Tag: Property

Review of the Ripehouse Advisory COVID-19 vs Australian Property Report

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I recently took part in the Ripehouse COVID-19 survey along with 146 other industry experts and academics and have now been able to view the report in full. I commend the team for putting the report together, especially during such a fluid and evolving set of circumstances. Real estate is such a pivotal part of the Australian fabric and the report cuts through much of the typical media noise around the very real concerns homeowners and investors have alike for the trajectory of the property market.

The research asked several questions of the experts around the likely direction of property prices based on a framework which is very likely to almost exactly match the real word scenario. Thankfully that makes the opinions and information even more valuable.

The report was broken into a number of key areas and I’ve addressed five of them individually below;

  1. When will property be hit hardest?

The consensus view was that it would likely be at least three must before we saw the evidence of any price movements within the data. Realistically, my view is that this the minimum time frame due to the lagging indicators and time it takes for a property to be properly marketed by the agents and for a settlement to take place and be report by the ABS, Core Logic etc. It remains to be seen if there will be some properties hitting the market with a shortage of buyers as suggested by REIWA President Damian Collins. I certainly think that opportunistic buyers will be active in the market and it’s a possibility that we’ll see extremely low transaction volumes but potentially a relatively balanced supply and demand equation. However, it’s likely that the buyers will be in the strongest negotiation position and certain locations and sectors of the market will suffer far more than others.

  • Which housing demographic is most exposed to COVID-19 Fallout?

The report found that 42% of respondents believed that lower socio-economic areas would be most impacted. In my opinion the definition of ‘exposed’ is interchangeable with ‘suffer(ing) hardship’. Those mostly likely to suffer hardship are property owners without a significant enough buffer to weather the storm. Active property investors in their accumulation phase are typically highly leveraged and this could force them into a position where they need to sell if their tenant isn’t able to pay rent. Of course, the freeze on mortgages from the banks provides some significant respite to those in that situation. The same issue of having a buffer is true for households. There’s enough evidence to show that even average households don’t sit on cash reserves that would enable them to go without employment for a month or more, with those in lower socio-economic demographics living much more week to week. Those employed in casual positions, and or in industries such as travel, hospitality and retail are likely to suffer disproportionately in my view.

  • Which state do you think will be hit hardest?

Around 73% of experts pointed toward NSW as the state most likely to be hardest hit. NSW has suffered the highest infection numbers and when combining this with a higher density than other states and a higher cost of housing, this makes NSW more venerable to cost of living pressures as unemployment increases.

  • Which property sector will be most impacted?

The report highlights that most of the identified sectors are likely to suffer, with retail, hotel, holiday homes and AirBnB style properties taking the brunt. Respondents were clearly most concerned by AirBnB properties in their comments. I’m included to agree with Damian in that those with flexibility to move back to a tradition rental model will minimise their losses and that holiday homes will suffer for the next little while, especially in regional areas with high unemployment.

  • Do you see upwards or downwards pressure on price?

This question was an interesting one that presented some interesting answers. The question asked about prices looking towards March 2021, so roughly 12 months’ time. Many commentators suggested prices would be the same, if not higher. My view is that it’s just a question of timing. There’s no doubt that the strong fundamentals pre pandemic will return, but it’s a question of whether 12 months is enough time. My view is that it’s possible, but 12 months is probably the earliest we could see prices rise unless we see a relaxation of lockdown and distancing measures before the end of middle to end of May.

The report shares some adroit suggestions on the suburbs most likely to be hardest hit and is well worth a read. No surprises that locations with a high exposure to short term accommodation and tourism are predicted to be hardest hit.

In summary, the report provides some excellent insights from industry experts and commentators, as well as policy suggestions to help the property sector remain robust, which is especially important given how import it is to State Government budgets and as a major employer of Australians.

As for how the crisis likely to impact the Quantity Surveying/Tax depreciation sector, it will be like many other industries that are reliant on transaction volumes such as real estate agents, conveyancers, pest and building companies etc. However, the data shows there’s a significant lag effect between the actual transaction and an investor contacting a quantity surveyor. This indicates that most of the ‘pain’ will likely arrive at least 3 months after the market starts to move. Unfortunately, that exposes companies with pipelines that lag the market as much of the support nets such as Job Keeper arrangements are set to expire in September. Hopefully the curve continues to flatten, and our rates of infection continue to decline, and we don’t suffer localised outbreaks as we begin to relax the lockdown measures. The best news for the real estate sector is a swift and safe return to normality as soon as possible.

