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Learning, Sharing, and Teaching => Ask a Mustachian => Topic started by: Foxy66 on July 06, 2016, 06:05:42 PM

Title: Kiwi case study - looking to enter real estate
Post by: Foxy66 on July 06, 2016, 06:05:42 PM
Hi everyone, I'm looking for some advice on buying a house and renting ours out.

I am 37, working part-time, and my husband 42 is full time. INCOME $5565 (after tax) per month between us, of which 4% of my husbands pay is in Kiwisaver ( retirement fund, employer puts in 3%), and mine is 5% which is matched by 6.75% of the employer.

We started these 3 years ago and currently have 23 000 in that.

We have a home with a mortgage of 70 000 on a revolving credit loan, so all our savings goes into this to pay it off quicker. The house is valued at 250 000.

We have 2 children, 11 and 9 and our household budget is as follows

Per month
Food -             1000 (food is much more expensive in NZ, although this could be closer to 800)
Phone and internet       150
Power            250
Insurance                 480
Petrol and car maintain       250
Drs, dentist,vet ect      100
Spending money      160
Childcare            100
Rates/property tax      150
School fees etc                40
Gifts, etc            150
Clothes/shoes         50

Total            2880
Insurance is for house, contents, car (1 car worth 4500, paid for), health, disability, trauma (pays 100K on diagnosis of several major illnesses) and life cover

Although to be honest it is usually more than that, around 3600 a month on average.

3 years ago, my husband was working with real estate investors at his work, and thought it would be a good idea for us to take a look at it ourselves. We spoke to investors, our bank and an accountant, and the plan was to buy a larger house (B) for ourselves, and rent our current house (A) out.

We would put the maximum mortgage we could on house A on interest only, and assuming we bought a house for around 350 000, that would leave us with a personal home mortgage of 170 000.

For house A the income/expenses were
Income       $300-320 a week = $15600 a year (I like to work on the lower end of the scale)

Expenses (yearly)
Insurance             $1000
Maintenance      $1000
Property manager   $1300 (I am not interested in doing it myself)
Rates                $1800
Mortgage 250k @6%   $15600

Loss of $5100 a year, or around $100 a week, which we would have to cover.Crazy right? My understanding is that many rental houses in NZ are negatively geared at the moment, due to the big increases in house costs, and everyone is counting on capital gains.

We bought a house, but during the settlement period, my husband had a car accident, and I panicked over affording the large mortgage and we ended up selling that house to another buyer and lost our 10k deposit.

This prompted me to discover MM, and that’s why we started our retirement fund, and we were going to pay off our house A, stay there and invest. For a while there, I was really strict on our budget and we reduced our mortgage from 100k to the current 70k, but we got a bit lax, and things started slipping. I think we’re somewhere in the middle between MM and the average consumer at the moment.

I was really regretting not buying house B, and our wee house A which had seemed fine for so long was now full of flaws, and I really wanted room to sit at the table to eat and play games. Our house is small and layout not great.

So we kept looking at houses, put an offer on another one (250k this time), which seemed more affordable, but it had structural problems, plus I had health worries at the time, so we didn’t buy that. Last Xmas, we put an offer on another house, 280k, it was a nice house, but right next to a river and there had been a huge flood in our town so once again my worries got the best of me and we pulled out of that! We are getting sick of feeling we don't have a plan, and that we haven't maximised our earnings so far.


My main worries for renting out house A are that
-House A won’t even pay for itself
-Tenants smoking P which would completely make it worthless as an investment
-mortgage rates increase, costing us even more.
- our budget will be tight and at the moment we are comfortable with a buffer if things go wrong
- we will be paying the mortgage for another 15 years, when we could potentially be mortgage free in 2-3 years.
-what if we lose our jobs?

Balanced against that
- desire for a better house (our house is not flash or large by any means, we have room for one sofa in the lounge and it is getting more cramped as the kids grow). I have friends and family who have cancer and suffered losses, and I want to enjoy my life and be comfortable while I can.
- House prices have trebled since we first purchased our house 12 years ago, and I believe they will keep rising for a few more years at least and we could be missing out on a great chance to make money
-feeling we need to invest or do something!

Another option somewhere in the middle is to stay where we are and extend our house slightly - I am getting a quote for this, but I estimate it to be anywhere from 20k for a small modification, to 200k to make it everything I want.

So there it is. I think the best MM way, and safest thing is to stay where we are, pay off the mortgage and then look to invest in shares, bonds etc. But in the meantime we are eating dinner off our knees in the couch (which REALLY bugs me), and the kitchen table is never used.

My parents think we should sell our house A so we have room while the children are at home and upgrade, which would leave us with a mortgage of around 170 000, and we could downsize later on maybe freeing up 70-100k (although I know there are issues with that and it might not work out as well as that)

Riskier but potentially a bigger pay off is to rent A and buy B, the way the house prices are going, they could easily rise another 50 k in 2-3 years, and more long term. But I am very risk adverse.

