First Property Investment - Granny Flat Upside or Equity?

Hi all,
I am very new to the Property Chat forums but every time I login, I instantly feel at ease because I have already received tremendous advice in the 2 days I have had an account.

Because of that - I have a pressing matter that needs insightful responses somewhat urgently because my money is sitting with a BA and I don't know if I am doing the right thing.
This is my situation:

I am currently in my 2nd year of work as a commercial real estate agent working full time and also attending University. My goal is to aggressively acquire as many properties over the next 10-15 years as I can.

My earnings as a commercial agent are as follows: $50K base salary + commission. I also have $85K in savings but I have opted to use a BA to make my first acquisition in Queensland because I don't yet have the knowledge to enter the market, but want to make an acquisition. Now, the BA has recommended I buy a property with granny flat upside, and then build the granny flat in the next 12 months to increase my income, and therefore my serviceability. However, after having thought about it over and over and over and over again in my head, I feel as if the strategy should be to buy properties which are going to allow me to manufacture equity - ESPECIALLY since it's my first purchase. I am very inexperienced (this is my first acquisition), so I don't know if I have it completely wrong, or the BA is leading me astray to ensure an easy acquisition (and $10k fee) knowing that I am inexperienced. I am not a cynic, but I am naturally a sceptical person.

So my query is: Would your advice be to follow the BA's advice and buy a property with granny flat upside and then build the granny flat within 12 months to increase your income

OR

Am I correct in asserting that I should really be focusing on manufacturing equity at this point of my investing journey?

 

As someone who did build a GF on my first IP, I would strongly suggest that you don't do what your BA is suggesting unless you are rolling in equity/cash and need to convert it to cashflow asap. That doesn't seem to be the case, so I would suggest looking for growth or manufactured equity like you thought.

 

Thank you for your response.

In what cases would I 'need to convert' equity/cash to cashflow asap?

 

This is a red flag to me because I made the same mistake, and I will not be making that mistake again.
Suggest you spend time learning to make sure you have the knowledge - and then use someone on the ground to be your eyes.
By farming out the knowledge, you are relying on luck and you will only know if they are competent or not after you have made or lost a lot of money.
Case in point is exactly what you are asking about.

You don't need to be at the mercy of ignorance. There are great books out there. In a few months of reading you can have dozens of times the knowledge that you have now.
You are about to spend 10k on someone who has not discussed strategy and options with you and how it fits into a bigger picture of your circumstances. Why not spend a few hundred dollars on educating yourself so that you are armed with the information to set out a goal, plan, steps, and multiple strategies to achieve that goal - and then look for a BA whose buying criteria lines up with your strategy.

I wish someone told me that earlier.

 

Granny flats do not add value but they do increase serviceability. Did you share your manufactured equity goals with your chosen BA before engaging him/her? A change of strategy can/should be discussed with your BA.

Please bear in mind that your thoughts of "BA is leading me astray to ensure an easy acquisition" is probably not right. It is not an easy search to find a property suitable for a granny flat.

 

I like the idea of having a property that is eligible to put a GF on in future. We have 2 that are eligible in QLD but we've held them for quite some time (10+ years) already and we're going to hold indefinitely.

For us, up until this point it wouldn't have made sense for us to put a GF on as covered by @Propertunity the transaction isn't going to pay back in terms of equity but rather serviceability. This is what we need at this stage so we're evaluating a build on one or both now.

If you go down this path (particularly) then you'll end up sinking all your capital into the property and it'll be unlikely you can refinance/unlock what you spend in the upside value of the property. That will hold you back from your ambition of acquiring as many properties as possible. If that is the goal, I'd say consider buying another property rather than fund a GF build.

No reason you can't buy a property with future GF upside though, the key question is what sort of yield can you get? Also keep in mind that councils often change rules / regulations so future development potential is just potential until you get to the point where you need to realise it.

 

Yep this is exactly what I thought, and it is the sentiment being shared by many investors. Even if the granny flat + house (combined) give me an extra $7k - $8k a year in income, this is a wildly inadequate pay off for the sheer amount of sunk capital which it will cost me.

For an extra $8k a year, I can simply obtain a second job (which would way outstrip that $7k - $8k income) or negotiate a higher base salary at work.

Thoughts?

 

Agree - from a pure transaction perspective one we're looking at will cost $140k for the GF (inclusive of all costs) and rent for about $14k a year. From a cashflow perspective the return on capital is good but the property won't be valued $140k more.

That $140k could be better utilized at this stage as deposits for additional investments assuming you've got serviceability.

PS: You should negotiate that higher base salary in any case

 

Somehow you need to work out your strategy.

This probably should be done before going down the BA path - but equally the BA might be able to assist you with it.

For us the strategy with IPs has always been about getting big and quick capital gains.
Some of the knowledge about cycles, infrastructure, value add etc came later - but we were always trying to pick some that was going to up in value.

I'd suggest that should be your focus also - to find the block of land that will increase in value bigger and quicker than any other block that you can afford.

Now our strategy started to drain our cashflow - this can be a difficult period where you have to really manage your money closely. After a while we the built granny flats (3), did renos and looked at multi-occupancy to improve cashflow.

At that time it was a lot easier to address the cash flow after the equity has been built up - I don't think it would have worked as well if the focus initially was on cash flow.

Maybe times have changed - but you'll need to get to your on view on that.

 

I still believe in the importance of cash flow, but I just believe it is much more integral to build a strong equity position which can be manufactured into a higher amount in a short period of time. Obviously cash flow is important, but I believe at the start, it is the strong equity position which will allow you to continue to grow your portfolio. Serviceability may become an issue, but at that stage, I would rather just obtain a second job or ensure I have a higher base pay to continue increasing my portfolio. I just don't believe in sacrificing such a huge capital position for an extra $7k - $8k in cash flow. That's just crazy. By the time that is built (18-24 months), there are many other things you can do to increase your serviceability by 2 or 3 times that amount (quite reasonably) AND you won't have sunk all of your initial capital into an asset that isn't going to quicken your acquisition phase.

 

The benefits of adding a Granny Flat to a property after a 12 month period are the fact that you will be able to claim the depreciating value of the Granny flat on your taxable income and you will also be able to leverage the income that you derive from the property.

In the future this property may be more appealing to a potential buyer due to the fact that it provides dual income upon the one title.

i don't feel that the BA has led you astray from the information that you have provided.

 

Good to purchase a property which has the 'upside' for future granny flat build - however, in our experience, before you go build that granny flat, direct your capital toward your next property, property after that etc.

We also considered the granny flat approach early on in our journey, and then decided its best to put that capital toward another property.

As you call out, you can make up for that cash flow elsewhere (work etc), so better focus on a second quality property which will give you further exposure to the market. If a second property worth $300k to $400k grows 10%, you have an additional equity of $30k-$40k. Where as $140k odd granny flat won't give you the same.

Also to add - lenders may cap the rental yield they take in for assessing your borrowing capacity e.g. CBA caps it at 6% - so it may not necessarily help.

Good luck!