Last year I found what I thought was a good Commercial Investment (Before finding this site and reading Steves Book)! I still think it is ok however this was my first investment I have my doubts as to whether or not It was a good decision. The property cost $330,000 with an annual rent of $30,735 with no other costs as all outgoings are paid by the tenant who is on a 5+5+5+5 year option and an annual rental increase of the yearly C.P.I figure. It is in a prominent coastal strip in Perths Northern Suburbs which is streaming ahead.
I couldnt afford the whole property so went halfs with another investor. My Interest only Loan repayments for 3 years are $930 month against my monthly rental income of $1280 per month. I borrowed a total of $171,000 ($165,000 half of property + $6000 set up fees). After the three years on Interest Only repayments I would have paid off $8500 as a portion of the loan which was required to be paid off. I borrowed 70% max. lend against the property and used the extra $50,000 in equity, which then added to my current home loan which I am still currently paying off on Principal and Interest.
I would greatly appreciate any advice or feedback on whether or not this is classed as a good investment as due to the complexity of my loan and the split between two investors , I am having trouble working out if it is cash flow positive or a good investment ?
-What is my return % on this property ?
-Is I.O the way to go when still paying off my house ?
-Is it worth keeping or should I sell and look for something better. I am concerned it may be neutral cash flow where it is making me no money however I am not losing any – I am confused !!
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Birdy-Is I.O the way to go when still paying off my house ?
Absolutely!
Cheers,
Simon Macks
Mortgage Broker
http://www.mortgagehunter.com.au
0425 228 985Comments may not be relevant to individual circumstances. If you intend making any investment, financial or taxation decision you should consult a professional adviser.
Thanks kindly for your reply but can you also please tell me what my return is ??
Regards,
Birdy
Birdy, from the information you give, it is hard to say if it is a good investment or not. It seems OK with 9% return and no expenses, yet a commercial property has higher risks associated with vacancy. If the tenant goes, how easy is it going to be to replace him? That is the mayor risk for commercial that can stay vacant for month and even years….of course I have no idea about yours, potential capital growth, etc
. I must say that making a big generalisation I personaly would like to have a bigger margin than 9%, more like 15% but hey, it may be a gem for years!As for the Interest Only, in theory it is better to pay your home off first since you cannot claim the interest on you PPOR…. Hoever, (and sorry I am not as experience as others are), in my opinion and in the current market climate of possible rate increase, I would feel better paying a bit of the principal off and reduce the borrowing risk, but we are all different of course.
My 2 block of flats are very positive and I put all the profit back in the loan even when I have my own smallish mortgage on my PPOR, because the area they are in has a higher than average riskMay God prosper you always.[biggrin]
MarcThanks for your reply.The property is in a very good location and I really cant see a problem with it ever being vacant however you just cant tell! I have clauses in the lease agreement which means that the tenant pays the lease until i find new tenants if they break lease.
The area has gone up 33% in the last year which is promising ! I agree with your theory of paying off some of the principal aswell as the interest and the way the loan is structured I am forced to pay $8500 of the principal. The $50,000 i borrowed in equity has gone in with my home loan which I am Paying P&I on.
Is this property cash flow positive? Its hard to work out as some of the loan is P&I on my home loan and some Interest only ??
Birdy
Hi Birdy
The percent return on your share of the property is: $15367.50 / (165000 + 6000?), depending on your total set up costs = 8.99%You say your repayments are $930 pcm, which I assume is on the total $171000 loan and part of which is P&I, and your income is $1280 pcm.
This gives you a positive cash flow of $350 pcm (1280-930). You have increased your annual income by $4200 per annum and after adjusting for depreciation on the buildings and chattels you do even better.
As you have not put any of your own money in your Cash on Cash Return and Internal Rate of Return is infinite or “incalculable”
“Is it a good investment?”
On a cash basis, yes.However, be careful about comparing general or residential growth rates with your particular commercial building. Commercial rents are determined on a square metre basis among other things, the rent rate per metre of your building must be comparable to what the tenant can get elsewhere – if it is lower than market rates and has room for growth you should have a good investment.
Cheers
JeffThanks Jeff. I agree with not comparing residential growth rates with Commercial properties however it is still interesting and I would think that to to some degree would give an indication of demand for the area. As it wasnt purchased for capital growth and hope to keep this property for many years, it would just be a bonus if it went up in value. The disappointing thing I just found however was that the yearly CPI increase wasnt very much this year at a figure of 1.6% and was hoping for about 2.5% to 3% upwards. Any increase is better than none i suppose.
With your calcs, even though I am paying off the $50,000 with my P&I loan (mortgage), wouldnt there be some of that $350 pcm that should be taken out(allocated) to cover the interest on the Home loan to get a true cash return ?.Birdy,. if you haven’t already, you would be best off separating the $50K that came from your equity to a separate loan to that which is your PPOR loan. Your accountant will like you better.
Then you work out the interest you are paying on the $50K (if you split it out, make sure it’s IO while you pay off your PPOR), and add that to the costs for the commercial loan. If those figures are more than your incomings, then you are negative. If not, you are positive cashflow.
How many years on the current 5 year lease are left? Remember that the tenant holds the option to extend – not you, so they may not take it up.
I think it’s a good buy, and you sound like you’ve researched and are happy with the location, so that’s good.
Cheers
MelThanks for the advice, I will definately look into it as I have been thinking along similar lines. It would make it a lot easier to calculate but as I needed to use my equity, im not sure if I can split it. I Will have to speak to my broker.
The tenants have been in for a year now so there are 4 years left before there option to continue comes up.. The building was only completed a year ago also. Guess I will just now have to wait and see.
Thanks for your reply Mel
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