property advertisements on the side of the road;
- During the trip there the sales people will hype everyone up and conveniently say that there is, by chance, a mortgage broker on the bus whom you should all have a chat to as he can arrange your finance;
- Once the investors arrive, they are shown a select number of houses aimed to suitably impress with their value for money – often better quality and cheaper price than the investors own home. There also happens to be a solicitor on site as well, he/she can sign you up for your investment property today, with a finance clause of course;
- So the investors are encouraged to buy and sign that day as “this is the best deal ever and you simply can’t miss a once in a lifetime opportunity…” Nor to they want to miss out as another investor on the bus may buy it first.
- The investors are fed, giving the opportunity to chat with the mortgage broker again and get the finance underway;
- They are then escorted back onto the bus and again strategically driven straight back to the airport and flown home;
- The problem is that if you were that investor, you would have just purchased a house for $400k – without independent valuation, in a different state that may only be worth $300,000! Your value perception of your own home, versus the investment property, would have misled you in making a decision that you were buying value for money!
Now because you have a lot of equity in your home, the banks will more than likely still give you the finance, even though the property only valued at $300,000, here’s why;
- Your home is worth $600,000
- Your home loan is $250,000
- You buy the property new investment property for $400,000
- You borrow the entire amount (purchase price plus stamp duty) $420,000
- Total equity base is now $600,000 + $300,000 (real value) $900,000
- Total loans are $250,000 + $420,000 = $670,000
- The loan to value ratio (LVR) is $670,000/$900,000 = 74%
As this is below 80% the banks are happy to fund this transaction
Conveniently the mortgage broker never tells you the real valuation figure for the property you just bought a property for $100,000 too much. The mortgage broker would know which banks do not tell clients about this valuation shortfall too.
That is what ‘Two Tier Marketing’ is about and if you had been that investor, you would have just lost $100,000 and felt good about it until you find out years later when you try to refinance and find out the real valuation.
This kind of activity is illegal.
This is common through solicitors, accountants and financial planning firms. They offer some “out of this world” revolutionary structure that no normal human being could ever understand and bamboozle clients into thinking this is the best way. You get told that is the best protective way to invest and will save you tax.
This method also ensures the client now stays with them for life as no other accountant, financial planner or solicitor would understand how their finances were structured. Set up costs here are extremely high and care should be taken when looking at the tax implications. A second opinion from another accountant or an independent solicitor would be advised.
Often investors are not told that they may not receive the Land Tax threshold and therefore have to pay Land Tax from dollar 1 on every investment property they purchase in any state.
Who wins in these complex structures? – the accountant as they must do an annual tax return for every company and trust within this structure.
Now complex structures may be required for some investors due to varies reasons, so its always worth talking to a few experts and getting various opinions before proceeding.