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Are Apartments the Next Best Buy?

As we see interest rates rise, there’s talk on the town that it will spur an acceleration in the purchase of apartments with investors and first home buyers capitalising on cheaper properties to get into the market.

Those who are pre-approved for a home or investment loan had better get into the market quickly, as any new home loan assessment will reduce their borrowing power to be in line with the upwardly moving Reserve Bank forecast in inflation and interest rate expectations.

What does that mean? Say Rob and Cathy are looking to buy their first home. They have been pre-approved for a loan of $600,000 with a $60,000 deposit which will cost them $2625 per month at 3.29%.So essentially, the bank has assessed them to be able to pay back $2625 per month. If interest rates go up 0.25%, it will reduce their borrowing power to $582,000, rather than $600,000. So that sweet little cottage on a good size block on the outskirts of Belgrave may now be out of reach, unless they can quickly save up another $18,000 to cover the short fall. Or, they find a 2 bedroom apartment with their $60,000 deposit and $582,000 of mortgage ($642,000) to get their foot in the door. With each interest rate increase of 0.25%, another $18,000 will be shaved off Rob and Cathy’s ability to buy a home, but if they don’t commit to a purchase quickly, with interest rates predicted to go up intermittently over the next 18 months, they will reduce their borrowing power each and every time the rates go up.

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Another concern, for both first home buyers and investors, is the supply and demand issue with house and land packages. With the soaring price of labour and materials for building new homes, many building companies are losing their profit margins and preferring to use their sunset clause (an expiry date or time limit on the contract’s validity) with contracts they signed two or three years ago, so they don’t need to build. The imbalance right now in the building sector may result in an even longer lag time between when cash rate increases translate into property prices. Many are advising not to build in the next 2-3 years while we want for the balance to return.

So, what’s left that makes getting into the market affordable? Apartments and units. We all have to start somewhere, so getting the big block of land that Dad keeps harping about (you can hear him echoing through your head “you’ll never go wrong with land”, “buy land, there’s only so much land in the world, so buy it”) or the tugging of the heart strings for your ‘forever home’ – neither of these should not be the first choice for first home buyers. Buying property is like building blocks, you start small, build a foundation, pay off the mortgage, show the bank you’re reliable, credible, capable and maintain the property, giving you leverage to buy your next home. Your second home could be your forever home, the big block of land or another stepping stone, but buying an apartment or unit means you are IN THE MARKET.

As experts say, ‘it’s not timing in the market, but time in the market’ that justifies a person’s ability to build wealth in property. Apartments are definitely a solid option to get into the market because they are that much needed foot in the door. The downside of apartments is that they can be a little more volatile and the capital growth isn’t as quick. For instance, two apartments in the same contemporary block in the Bayside suburbs of Melbourne, both bought and sold last week, within the same time frame. One sold for $70,000 more than what was purchased two years ago, the other sold for $40,000 less than what was purchased two years ago. Yet, a family size penthouse in the heart of a shopping village, sold for $200,000 over the reserve this last weekend. What’s the justification? With only the figures on offer, it’s hard to know.

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But at the same time, having a smaller mortgage means you can pay it off quickly, putting more money into your mortgage, not having to spend huge amounts on renovations or other issues that may come with having a house. Yes, you have owner’s corporation fees, but they are generally fixed, so you can budget for them.

What type of apartments are the best? Older style solid brick apartments, usually found in the inner city or middle-set suburbs are usually the best buys. Get one with a land component (a courtyard or balcony on title), in a small block (4-10 apartments) with low owner’s corporation fees. Ensure you have plenty of infrastructure around you – shops, train station, parks and schools to build up its value. You can renovate on a budget to create a contemporary look and feel, adding value to your apartment, while having the quality of the original structure that can be hard to find in high-rise apartment blocks. Those daggy 1970s blocks have well-sized rooms, understand the need for natural light and have the ability to create a generous open plan feel, removing oversized laundries and hot water services to enlarge your living space or put in an ensuite, replacing the laundry with a European style version and the large hot water service with a more compact instant hot water service attached to the back of the building.

Buying property runs in cycles, there will always be someone who is where you are now in 3, 4 or even 10 years’ time who will want the same property as you to get them a foot into the market. If it means you must get in now by buying an apartment rather than a house before government decisions force prices up in both property and mortgage repayments, then do it, and reap the rewards for the rest of your life.