Over the last couple of days, we have talked about property
and why falling prices can have an adverse effect on the whole economy.
Despite the recent fall in prices, I still think property is one of the best long term investments an ordinary investor can put his or her money into. Bricks and mortar, as my mum used to say!
Let me tell you why.
Firstly, you can enjoy an income from your residential buy-to-let
or commercial property.
Secondly, you can also benefit from capital growth in the
value of the property over the longer term, as it has done in the past, although this is by no means guaranteed. You do not capital appreciation in a bank deposit account, other than reinvesting your interest, which means you no longer receive income.
Lastly, there is another reason why property has proved so popular and why I think it has the edge over the vast majority of
investment schemes that a financial advisor or bank will try and sell you.
Leverage
Leverage, or the ability to borrow money not only to help
purchase the asset, but also secured against the asset you are buying with no other security required.
Investors often take it for granted that you can buy a
property with a mortgage or loan and repay it over 20 or 30 years.
In the case of investment properties (as opposed to a residential mortgage), the tenant pays the mortgage for you and in most cases there will be a residual income
over and above the mortgage repayments.
You can also rent out a room in your own home, tax free, which could also pay your mortgage for you.
Okay, you need a deposit, which can range from 25 to 35% of
the property value depending on where you are and market conditions.
You can’t blame the banks for wanting you to put some skin
in the game. The deposit, or equity in the property, protects the bank’s
interests in case you should default on the loan or market conditions take a
turn for the worst.
Buy a £100,000 for £25,000
Even if you have to find a deposit of 25%, it is still an
amazing deal. As one investor put it to me in simple terms:
“I can buy a
£100,000 house for £25,000 and the tenants will pay the rest”.
She and her builder husband bought a string of houses in the 1990's, when you could buy a house for £60,000 in East London, and made a fortune.
Compare property with other forms of investments, such as stocks and shares, unit trusts or mutual funds, which the average financial adviser will usually
recommend as "sound investments".
Just for fun, ask the advisor if you can obtain a loan from
the bank in order to purchase these sound investments. Of course they will tell
you that this is not possible and if you dig a bit further you discover
that these investments are not considered as suitable security (or too risky) for a bank
loan or mortgage. The bank would probably consider this to be speculation and
would not give you a loan to buy them.
On the other hand, banks are
happy sell you these products, many of them
managed by their own fund managers, as a medium risk investment to help secure your future. They are happy for you to risk your money, but they would not risk their own money.
Most pension schemes invest in
similar funds, the value of which can go up or down depending on the markets.
An increasing number of younger people are placing their retirement in the hands of a
fund manager and the whim of the markets when they retire.
Unlike property, you have little or no control over these investments, which
will also be depleted by management charges and some upfront commissions.
Inflation reduces the real value of your mortgage but increases the value of you house
I have purchased most of my investment properties on
interest only loans where I do not pay any capital back on a month-to-month
basis.
I allow inflation in property values to take care of the
loan, which will be much smaller in real terms by the time I get to the end of
the mortgage.
In other words, if you borrow £500,000 today, the value and
purchasing power of that amount of money will be much smaller in 25 years time.
You may even be able to pay it from your savings or pension.
Over the past few centuries, inflation has
increased the value of assets like property, but
decreased and eroded the buying power of the money in your pocket.
Think about it. If the Duke of Westminster's great, great, great grandfather had stuck his money in a bank instead of buying and developing most of the freehold land in London's Belgravia (Harrods, Knightsbridge, etc) would they be as wealthy today? Of course not! The family would have nowhere near the £10 billion or so the current Duke has inherited from his late father.
I also have the options of making lump-sum repayments or
even selling the property further down the line. If you bought two similar houses bought with same sized interest only mortgages and sold one 10 years later, the chances are you would now one of them outright. In the meantime, you have enjoyed two lots of income and had 'double bubble' in growth.
This is just my preference and you may wish to pay down
your loan more quickly by taking a repayment mortgage, which also has advantages. As always, take advice
from an independent financial advisor and a solicitor.
Build wealth from nothing
Getting back to leverage, the ability to use other people’s
money allows you to build a portfolio or buy far more than you would otherwise
be able to do.
When I bought my first residential flat in Ilford, East London many years ago, I could barely scrap
together a 10% deposit, or just under £2000 with fees etc, let alone save the entire amount to buy the
property outright. The loan from the Nationwide Building Society helped me get my foot on the ladder and out of rented accommodation at the age of 20.
In the six months it took from offer to completion, interest rates jumped from 12.25% to 15.25%, almost doubling my repayments! It was killing me! I had just got married and we had a baby girl, so went down to one income.
When I sold the property two or three years later during a tough recession we made a tax free gain of £10,000.
I used the money to put down a deposit on a 3 bed terraced house, which
also went up in value over the following four or five years.
Later, I released
some equity from my property and used the money to buy a second property which
was rented out.
To cut a long story short, I have repeated this process
throughout my investment journey and by using other people’s money (OPM) I was able
to create substantial equity and wealth from none of my own money. Remember, I started with just £2000 used to buy a tiny 2 bed residential flat.
Many other investors I know have done this far more
aggressively and built up portfolios of hundreds of properties after starting
with almost nothing.
I can hear some of you saying, well that’s alright in rising
market, but there are many other strategies you can learn which do not require
the property to go up in value so quickly.
Contrary to popular belief, you don't need 'money to make money'. You do need education and a little imagination - if you haven't got imagination, just copy other successful investors!
If you would like to learn more about property investment
and attend a seminar, I have a limited supply of complimentary tickets for an
event with a leading training provider - email me
charles@charleskelly.net.
