Time is right to build and rent
‘Build it and rent it’ is a new mindset that many Australian developers and institutional investors are now starting to embrace.
'Build it and they will come’, is an old adage, but ‘build it and rent it’, is a new mindset that many Australian developers and institutional investors are now starting to embrace. Given the continuing lack of affordability in the Australian housing market, it is a safe bet that you will have future tenants lining up to take new property stock.
Andrew Fawell, Director of Beller Property Group says that ‘Build and Sell’, is not the only way to grow wealth through property, as the ‘Build and Rent’ model is an approach favoured by investor developers who know the cost of development and where the big gains are to be had.
Despite much crowing about oversupply of apartments in Melbourne, for anyone who has looked to lease a livable property lately, they know that the reverse is true as rental vacancies are at a new record low.
The proportion of new affordable rentals in Victoria has shrunk from 20.7 per cent to 17.8 per cent in the past five years. Furthermore, rents are rising faster than incomes and the number of properties defined as affordable is rapidly shrinking. Beller’s portfolio is in the premium suburbs of Melbourne which is showing a vacancy rate of 0.05% versus the industry rate of 2.3% for March 2017.
“There is a real need in the rental market for attractive and affordable living spaces, not just one bedroom units,” says Fawell.
Fawell believes that we are now looking at potentially generational renters in Australia. A new concept in Australia however generational leasing is common practice in Europe.
In Germany, (which is an average benchmark for Europe) tenant friendly legislation and rental caps at 20% every three years is possible partly because of the role of large landholding institutions in Germany that treat their housing assets as long-term secure investments that provide a steady return.
The resulting long leases mean tenants can consider their rented property their home and fit it out accordingly. The tenancy protections supporting this arrangement act as a disincentive to speculators, which in turn reduces demand for investment properties and therefore competition at sale.
“Other countries have been signing 5,10, 20 year leases for generations and we see this as the way of the future in Australia. This is due to the affordability issues of buying and the entry barrier in the major capital cities of the world, it is unattainable for the majority of prospective purchasers to afford to buy in those locations and given the long hours of work, they want to be able to live, work and play within the same vicinity,” says Fawell.
Rent controls in France are also strongly in favour of the tenant and promoting long-term lease agreements. Rental increases are capped at no more than 20% of the previous lease. For existing leases, rental increases can only occur once per year and in line with inflation.
Building and renting is certainly happening at a private level and has been for some time and now its seen at an institutional level is starting to gain traction as Beller Property Group have several properties that are being developed by clients for the sole purpose of leasing and holding.
Namely, 405 St Kilda Road South Yarra has been built solely for this purpose and all 36 apartments have been leased. 737-739 High Street, Armadale has a permit for the same purpose and will start construction shortly.
“It’s great to see the institutional/corporate market starting to get on board,” observes Fawell.
Furthermore, construction costs are due to rise and buying sites to rent makes greater fiscal sense with less risk in this uncertain property climate.
“You get an income immediately from leasing out the property, together with depreciation, and you make savings on GST on the construction cost by holding on to the asset for 5 years, agency and advertising costs associated with selling,” Fawell continues.
These are astute institutions, which can pay more for sites because they take a long-term view with their assets. As they know there are significant savings to be had aside from capital appreciation, which adds up to a major increase of their asset’s value. The benefits are:
Retaining the profit and not necessarily triggering a large taxable profit immediately
Depreciation benefits 3% (including 2.5% straight line on buildings and 10% straight line on plant and equipment
Sales Commission Costs up to 6% on the GRV (Gross Realisable Value)
Advertising and marketing savings 2%
GST saving if retained for 5 years 9%
The logic behind the build and rent model is that prices will continue to rise on construction costs as the largest cost component to construction is wages which will no doubt continue to rise.
For well-located property to be developed the underlying land value will no doubt only increase especially in high demand areas. Banks increased equity requirements for developments will delay or constrain future projects continuing the current under supply theme. This will create further rental supply pressures and provide rental increase growth for the build and rent model.