The NRAS nightmare: It's a housing scheme, not one for investors

The federal government’s National Rental Affordability Scheme (NRAS) is being used as a marketing tool to sell property. The scheme was introduced in 2008 and is designed to help meet the social need for affordable rental housing by encouraging investment in residential property through attractive tax incentives.

The scheme provides a substantial financial incentive of a minimum of $9,524 tax free per house annually to investors, who rent approved houses at 20% or more below current market rates to eligible tenants.

However, NRAS is not an investment scheme per se, it is a housing scheme. It aims to provide affordable accommodation and underpins the government’s drive to privatise public housing.

My concern with the scheme is the regulated choice investors have. Asset selection is limited to new approved developments in areas where there is a need for affordable housing. It aims to supply 50,000 new dwellings and because these are in defined areas where approval is granted there is a risk of clusters of NRAS properties throughout the market. This has the potential to cause oversupply issues down the track.

Further, these developments tend to be in areas where land is available at low cost, which is generally the case when there is limited demand in the area.  However, a key characteristic for capital growth is a high land value and limited supply.

The popularity of NRAS properties is growing as financial planners find ways to market the incentives and make money through their referrals and recommendations. Investors need to be aware that large kickbacks, of 5% to 10% of the purchase price, are being paid to the advisor who is making the recommendation to purchase, and that these kick-backs are simply built into the purchase price of the investment.

I have come across a number of people promoting these schemes and the alarm bells have been ringing. In one example an investor was offered a unit backed by the scheme for $356,000. On paper the investment cash flows looked great but when subjected to greater scrutiny, the property was found to have a market value of closer to $300,000.

Investment schemes that are heavily marketed off the back of cash incentives and tax benefits are nothing new. In recent times we have seen a number of investments that have been sold with a focus on upfront benefits, only to be a disaster down the track.

In the early 2000s a wave of off the plan properties were sold around the country. The lure of stamp duty savings and depreciation benefits were used to attract buyers. Fast forward five years and many of these properties have been re-sold at a loss. In one example a Docklands property was purchased in 2001 for $582,000, only to be sold in 2006 for $455,000.

Further, the investment time bombs are not limited to the property market. In 2008 many investors got stung investing in agribusiness managed investment schemes such as Timbercorp and Great Sothern. Once again these investments were sold with the enticement of upfront tax deductions. However, when the dust settled, the Australian Securities and Investments Commission (ASIC) was reported to have identified issues with inadequate disclosure of information to potential investors and poor performance of the investments. Once again these investments were sold through financial planning channels where commissions of around 10% were paid.

It is important to point out I am not criticizing the NRAS scheme itself, however investors need to understand the true motivations of the scheme. They should be wary of the marketing machine that uses the scheme to make an investment product look good.

Upfront cash benefits are great but they must be viewed as a bonus. The quality of an asset should be assessed in isolation of any incentives.  If the investment asset does not grow in value, or worse has the potential to lose money, then why bother? In some cases keeping your money and just going on a nice holiday is a better option.

Mark Armstrong and Xavier Perronnet are directors of iProperty Plan, which provides independent analysis and tailored advice to investors and home buyers.

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Note: The byline for this article has been updated since publication to reflect the co-authorship.

This article was originally published on Property Observer in October 2012.