To rent, rent and invest or buy a home?

Given the way the property market has performed over the last decade (check out this Google motion visualisation from the ABS on median house price movements for each capital city from 2002 to 2010), it seems to me that the most cost effective way for younger Australians to put themselves into a position to buy their own home, is to rent and buy investment properties in the short to medium term - with the intent of creating enough equity that you can one day purchase a home where you really want to live.

Obviously whether this strategy is appropriate for you depends on your own personal circumstances. However, I think for the majority of people under 30-35 today, if they looked at the numbers on renting and investing in property versus buying their first home,  renting and investing would be the option that stacked up financially.

This is principally because it is the most financially sustainable option available when you take into account the fact that:

  • the interest paid on investment properties is tax deductible (while that on a principle place of residence is not)
  • your tenants help pay a good proportion of your holding expenses
  • you can use leverage to your advantage earlier and benefit from the compounding annual returns (assuming these returns are positive!)

So I quite liked this article in The Age earlier this month which interviews a real estate professional and a financial adviser about their reasons for preferring to rent and buy investment properties before buying their own home.

Below are the main benefits of this approach as they see them:

  • You’ll be able to afford to live in a much better property as a tenant than what you could if you were to buy it
  • Renting is a great option in your 20s and 30s if your lifecycle is still in that changing period, if you haven’t met a partner or haven’t had children. You’ll probably move every two to three years anyway and if you were to buy and sell every two to three years the transaction costs would be horrendous
  • Ten years of full tax benefits, gearing and depreciation will set you up for the future far better than buying a first home earlier in life
  • You get to take advantage of the compounding growth of property, compared to holding cash in the bank – which is not only tempting to spend, but also grows at a smaller rate than property

I also liked this list of attitudes that you will need to overcome to follow this type of strategy:

  1. Fear of debt – distinguish between productive and non-productive debt.
  2. ‘Rent is dead money’ – ideas from past generations may not work today.
  3. Property is too expensive – only if you live in it and do not enjoy cash injections from tenants and tax benefits.
  4. I don’t want to miss the First Home Owners Grant – it’s a nice freebie but not always the reason to buy versus invest.
  5. It's too high a risk – not if you choose a property that matches your financial capabilities and have a cash buffer.

If you are interested in this topic, Ed Chan from Chan & Naylor accountants talks about the financial aspects of buying a home versus renting and investing in property in this article "Is it better to rent or buy your own home?"

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