Grow Capital First

Thought I would share this email - it makes perfect sense
(Simon Buckingham)


You might need a $5m property investment portfolio to build a sufficiently large stream of passive income to escape the rat-race...
…And a $5m portfolio might take $1.5m worth of investment capital - in cash for deposits and closing costs.

So if you don’t have $1.5m to invest right now - how do you get to this point?

How do you turn the capital you have right now into $1.5m - so that you CAN buy the $5m worth of property you need to generate enough passive income to retire?

Perhaps you become an expert on timing the market for quick capital growth…

Or you do a few renovations or subdivisions...
Or a development or two...
Or some joint venture deals...
Or something a bit more creative...

Whatever the case - the first question to answer when it comes to positive cashflow is: how do you do something that will build your capital more quickly - far more than the rate of median house price growth - so that you CAN buy into the deals you need for passive income.

Because if you’re just buying for positive cashflow - the chances of you actually achieving your goal of enough passive income to retire on are slim.

This is the passive income paradox...
If you want passive income - first, you need to grow your capital.

 

A bit from column A and/or column B.
A bit from column A and/or column B/C.
A bit from column A and/or column B/C/D...
There's no definitive answer I don't think.
Some people fluke a boom and think they're an expert.
Some people go all in for a mining town and get stung.
Slow and steady, or gung ho.
Each to their own, can only really judge upon reflection.

 

I have a little theory that suggests rather than focus on capital gains or focus on cash flow, focus on growth.

Growth of capital gains and growth of cash flow.

If you're purchasing a property today that is positive cash flow but in a location where the cash flow is dependant on social security income, there may not be much growth in that income. If a property brings you $50/wk positive cash flow it's going to take a lot of properties to retire on.

If the portfolio is heavily negative cash flow but focus' on high CG locations, it will get difficult to afford multiple properties due to the ongoing cash flow losses.

A growth property might be a bit negative cash flow on the day you buy it, but the cash flow is expected to increase steadily. It would become positive cash flow reasonably quickly and that increase would continue steadily over time. Likewise it might not have the highest growth available, but it will be a solid performer building equity over time.

 

It is the obvious thing to do and realised this ourselves after our first property, so we started a business which bought us a lot of properties now.

I think most newbies fall for the spruikers spiel about building massive portfolios on average incomes, then get stuck on just 1 or 2 properties. Maybe some can get lucky with fortunate market conditions rising for years on end, but those who miss this may struggle.

If you want to build a portfolio fast in any market conditions, you need to build your capital base fast.

 

To me it all depends on how quickly you want to exit the rat race. On how much time/energy you can dedicate to building growth early on, WHILST slogging it out in 9-5 (or in more likely instances... 8-6...) dayjobs

 

but if you had a choice to exit rat race in 10 years or exit in 20 years which would you pick???

 

Obviously the first one. I guess that choice is defined by the time you have to get projects going. I.e. raising the capital and time to do a development which would see you run out the gate that much faster; is harder to do whilst working 50 hour weeks and if you also have children etc. I think thats why many start out in passive strategies first, whilst working, then move in to things like development etc. Which do take up more time. If your job is flexible enough to allow you to switch to part time for say 6 months or even take a sabbatical, this could be a good way to give a more intensive time/resource/money project a 'go'.

 

There is without a doubt some luck involved when investing and in life, you play with the cards you have...... ie you don't lose your job, you don't get divorced, you don't end up with a serious illness etc etc , but it would be totally wrong to assume property investing is ALL LUCK.

Gung Ho does not = reckless investing, for some reason this is what seems to be the conclusion. Holding property forever - slow and steady is higher risk IMO because you are not strategic, managing debt in turning markets, it will most likely take much longer to reach financial freedom.

All to their own, however I think its good to explore all options, which means getting outside your comfort zone

MTR

 

not just about developing property, its just about finding opportunities in markets, if the mind set is hold forever you close the doors and therefore missing opportunities. Its far easier to go this way, nothing wrong with this if this is what investors want to do.

