In today’s show we find out from Ken Raiss, from Chan & Naylor, if new houses make better investments than established ones because of depreciation.
Kevin: As we dispel or maybe prove another myth – and that is that new properties make better investments because of depreciation allowances – I’m talking now to Ken Raiss from Chan & Naylor.
Probably a reasonably common misconception, maybe. Do you think?
Ken: I think so. Definitely a misconception.
Kevin: A lot of people think that depreciation only comes with a new property.
Ken: Depreciation comes with any property. Obviously, a 100-year-old property might have very little, but it could have been renovated and had some depreciation on the renovations. People don’t understand what that is. Depreciation is an expense but without a cash outlay. The benefit is only in the tax, so if you’re in a low-tax situation or a no-tax situation, then it has little to no benefit to you in any case.
What we have to look at is are we buying a new property that could, in fact, be overpriced? That’s because the developers have their margin in there. Can I say, there’s even less price comparison, because if you’re buying a new property in a building of 50, they’re all the same price, so there’s very little room to maneuver to negotiate a lower price.
The other important thing… And I think it’s a funny thing I’m going to say, but nevertheless true. The name of the game is to maximize your capital growth and income, and people forget that. They look to maximize the things on the fringe, not the main game.
When you’re buying an investment property, you’re doing it to make a profit, to create income for you in the future, and that income is derived from two sources. It’s the increased capital gain that comes over time, which allows you to increase your rent. It also comes from the capital gain itself, but even if you don’t sell, that increased capital gain is crucial because in a lot of instances, it allows you to borrow against that increased capital growth to then go and buy another investment property. It becomes the feeding trough, if you like, of your investment portfolio. You always have to keep that pool growing, so capital growth is critical.
When you’re buying a new property, you’ve really only got the market forces that will give you that capital growth, that rent. If you’re buying in a slump or you’re buying in a time when property prices have been depressed a while, you just have to sit and ride it out, but if you can buy an existing property that you can do a renovation to, then you’re actually manufacturing your own equity. That gives you capital growth, that allows you to increase your rent, and it also allows you to borrow for future investments.
Kevin: Also, when it comes to depreciation, Ken, there are things like scrapping allowance, which I’d like to talk about, as well. That applies if you’re doing some renovations.
Ken: Correct. You have to be careful. You have to do the renovation in between tenants to be allowed to claim that scrapping schedule. What the scrapping schedule allows you to do is put a value on all those things that you’re throwing away.
A lot of people buy a property and develop it. They might buy a single property and build a duplex. You can them do what’s called a demolition schedule, which allows you to write off that amount of the building depreciation that hasn’t already been claimed.
You get those in the year that you either did the renovation or the demolition. Then when you build the reno or the new property, you then get a depreciation schedule and depreciate from that point onward. They’re critical.
Just thinking a bit wider, the other thing a lot of people forget when they look at depreciation is if you buy in multiple names, you should get what’s called a split depreciation schedule, not just one. So, one for each of the people on the title. That allows you to significantly increase the rate of depreciation.
Kevin: Ken, any closing points?
Ken: One crucial thing is if you ever sell that investment property, you have to add back the building depreciation to increase your capital gain.
Kevin: Ken, thank you so much for your time. Ken Raiss from Chan & Naylor.
Ken: My pleasure.