Mike is interviewing Ripehouse Advisory CEO Jacob Field on a live webinar on Wednesday the 6th of May at 7.30pm. Register here for the event or a copy of the replay and we’ll get you a copy of the research paper.
https://event.webinarjam.com/register/7/yyvrgsv

Mike Mortlock is a Quantity Surveyor and Managing Director of MCG Quantity Surveyors. MCG Specialise in Tax Depreciation Schedules and Construction Cost Estimating. You can visit them at www.mcgqs.com.au/ Mike Mortlock is a Tax Depreciation expert, Quantity Surveyor and Managing Director of MCG Quantity Surveyors. He is a regular speaker and commentator having been featured in the Financial Review and Sky Business. MCG Specialise in Tax Depreciation Schedules and Construction Cost Estimating for investors. You can visit them at https://www.mcgqs.com.au/

What the 2019 Federal Election result means for property investors

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This question will be sliced and diced a million different ways over the next week or two, but I wanted to give you my thoughts on it.

In the short term, it’s going to provide a lot more certainty, and it will be back to business as usual eventually. A lot of investors and even prospective homeowners were sitting on their hands patiently waiting to see the results of the election. A Labor Government would have likely resulted in a boost in investor activity prior to the 1st of January 2020 when their capital gains tax and negative gearing policies were to be implemented. My view is that they were never likely to get the legislation through the Senate, but investors would have been looking to lock in a grandfathered property regardless. However, all this was prefaced on the idea that they could get finance. For investors especially, this was likely to dampen what should have been a very busy period for investors, followed by a short period of tumbleweeds invading open homes.

With the Liberal Government holding onto power, there’s much more certainty in the property market. Not just because the sweeping tax changes won’t come to pass, but also because those changes would have had somewhat unpredictable impacts on prices. In my view, property prices would have softened under Labor while rents rose as supply dried up, but nobody could have really predicted the impact of a brand-new property losing its’ advantageous tax status when sold to the next owner. A brand-new property would have been eligible for the CGT discount, negative gearing and full depreciation benefits rather than just the division 43 structural component. A valuer would have to take into consideration the fact that a new owner would incur much higher costs to hold that asset without the tax concessions, effectively lowering the value of the property.

If the election showed anything, it was that investors and small business owners don’t like being labeled as the ‘top end of town’, which makes perfect sense when you take a good look at the stats on the average investor. The idea that first homeowners were being shut down by swathes of investors purchasing their 5th, 6th or 30th property was shut down with ruthless efficiency. The tax policies relied on some dodgy data, which cost the Labor party some ground in the first week of the campaign. It begs the question whether the potential impacts of the proposals were fully understood by the party. Post-election night, Labor party leadership challengers were quick to distance themselves from the sweeping proposed tax changes, and party insiders’ question whether Chris Bowen is too damaged by his close association with the tax and franking credit policies to lead the party to the next election. Anthony Albanese stated that Labor would revert to a “blank slate” on its policies which may see Labor going to the polls next time around without their CGT and negative gearing policies which would be good news for the property market. APRA have shown that they’re more than capable of curbing investor activity and tax changes aren’t needed to slow investor activity.

The election also showed that Australia demands more action on climate change. One wonders whether the Labor party would have been in front with this message alone should they have been less aggressive on the tax reform front. Tony Abbott’s exit is an interesting development and hopefully provides more scope for the Prime Minister to implement policy on climate action, as the country, including a few newly elected independents, are going to be demanding it.

Property economists are now likely to be more certain in their calling of the bottom of the property market, and the single biggest property price appreciation headwind in my view is now the availability of finance. The 7.25 percent stress test and serviceability requirements will need to soften for any real booms to materialise within the next few years.

Analysis of the Budget Changes to Tax Depreciation on Plant and Equipment

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UPDATED 11/5/2017

If you’re not already aware, last night’s budget announced some major changes to tax depreciation that will have a huge impact on quantity surveyors preparing depreciation schedules and residential property investors. I’ve been fielding calls and emails from accountants, investors and quantity surveying firm directors through the evening. There are two main ‘buckets’ of depreciation, there’s division 43 which relates to the structure of a building (concrete, timber, gyprock, tiling, cabinetry etc.) and division 40 which is plant and equipment items. Plant and equipment items are loosely described as items easily removed from the property without damage. Within a residential property, there are predominantly air conditioners, blinds and curtains, carpet, floating timber floors, ovens, cooktops, dishwashers, range hoods, hot water systems, security systems, smoke alarms and light shades. The list is quite long at around 150 individual assets, and apartment complexes will have a much larger list of shared plant and equipment items like lifts, fire indicator panels, swimming pool filters and the like.

