Real Estate Investor Magazine South Africa September 2013

STRATEGIES BY KOOS DU TOIT Does High Risk = High Returns I t is a myth that buy-to-let property is a high risk investment. This is because, unlike many other investments, buy-to-let property investment allows investors to manage – if not eliminate – all the major risks involved. Or is low risk better? This, however, may concern investors who still believe that high risk equals high return. But this, too, is a myth that has been perpetuated by investment companies and asset managers – and certainly not in the interest of their investors. 1. Buy-to-let property investment produces an ongoing, passive and inf lation-linked monthly income as rentals increase in line with inf lation each year. After expenses, the rental income goes straight into the investors pocket – there are no fees and hidden charges that can significantly affect investment performance. 2. In addition to this monthly income, buy-to-let property also allows investors to earn capital growth on the value of the property as property prices increase over time. 3. Buy-to-let property further allows investors to apply gearing or leverage to acquire the property asset. To acquire a R500 000 property, you may need no more than a deposit of R50 000, and in some cases, you will need no lump sum investment. This makes a massive difference to the return on investment figures, because you are earning returns without investing much – or even any – of your own money. High risk doesn’t always equal high returns High risk investment does not guarantee a high return – it only provides a possibility that you could make a lot of money, with far less emphasis on the fact that you might not… and that you actually face a significant risk of losing your money. The reason why high risk investments offer high returns is not that high risk delivers guaranteed high returns, but rather that no one will invest in a high risk investment vehicle – with a significant possibility of losing the money invested – unless a promise of a high return is attached to it – and this promise of a high return is no more than a possibility that the investment could yield a high return. Spectacular returns In fact, if the returns on a buy-to-let property investment are correctly calculated, taking into account the monthly income, the capital growth and the effect of gearing, the returns produced by buy-to-let property is nothing short of spectacular. = R25 000 = R25 000 = R50 000 = R16 000 = R66 000 = 37.8% If one takes a R500 000 property as an example, requiring a R50 000 deposit (the actual out-ofpocket investment made) and one assumes a R4 000 per month rental income, 10% interest rate, 5% capital growth and 8% inflation of costs and annual rental, the returns achievable are detailed in the textbox below. And that is a high return on a low risk investment! Of course, next year and each year thereafter, these returns on investment will grow, because capital growth is compounded each year and, as the rental increases every year, the out-of-pocket investment per year continues to diminish. After a few years, the rental income exceeds the bond repayments and the other costs, which then adds rental income to the capital growth in the returns section, and eliminates the out-of-pocket investment, and the result is truly spectacular returns on investment. Low risk, high returns There is one investment – buy-to-let property – that is truly low risk, and yet produces high returns, if done properly, for three simple reasons. Year 1 Returns Annual capital growth (R500 000 x 5%) Rental income (R4 000 x 12 = R48 000) – not included as covers bond Total Returns Out-of-pocket investment Deposit Bond repayments (R4 000 x 12 = R48 000) – not included as covered by rental Interest, levies +taxes and other costs not covered by rental income Total Out-of-pocket investment Total return on R66 000 investment Year 2 Returns Annual capital growth (R525 000 x 5%) Rental income (R4 320 x 12 = R51 840) – not included as covers bond Total Returns Out-of-pocket investment Bond repayments (R4 000 x 12 = R48 000) – not included as covered by rental Interest, levies +taxes and other costs not covered by rental income Total Out-of-pocket investment Total return on R16 850 invested Infinite returns The longer an investor keeps a property, the higher the return on investment. In fact, if the property is acquired in the right trust structure, so that it continues to produce these returns for generations beyond the investor’s lifetime, a buy-to-let property can produce infinite – or immeasurable - returns. = R26 250 = R26 250 = R16 850= R16 850 = 155.7% RESOURCES P3 Investment Group 24 September 2013 SA Real Estate Investor www.reimag.co.za

Real Estate Investor Magazine South Africa September 2013 | Page 26