How to boost cash flow using your investment property
At time of writing, the world has come through one of its greatest financial crises on record, and some say there is more to come. For now, we have landed at a place we have never really been before where, like the butterfly effect, our global markets respond instantly to murmurs being heard half a world away.
Technology is the culprit and also the reason why the outcome is so hard to determine. History is simply not repeating itself, and so we, as reluctant players in the drama, must strap ourselves in, hang on for the ride and hope that it comes to an end before we suffer any real damage.
Australia hasn’t been immune to the GFC, and property investors in some markets are feeling the pinch. While-ever we have such uncertainty around the economy, we can also never be sure about interest rates.
You may be using this uncertainty as an excuse not to invest. If your personal cash flows are truly that tight, then I would agree that now may not be the time. While I’m quite confident that rates won’t move too far, and while each interest rate movement can be somewhat offset by an additional tax deduction and probably even an increase in rent, I never recommend that anyone buy property if they are struggling financially.
If, on the other hand, you feel that you can manage through these unstable times, or you are an investor who currently owns property that has had a blow to its cash flow because of interest rate increases, here are some tips that may help.
Claim your deductions now
This is obvious to a lot of investors, but many people still like to wait till the end of the year to make their deductible claims so that they can get a lump sum of money back. This makes no sense. The Tax Office will not pay interest to you for the privilege of holding your money for the year.
You, on the other hand, can save interest by using the tax you can get back from your deductions to make additional repayments into your loan, offsetting interest and adding a small amount to your cash flows.
To do this, you have to obtain an Income Tax Withholding Variation (ITWV) form, from the Australian Tax Office (ATO). You can even download one of these from www.ato.gov.au. Using this form, you must estimate the income you are to receive from your property, the expenses you will have throughout the year, and also the amount of depreciation you will be able to claim on the building, fixtures, fittings and furniture. For those who have held their property for some time, this information is easy to obtain, especially if you have been diligent with tracking your expenses and income. Those who have only just purchased will need to obtain past figures from the agent, or make as close an estimation as they can.
Depreciation is easy – simply have a depreciation schedule prepared by a reputable quantity surveyor, and you will have the exact figures for each year, for the entire life of the allowable depreciation.
Once you have completed the form and lodged it, it will be assessed and your employer will be advised of how much to reduce your tax to be withheld. The amount will be based on how much you have already paid for the financial year, and so it is important that you complete a new form at the start of each financial year.
If you are worried that you will over- or under-estimate, and so incur a penalty from the tax office for doing so, don’t be. As long as you keep track of your income and expenses, you should be able to tell within around two months of the end of the financial year how close you have been. If you are more than 10 per cent out either way, there will still be time to lodge another form rectifying this, prior to the year coming to an end.
Receiving your tax breaks weekly in your pay could provide an extra $40 or $50 a week to you, and this could mean the difference between being able to manage the costs, or having to sell up.
Adding value
This is a method that I am not quick to recommend, as in many cases the cost to add value has no marked effect on the ability to increase rent. However, if you decide to explore this option, there are some things you must do. Firstly, work out exactly how you intend to add value, and establish if it is an action which is likely to impact on your yield. For example, a property in a tropical climate may be more in demand and command a higher rent return if you install an air conditioner, whereas such an improvement may mean little to someone who rents property in Melbourne or Adelaide. The addition of a bedroom could be the solution if your property is in an area where people demand property with more bedrooms than you currently have, but where your property is typical of the average home and already satisfies demand nicely, it may not be worth it. Aesthetic enhancements such as gardens, new paint and carpets or an upgraded kitchen may add an appeal that brings more tenants, but may not impact greatly on how much they will pay.
Be guided by your property manager in this regard, and then do a cost benefit analysis. For example, a new kitchen may cost $10,000, which at 8.5% interest will cost an extra $850 a year in interest on your loan. You would need to achieve an extra $17 a week in rent to pay for this. Alternatively, an air conditioner may only cost $2,000, or $170 a year, but could add $10 to the weekly rent return of a property in far north Queensland, and additional tax breaks when you depreciate that air conditioner.
Remember, if you are a long-term property investor, you are not looking to add value to achieve a higher sales price – you are after more rent. While adding value may give you a higher valuation which allows you to leverage into more property, if cash flow is your problem today you are probably not in a position to buy more property anyway, and so the ability to increase value becomes a moot point for the short term.
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Increase rents and have shorter-term leases
This may sound like I am stating the obvious, but I often meet many investors who are either too busy to keep their eye on market rent, are relying on their property manager to suggest rental increases, or do not want to upset what they perceive as a good tenant by increasing the rent.
Many parts of Australia are in the midst of great pressure on rent returns. For some years now, values have increased in unprecedented amounts in many areas, and rental yields have been left behind. After a period of sustained values growth, rental yields will also follow and experience a wave of pressure. If you add to that our current housing affordability crisis, and our alarming undersupply of housing, a fact which is being exacerbated by the inability of developers to access funding to build, then it is clear that pretty soon, people will be almost fighting in the streets to rent a property. It is likely that the current rent you are asking on your property is already out of date and an increase is easily achievable.
In addition, under such circumstances, be sure to keep all of your leases short term, usually around six months only. During these times when there are more tenants available than properties to house them, it is crucial that you keep up with the market. Locking a tenant into a longer term lease, no matter how good you perceive them to be, will mean that you will miss out on the frequent opportunity to increase rents and so ease your own cash flow issues.
For those of you who feel a responsibility toward a good tenant who you have had for years, now is not the time to be overly benevolent. By all means, allow them some privileges, but don’t charge under-market rent. Times are tough and keeping rents so low that you experience cash flow problems could mean that it becomes a case of you or the tenant – and it will most likely be you.
There are a lot of good tenants around at the moment, and your job in this world is not to be worrying about cash flow management for your tenant.
Spend less
Start in your own back yard. Examine your budgets and see where you can make cuts. It is during tough economic times that those who stick with budgeting and investing become the most successful. In the olden days, where positive cash flow property was abundant, investing in property was easy.
You could buy anywhere and do well, and many properties were positive cash flow, meaning that you had no commitment from your own pocket. Now that the yields are down, property investing has once again become difficult and only those with a desire to get ahead will see the opportunities which presently abound.
If, on the other hand, your cash flow is so tight that you are not able to meet your current commitments, then it could be time to sell. Be aware that to do so you will need to have a reasonable expectation of what you can achieve as a sales price, and you will be exiting a market which many others are exiting at the same time. Selling will be difficult unless you are prepared to take a lower price than anyone else. If you do manage to sell, and you exit the investment with cash left over, use it to immediately reduce your other commitments, so the time at which you can reinvest comes sooner. Resist the temptation to reward yourself with a holiday or new car and make your commitment to achieve a better financial situation complete by minimising debt wherever possible.
For those determined to stay in the market, remember you may be now facing a temporary period of low cash flows on property and it is time for you to make some sacrifices if you wish to be successful over the long term.
Tighten your belt and increase your commitment to your future financial security. Do anything you can to avoid selling because the situation is already easing every day andyou do not want to look back and wish you had tried harder to hang on to an asset which may have one day provided a comfortable future for you.
Margaret Lomas is a best-selling author and writes and hosts the popular Property Success With Margaret Lomas and heads up the panel on Your Money, Your Call, both on Sky News. This article is an excerpt from her latest book, Investing In the Right Property Now. For more information about the book, click here.
Margaret will be speaking at the Melbourne Home Buyer and Property Investor Show. For free tickets, click here.
