Investing in property for income, without comprising growth
The debate about whether you are a cash flow property investor or a growth investor has been raging as long as property investors have been around. I’m not personally a believer that you must choose one over the other – my own portfolio is full of properties chosen for the fact that they had the capacity to grow in value while they delivered a healthy positive cash flow to me, and they’ve all done just that.
Flowing on from that is the incorrect notion that if you found a property that had a high positive cash flow, which also indicated a high yield in relation to purchase price, it would be in an area like a regional town, with potentially low growth. The reverse notion also applies – if you want growth, you have to buy in a big city.
In fact, property with good yields and potentially high cash flows does exist in high-growth areas, and high growth areas with good yields are found all over Australia. And so, property investors need to understand that, when they buy property, it should not necessarily be with the aim of getting ‘good growth’ or ‘good yields’. It must be for both. The choice about what to buy should relate to the characteristics of the property and area.
Having said all of that, you should know that cash flow and growth, while they can happen in the same area, rarely happen at the same time. This is because the factors which contribute to each of these events are different. Let’s take a look at what those influences are.
Cash flow influences
The potential to achieve a good cash flow on a property is impacted by a number of factors, including how much access to depreciation an individual property has, an investor’s own marginal rate of tax, and the interest rates of the day.
Of equal importance, is the potential yield for property in an area. This will be strong, and increase, based on the following factors:
- A new industry or large employer coming to the area and improving employment prospects. The result of this is that people initially move to the area for the work, and rent in that area. It takes upwards of two years for these people to consider becoming permanent residents, at which time they are likely to make a purchase decision if the area presents enough employment opportunity and community amenities.
- An under-supply of rentals available and low vacancy rates. These areas are not ready for the influx of new people and existing property feels the brunt of this sudden growth. Vacancy rates tumble and landlords are easily able to increase rents in response to this.
- An adjacent city or town having rents too high. Once rents and prices grow in an adjacent city or town, people will move outward to those areas within easy commuting distance, and that area then experiences pressure on its yields. Those moving are more likely to initially rent, as many of them may have plans to eventually buy in that original area once they can afford to do so.
Property value also grows as a result of a number of factors:
- The growth in the existing population. This, however, will lag behind that initial boost in population which comes from migration, as migration usually impacts yields first. Population which is growing organically, as a result of people who have made ties in the areas and are starting to have families, is the kind of population growth which usually results in property prices moving higher.
- The increase in demand from buyers. This is linked to many factors, including population growth and the establishment of industry. I often find that an area where small businesses are growing is an area where property prices are on the move, since the advent of more small business is a sign of intrinsic economic growth.
- An under-supply of listings in the area. This occurs where population is growing organically, putting pressure on existing properties.
- The solid establishment of diverse industry. This is opposed to the increase in size of a single industry.
- A vibrant local economy. This refers to an area where the residents are becoming more affluent and incomes are growing.
When these factors exist, people choose to settle in an area, and when they do so, we see a real increase to property values which is sustainable and consistent over many years.
As an investor, you must first work out what you need, at the exact time you’re buying. Are you at the point in your investing life where cash flow is of prime importance, or is it growth you need? Maybe you can buy one or two properties with growth, then one or two with cash flow, and so on. You must plot yourself on a yield/growth continuum and be guided by those needs when it comes to area selection.
Narrow down those areas which have the best prognosis for investing success, and then eliminate those which cannot satisfy your immediate need for either cash flow or growth. As you carry out your due diligence, you will pop areas onto your list which are from both the regions and from the cities, that have a strong yield or strong growth prognosis.
Your ultimate selection must not rely on whether it’s a city-based or country-based property, the price, whether it’s favoured by others, or whether you’ve read about it being a hotspot.
Your selection must be due to the area’s ability to ultimately deliver both cash flow and growth, and your needs right at this time (i.e. which is most important to you).