Don't be tempted to buy leaky buildings
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Articles by John Rowe.
At GRA we have become concerned at the number of people thinking about buying leaky buildings. This was brought to our attention in our capacity as Professional Trustee, which means we (along with any other trustees) need to sign off on any planned property purchases for the trust clients we act for.
We were concerned when we found out about the first person but became alarmed when, over a matter of weeks, we had multiple clients say they were planning to buy leaky homes. As explained in Property School and in Matthew Gilligan’s book Property 101, we consider leaky homes to be ‘property lemons’ which should be avoided at all costs. When we asked our clients why they wanted to buy leaky homes, they said that the Auckland property market is so expensive they are the only properties they can afford.
While we agree that leaky homes are certainly cheaper to buy, we disagree that they cost less in the long run. In fact, they are likely to cost purchasers significantly more and will quite possibly put them in a much worse position than before they bought them.
There are many reasons why you should avoid leaky buildings – and each of these reasons on its own should be enough to deter you. Combined, they are a financial disaster waiting to happen.- Leaky homes experience less capital growth than their non-leaky counterparts. This means they go up in value less over time.
- They will need to be repaired to stop them leaking (often meaning a complete reclad), and this is a very costly exercise. The cost of a re-clad will likely negate any capital growth the property might experience.
- Even once they are repaired, leaky homes retain their stigma so they are much harder to sell because buyers are very wary of them.
- The sale price of a leaky (or once leaky) home tends to be significantly lower than other weathertight houses.
- You may make a capital loss, either because the cost of repairs is greater than the capital growth the property will experience, or because the market has slowed. When the property market cools, the first properties to be affected are the less desirable ones, like leaky buildings. The saying that “it’s a 6-lane highway to get into the property market, but it’s a goat track to get out” applies here.
The only instance in which purchasing a leaky home might be a good financial decision is if you plan to reclad the building and you are able to purchase it for a price that still allows you to make a profit after the cost of the reclad. (This generally means you need to buy the property for just above land value). Only experienced investors or tradespeople should consider such a project.
So what should people do if a leaky building is the only type of home or investment they can afford?
There are plenty of ways you can invest in the Auckland property market, and these are covered extensively in Property 101 and at Property School. Examples include:
So what should people do if a leaky building is the only type of home or investment they can afford?
There are plenty of ways you can invest in the Auckland property market, and these are covered extensively in Property 101 and at Property School. Examples include:
- Buy a property with enough land so you can subdivide and sell off a section to reduce the cost of the property.
- Buy a run-down (but not leaky) property that you can renovate.
- Find a property where you can easily add extra rooms (e.g. turn a garage into a sleepout or partition existing large bedrooms) to increase the rental yield so the property becomes positive cash flow.
- Consider buying an investment property out of Auckland, in a region with good fundamentals (low supply, high demand and good employment). You need to be careful with this strategy for two reasons. Firstly, regional areas tend to be more volatile in value. Secondly, repairs and maintenance costs represent a greater proportion of the value of the property and can eat into your capital growth. (Chapter 3 of Property 101 goes into this in greater depth with a worked example.) Avoid ‘one-horse towns’.
- Wait for a couple more years – it is likely Auckland will see a cooling off of prices with more land being released once the AUP rules come into effect.
John Rowe
Retired Partner, Consultant to GRA
© Gilligan Rowe & Associates LP
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Disclaimer: This article is intended to provide only a summary of the issues associated with the topics covered. It does not purport to be comprehensive nor to provide specific advice. No person should act in reliance on any statement contained within this article without first obtaining specific professional advice. If you require any further information or advice on any matter covered within this article, please contact the author.
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Testimonials
Hello Matthew, I am just wishing you the best of success with your excellent book Property 101. It is very rare that I come across a book on real estate that is in the league of other financial securties writer's. Thank you for taking the time and more importantly writing about real estate in a easy to read manner. I am still learning after 30 years in real estate. I am also a true contrarian like yourself and have learned this art from my favourite contrarian, Jim Rodgers (Former Quantum Fund). I have been preaching this to our Investor net work and corporate clients for some time, but most find it very hard to-do. Thanks again! Kind Regards, - Chris Kerr - The New Kids On The Block Pty Limited - October 2015
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