Throughout the course of our lives, there are three important lifestyle decisions which most of us are likely to face, and all three have big financial implications. These are: the car you choose to drive; the school you send your children to; and possibly the biggest decision – the house you choose to live in. In the next three months, we’ll be delving into each, beginning with advice when it comes to buying your home.
Property is everyone’s favourite asset class, particularly in South Africa. First of all, it’s a brick and mortar investment that we live in, making it more tangible than nearly all other investments. This gives us the legitimate feeling that we are really getting something for our money. Property also has the potential to be a terrific investment, which we have certainly seen over the past 20 years: South Africans have made more money off property investments than any other.
But here’s the thing…what everyone forgets is that property is normally the only asset class that you borrow money for in order to purchase. For example, if you invest R300,000 in an equity fund, let’s say you get a return of 15% per year on your money. But if you put R300,000 down as a deposit on a R1.3 million home and bond the extra R1 million, when it comes time to sell your home, you will probably have made a lot more than the 15% on your R300,000. However, what you still need to remember is that you will still have to paid interest on your R1m bond.
So what this means is that when you buy a property, debt is a big part of the equation and the level of debt you commit to is critical to take into consideration.
We advise the following guidelines to anyone considering property as an investment:
- Get into the market as soon as you can.
The earlier you start buying property, the greater the long-term benefit. Advice to young adults, especially if they’re single, is to buy a property and get friends to help pay the bond: you can do this by taking roommates on who will pay rent. It may be tough at the start but well worth it in the long run.
- Project your income in five years’ time
With property, it’s best to push your financial envelope as much as possible. Therefore, don’t just consider your income today; you should be looking five years ahead. For example, if you are a young management consultant, article clerk or new in any business, look at what someone five years ahead of you is earning and use this as a benchmark. Equally, if you are an established professional (doctor, for example) and you are close to capacity, you must realise that the likelihood of getting increased income is lower, and you need to cut your cloth accordingly. It’s worth noting that within the professions, that pressure to keep up with the Jones is prevalent. In both cases, being realistic about your future earning power will prevent you from having to sell and buy repeatedly, a costly mistake that can hinder your long-term financial well-being.
- Stretch yourself; then stay in place
Changing houses costs money and property transactions are very expensive. You want to aim for making as few moves as possible and grow into your home, rather than continue to change homes. The first five years of owning any property are tough, but it is critical that when you are young, you put yourself under pressure to buy as big as you can. Within reason try and borrow as much as possible from the bank, and get a house that ideally, you could stay in forever. This is not always practical, but will make a massive difference to your overall financial position in retirement. The problem with changing houses, especially when children come along, is that you then have to stretch yourself again about ten years after your first purchase.
- When can a property investment go wrong?
Things go wrong when you don’t meet the income requirement you have set for yourself. If you work in a cyclical business (i.e. building, engineering, architecture), you need to be prepared for downturns, as they inevitably come. Your investment can also take a dive if the property price takes a tumble. If interest rates go up (which is likely), property prices go down. If there is an interest rate hike in the early years, this could be detrimental, although banks will usually come to the table in order to avoid foreclosure. Remember that when borrowing money, you should be prepared to afford at least a 2% interest rate hike. When buying, it’s imperative that you shop around for the best interest rate. While banks are not that easy to negotiate with, even a rate that is a quarter of a percentage point lower will make a massive difference to you over the next twenty five years.
- Don’t continue chasing up the property ladder as your earnings increase
The Joneses are your enemy, not your friends. Buying homes is an expensive exercise, so take one big leap as early as possible and try to stay the course until you are ready to move to the retirement village!
- Strike a balance
While these are the main financial guidelines we suggest, it is very important to remember that we are not just talking about property; we are talking about your HOME! It will be a place of memories, childhood dreams, social interactions and occasions as well as a comfortable base for your family. For all of us, there is also a varying degree of social status attached to our property. What’s important is to take a balanced view in making this decision: take the finances seriously, but also make sure you are tapped into what really matters to you in your home as well as in your neighbourhood.