 

.... yes agree, and you have a successful business. The average person in a day job needs to work smarter, OK, I know cliché but I know this from experience.

.... and these are some ways to do it as mentioned above.

Imagine growing as an investor and fine tuning these skills what can be achieved. Its not that scary just have to change the mindset.

become an expert on timing the market for quick capital growth…
Or you do a few renovations or subdivisions...
Or a development or two...
Or some joint venture deals...
Or something a bit more creative...

 

Having 1.5 Million capital doesn't mean you can purchase $5 million worth of property. Its a fine theory, but using the maths above , if that @$1.5 Million capital provides sufficient funds for 20% deposits + stamp duty + closing costs for @ $5 million in residential assets, the investor or investors in question still need to be able to raise $4 Million in residential lending - ie the other 80% of the $5 million.

If they purchase properties with yields of 5% , they'd need incomes of 200K + ( excluding rent) at most lenders to be able to access $4 million in debt. And that's if they are single, have no dependent children and no credit cards or personal loans... and no PPOR mortgage. There are a few exceptions such as Pepper, Liberty, Heritage, Quodos Bank etc, where this could be achieved with 160-170K income ( excluding rent) , but none of those lenders are likely to take that level of exposure, so even at those levels of income , $4million dollars will not be easy to access.

For couples, with 1 dependent child and just 10K of personal loans or credit cards,but no PPOR mortgage, the household income required would easily exceed 230K ( excluding rent) at the better lenders, and 300K + ( excluding rent) at the more conservative lenders.

The point is - so many posts here just assume people can get the loans to do the things they are suggesting... just do a reno. do a JV . Do something innovative.... etc etc etc...It used to be far easier pre - regulation. It isn't so straightforward now. Borrowing capacity considerations really cant be ignored any longer. And when considering how to reach a portfolio of $5million, even where you have a very large capital base, borrowing capacity must form the core of the plan nowadays, or the plan simply wont be realised.

Regarding the comments about positive cash flow - I agree that regular, run of the mill positive cash flow , say 5% or 6 % yields, it will not get you there. As has been discussed here many times , on the majority of lending calcs now, you need to generate 10-12% yields (pre tax, not post tax) to improve or even just maintain borrowing capacity. Anything less absolutely, unambiguously detracts from borrowing capacity - no if's nuts or maybes. So if you can achieve yields of 10-12%, you can ( in theory at least ) borrow indefinitely at 80% or below and pretty much never reach servicing ceilings. Anything less than that though, and you'll need a very large income as outlined above, otherwise all the capital in the world, all the equity in the world, wont help ...

So let's be honest with the advice offered here to new investors ... those sorts of yields aren't realistic. You may reach those yields after 15 + years of ownership, as rents increase slowly but surely, but that's not really helpful in getting you where you want to go. Which means that for those not earning several hundred K and who wish to borrow several million to build a resi portfolio large enough to achieve a passive income for life ( $5million in this example) its just not going to be possible on conventional incomes, using conventional approaches. Those suggesting it is, are ignoring the reality of the regulated lending environment.

The positive cash flow that you DO you want is the extreme kind. The kind that will allow you to pay down a lot of debt as you go, which will improve borrowing capacity - which is now THE end game. So either find 10-12% yields ( pre tax, not post tax remember - good luck with that) , or buy high yielding dual occ regional stock that can generate 6-8K CF+ , or buy NRAS which can generate 8-10K CF+( tax free) . Either of the last 2 options will allow you to aggressively reduce debt, which in the end is the only viable way to get where you want to go, for those not earning several hundred K.

 

I feel that you need a balanced approach to investing...a lot of people get this wrong. Investing in a capital asset is great but CF is also very important...having said that you are correct in saying that no point of having 10% returns when there is no capital growth.

From my perspective here is what a balanced growth property addition to your portfolio should look like:

1. Properties which can growth at 6-8% pa. Note that growth may not be consistent but overall over ten years it should double.

2. Properties ideally are in 250-400 band as these also typically return between 5-7% returns to support future borrowings.

3. If you are buying H&L land or developing ensure that you have a 15-25% increase in value as a minimum and 5.5-6% return.