The Government has just announced that there are now only two ways you’ll be able to claim depreciation deductions on plant & equipment items.

  1. You buy a brand new residential property*;
  2. You add the plant and equipment item directly yourself

This means that if you’re the second person to own a property, even if it’s only a year old, there will be zero depreciation deductions attributable to the plant and equipment items. This applies to residential investment properties where a contract was entered into from 7.30pm on the 9th of May 2017. If you’ve purchased an investment property prior to that date, you’ll be able to continue to claim plant and equipment items until the values either run out, or you sell the property.

What does this mean in real terms for the depreciation deductions for property investors?

Thankfully we’d already begun an analysis of our last 1,000 residential depreciation schedules, albeit for a completely different purpose. Nevertheless, here are some of our key findings;

  • Of our last 1,000 schedules, 38.3% of them were purchased brand new and would be unaffected by the changes.
  • 69.9% of the properties were built after the division 43 cut-off date of 16/9/1987, so there would be depreciation claimable on the original building structure
  • Of all the properties built prior to the cut-off date, 63.8% have been renovated to some extent by the current owner. The average total value of this renovation is $39,191

So the key takeaway is that if we remove from the 1,000 figure, all the properties that would benefit from a depreciation schedule (built after 1987, renovated to a significant extent by owner or previous owner) we’re left with 161 properties that would not have sufficient depreciation deductions to warrant having a depreciation schedule completed.

In some ways that’s good news for the industry, as 83.9% of investors will still have some worthwhile claims (at least $1,000 per year), and arguably the market for depreciation companies has not been cut in half. My cut-off point for ‘worthwhile deductions’ for those older properties was the average post-purchase renovation figure of $39,191, which I also applied to prior renovations.

If we look at an average $39,191 renovation, our analysis tells us to expect around $3,278 of that to be plant and equipment. Since plant and equipment depreciate at higher rates than the building structure, that has a big impact on the deductions in total.

Our analysis shows a first full year depreciation breakdown as follows:

  • Building Structure $897.83
  • Plant and Equipment $956.18 (under the diminishing value method)

As you can see, removing the plant and equipment deductions cuts the deductions roughly in half. Our analysis is slightly on the pessimistic side as it’s feasible a 39k renovation could have zero plant and equipment.

So according to MCG Quantity Surveyors analysis, whilst there’s still going to be enough value to justify a depreciation schedule in 83.9% of cases, the total benefit of the schedule will be diminished. Over our 1,000 residential schedules analysed, the average first year depreciation deductions was $9,407.73. For pre-owned investments only, that figure drops to $7,484.35. It’s reasonable to assume that around half of that value will be gone within the first year. On a 37% marginal tax rate, the after tax increased cost of ownership of your average established investment property will be around $1,300-$1,400 per year.

We urge accountants to direct investors to quantity surveyors to analyse the potential claims and caution property investors not to panic.

Do I think the 83.9% is a solid figure? Sadly not. The concerns is that investors will not chase their entitlements based on poor advice or misinformation about their entitlements. On the basis of 69.9% of properties qualifying for division 43 deductions on the original property, this is likely going to be closer to the true cut to the depreciation business. Of course again, misinformation may amplify the problem.

It’s a massive hit to property investors, but mostly to depreciation companies such as ourselves. The budget speech championed the role of investors in keeping rents down and providing accommodation to millions of Australians. This measure will increase the after-tax cost of holding a residential property and that cost will either be passed onto renters, or the supply of affordable rental properties will drop placing upwards pressure on rents due to demand.

This is a disappointing development and I urge the Government to consider the clear majority of investors that are simply holding one investment in the hope of self-funding their retirement.

*Some developers and quantity surveyors are concerned that plant and equipment items on new properties might be excluded. Given the intention of the measures was to stop investors from repeatedly depreciating old assets on the event of each new sale, I cannot see this happening. If you buy a new property, the assets have never been depreciated so the deductions should be available.

Mike Mortlock is a Quantity Surveyor and Director of MCG Quantity Surveyors. MCG Specialise in Tax Depreciation Schedules and Construction Cost Estimating for investors. You can visit them at www.mcgqs.com.au/

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