Residential investment property has gained immense popularity over the past decade. Owing to the increase in demand for rental accommodation, and the resulting rise in rental income, more investors are likely to dive in the residential property business. However, not all residential properties are profitable investments, and some investors might lose money if they don’t choose with discretion.
When you set out to purchase a residential investment property, your key intent should be to leverage, in order to cut down on personal costs, and to acquire an income generating asset. Typically, you should invest in a property whose rental income will cover its entire mortgage and operating expenses. Such a property is said to be “self-funding”. Once the mortgage is repaid you have two options – you may continue to reap the benefits of a steady rental income, or you may sell the property at market value (provided the property has experienced appreciation) and invest elsewhere.
In general, there are two primary sources of income from any residential investment property: yield and capital gain.
Yield is the expected annual rental return, which is expressed as a percentage of the purchase price. For instance, if the purchase price of a property is $100,000 and its expected annual rental return is $8,000, yield is said to be 8%. The yield, in combination with the terms of the mortgage, determines the personal expense on the part of the investor, in order to acquire the property.
Capital gain is the appreciation in value of a property. Or in other words, the profit accrued from selling an asset. It is expressed as growth rate in percent on an annual basis. Capital gains are generally estimated from the movements in average property prices.
It is wise to analyze both the capital gain and yield potential when selecting a residential investment property. The typical problem faced by you as an investor would be that high yielding properties normally offer low capital gains, and vice versa. You should strike a balance between yield and capital gain, such that it best suits your investment goals. What constitutes the right balance depends on your expected capital gain and yield.
It is recommended that your expected returns from a residential investment property be based on a comprehensive analysis of current trends and market conditions. It isn’t advisable to rely on intuitions when scads of money are involved.
On the whole, a residential investment property is a viable investment option if the returns meet your expectations, and exceed those attainable from other possible sources of investment.
Copyright © 2006 Joel Teo. All rights reserved.