4. Diversify into different markets...because if you are invested in one market..it could be down for a longtime which will cap your ability to acquire more properties.

5. Take a 5-7 year view as a minimum. Not many people get it right by swapping and changing. You could be destroying your wealth.

6. Finally a thought for everyone ...buy more properties not less to manage your tax affairs. I know a couple individuals who bought 1-2 IPs in Sydney for 600s...now they are worth 1.3m. The issue they have is their rent is now 680pw but the land tax just on this property is 6-8k. They still have a debt of 550k.They are now struggling with the whether to sell in which case they will hand back 180k to govt but the same time they are grappling with the fact in a couple of years it will be worth only 1.1m. Decisions...decisions....making 150-200k gain is bliss..as most people can manage the tax liability and get it down to say 10-20k. Things to ponder....

 

You definitely need both, growth and cashflow, and it's possible to do.
people on low household incomes or wages unfortunately will be waiting a longer time if they purchase highly negative geared properties. they will be maxed out pretty quickly.
Only way to increase your buying is upping your wages, or pay down debt, or creating profit through building, selling off with plans, renovating.

 

Correct exactly what I am saying.

There is middle ground somewhere to balance growth and cashflow...that is the only way to get past 5 or more properties. Obviously, if you have a high income it helps but even there you will hit the way when you get past 7 properties if you are not buying the right stuff.

 

10-12% is the correct figure, not 5-7%. No lender will increase your borrowing capacity based on 5-7% yields.

 

You will not buy quality property with 10-12% returns sure over time it will hit that.

You just need the right lender and right client profile. It is still possible just a bit harder now.

 

Great reality check here guys. Reading the Michael Yardney book right now and he makes it sound so easy. Buy the right property in the right suburb, watch the capital growth increase and be a property millionaire in no time! The assumptions being the investor buys the right property, and capital growth of 8%.

 

Michael Yardney does not necessarily get it right, he makes his money/income from his BUSINESS, its not just property ie BA, mentoring, project management/developing, books.

He advocates blue chip all the way, the thing is history proves that this is a myth,, blue chip does not always provide the best growth and it is not bullet proof. When markets turn these properties also fall I in price.

We only need to look at the recent Sydney boom to realise that the boom started in Syds west, undesirable areas and some of these areas achieved the best growth, outperforming some blue chip. When Sydney had its bust cycle 2007? blue chip got hammered badly and took years to recover.

Same can be said for other areas in Australia. I am not stating blue chip wont make a great long term investment however I am stating people need to do their own research because the information presented is not necessarily correct. Gurus want an easy life, I would too if I was trying to sell, much easier to convince investors to buy blue chip and easier to source.

MTR

 

This is 2nd time you've posted comments stating that 6-7% yields improve borrowing capacity, if you can just somehow magically find the right credit guy at the right lender who will ignore bank policy and treat you differently. ie circumvent the rules that are being applied to everyone else.

It's a fantastic claim if it's true, and perhaps you have found that magic bullet that no one else on these forums has found, but I have asked you previously to provide evidence of how this achieved and you failed to respond....

The maths is very simple; the overwhelming majority of lenders assess debt at between 7% ( at best) and 8%, and most accept just 70 or 80% of rental income, so even a first grader can calculate that 70 or 80% of 6 or 7% yield simply isnt sufficient to break even against 7 - 8% assessment rates, let alone sufficient to improve capacity. Lots of very experienced brokers here, who deal with clients with very large portfolios and have large portfolios of their own, agree with me that 10 -12 % yields are required to improve capacity, so your views on how you can improve borrowing capacity with much lower yields defies logic.

Im happy to be proven wrong..but until you can produce something other than throw away lines with zero qualification or evidence, Im calling BS.

 

@euro73 for the most part I agree with you, but there are still some lenders that take actual repayments on existing debts and thus still have very good servicing results for investors.

They're not exactly mainstream lenders though and I wouldn't recommend them except as a last resort. There's plenty of other restrictions that means they're not a perpetual ticket to buying more properties.