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August

2014

Capital growth verses rental yield

It would be great if we could have both, but unfortunately in our current property market this is rarely or indeed not possible. Most of the time it is a choice between either one and ultimately will depend on your finances as well as your investment strategy.

If you look at strong capital growth, it seems obvious that this is the choice to generate long term capital profit. Unfortunately, most of these type properties generate less income (rental yield) and therefore they are always negatively geared. If the investor needs the tax breaks, than this will help support the investment until the property is sold or becomes positively geared over time with better rental return and less debt on the property.

Properties that generate a higher than average rental yield, usually can be positively geared from the outset, providing funds to pay all expenses as well as the possibility of paying down debt. This type of investment is less risky and will usually shield the investor from interest rate shocks and injected cash amounts into the property.  The down side of these types of properties is that they do not usually show strong capital growth, and hence when it becomes time to sell, taking into account the compounding impact of year on year growth, the return can be very disappointing.


So which is best? It might not necessary be the property that brings the best return as this strategy might not fit the profile of the investor. Ultimately, this decision is decided with what makes the investor most comfortable with their investment. There is no doubt however, that to achieve maximum growth from your property, capital growth should always be at the forefront of your decision when purchasing.   The graph below is an indication of the differences a few percent can make over the long term with an investment property. Property A has been purchased with Capital growth in mind whilst property B has been purchased for rental yield. 

     

             Today

                       In 15 years

Properties

Growth%

Rental yield%

    Value

        Rent

       Value

        Rent

      A

   7%

   4%

  $400,000

    $16,000

       $1,103613

      $44,145

      B

   4%

   7%

  $400,000

    $28,000

       $720,377

      $50,426

Of course the figures are an average and depending on the losses that property A has accumulated through being negatively geared, the differences between the values indicated in 15 years would be less
.

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