Personally I am now leaning towards renovating A, or selling up and buying a bigger house. I know it’s not the best financial move, but I feel it’s the best balance.
 I would appreciate others feedback.

Title: Re: Kiwi case study - looking to enter real estate
Post by: gooki on July 06, 2016, 10:14:31 PM
Personally I am now leaning towards renovating A, or selling up and buying a bigger house. I know it’s not the best financial move, but I feel it’s the best balance.
 I would appreciate others feedback.

This is what we did 12 months ago. No regrets. I'm not interested in being a landlord, and having 100% of my equity invested in housing for another 15 years seems like bad diversification to me.

So 12 months on we just paid of the mortgage on the new place. Now we pay our future selves first with every pay check (index funds), pay ourselves a weekly allowance for personal expenses, and then make do with what is left over.

Not everything in life has to be about maximizing every opportunity. Sometimes the safe and boring road leads to a better (less stressful) life. Put it on auto pilot and enjoy living.

PS I'm goign to critique your budget this evening. A few things seem out of whack. Oh, and where in NZ are you?

Title: Re: Kiwi case study - looking to enter real estate
Post by: gooki on July 07, 2016, 01:42:29 AM
Expenses review.

Find out where the extra $700 a month is going.

Your phone and Internet expenses seem high. Time to start shopping around. You should be able to halve it.

I'd also seriously reevaluate your insurance. $5,8000 seems a lot considering NZ has a many of safety nets, and you have minimal debt. If you strip it right back to say $1500 a year, and invest the $4,300 saved, in just 14 years you would have an emergency fund of  $104,000. That is equal to your trauma payment, would cover a lot of private medical treatment in the event the public system can't help, and would top up any disability benefit.
Title: Re: Kiwi case study - looking to enter real estate
Post by: Foxy66 on July 07, 2016, 03:11:36 AM
Thanks for the reply Gooki.

We are in Dunedin, and I agree, the insurance does seem a very large expense for us. I was tempted to drop the health insurance but we have claimed on it several times, and although the health system here is free, it's not always efficient. I had severe migraines and would have had to wait over a year to be seen - a year is a long time to worry about your brain. With private insurance, I was seen and had an answer in a month. Because of our claims, if we dropped it now, we wouldn't be covered for those things if we wanted to get it back. So I'm still considering it. We could drop it to hospital cover only, or take the kids off the policy ( which seems mean!). I think we will get rid of disability insurance (~$30 month), as my husband said, he works on a desk job so would have to be pretty messed up to not be able to work.

The extra $700 a month goes on crap basically, extra groceries, extra spending, a few kids sport expenses. I admit we haven't been the best with money this year, I've been feeling a bit despondent about the house business, plus having to work extra hours every weekend has sapped a lot of out of me. I'm confident we can definitely drop that down.

Was the new house worth it? I find myself saying 100k extra is a lot to get my open plan dream and enough space to walk down both sides our bed.

But this right here " better (less stressful) life. Put it on auto pilot and enjoy living.' sounds awfully appealing.
Thanks

Title: Re: Kiwi case study - looking to enter real estate
Post by: gooki on July 07, 2016, 06:32:44 PM
Insurance is a hard thing to find an optimal level of cover as there's always some risk. Maybe you'll find as you become cloee to FI some cover can drop.

$70k to go on the mortgage is great. I found once we were under $100k the remaining amount seemed to go much more quickly (thanks to paying a whole lot less interest, and the fire in my belly to eliminate it).

Was the new house worth it? I find myself saying 100k extra is a lot to get my open plan dream and enough space to walk down both sides our bed.

That's a good question. Lets do some maths.

New home cost an extra $180,000
Opportunity cost on $180.000 at 7% return is $12,600 per year
Capital gain on the extra $180,000 at 5% is $9,000 per year (this assumes we will downsize in the future)
Rates are an extra $2000 a year in rates.
Insurance is an extra $200 per year.

So that leave me with the annual cost for upgrading our house $5,800
($12,600 - $9,000 + $2000 + $200)

What do we get for that?

More living space
An extra bedroom for study and to accommodate guests
An internal access garage
A second bathroom
Wardrobes in each bedroom
A warmer home
Larger kitchen, dining area
Walking distance to school
Lower home maintenance
Happy wife

Yes it's worth it from the happy wife perspective. Our kids were indifferent. I personally appreciate the benefits, but don't value them as being fully worth the extra $5,800 a year.

If I could have upgraded for an extra $100,000 I be very happy with the benefits vs extra cost.

FWIW we looked at extending our first home, but ultimately didn't feel we'd get a decent return on investment when it came time to sell. Additionally we were very pragmatic in the improvements we did to out first home. Kept materials inline with what we'd expect the next buyer would want, and minimized re-laying out the whole home (although we did open up one wall).