Determined to cause panic!
The Melbourne Cup may be the race to stop a nation but it was the RBA's decision to raise interest rates by 0.25% and the Commonwealth Banks' audacity to almost double it that left most of us gobsmacked. Now the other major banks have followed with their own above RBA rate rises. So, is it time to panic?
No. Remember last year, we crunched the numbers around the point when a rise in interest rates means owning investment property starts to cost you money? Well, using a $150,000 salary as a base line, if you own property built post 1985, rates still have a way to go yet before most property tips into a negative cash flow position.
Lets look at the numbers again:
General Assumptions:
- Salary - $150K
- Property price - $300K & $500K
- Property type - House and High-rise apartment
- Property age - 1 -5 years, 10-20 years, pre 1985
- Loan amount - 80%
- Rental yield - 6% (300k), 5.5% (500K)
- Depreciation - medium standard finish
At What Point Does a Property Become Cashflow Neutral?
| PRICE | $300k house | $300k highrise | $300k house | $300k highrise | $300k house | $300k highrise |
|---|---|---|---|---|---|---|
| AGE OF PROPERTY | 1-5 years old | 1-5 years old |
10-20 years old | 10-20 years old | Pre-1985 | Pre-1985 |
| SALARY | $150k | $150k | $150k | $150k | $150k | $150k |
| YIELD | 6% | 6% | 6% | 6% | 6% | 6% |
| EXPENSES* | 0.50% | 1.00% | 1.00% | 1.00% | 1.00% | 1.50% |
| DEPRECIATION | 9,000 | 9,000 | 7,000 | 8,000 | 3,000 | 3,000 |
| INTEREST RATE TURNING POINT WHEN PROPERTY CASHFLOW NEUTRAL | ||||||
| 9.00% | 8.50% | 8.00% | 8.25% | 7.00% | 6.25% | |
| PRICE | $500k house | $500k highrise | $500k house | $500k highrise | $500k house | $500k highrise |
|---|---|---|---|---|---|---|
| AGE OF PROPERTY | 1-5 years old | 1-5 years old |
10-20 years old | 10-20 years old | Pre-1985 | Pre-1985 |
| SALARY | $150k | $150k | $150k | $150k | $150k | $150k |
| YIELD | 5.50% | 5.50% | 5.50% | 5.50% | 5.50% | 5.50% |
| EXPENSES* | 0.50% | 1.00% | 1.00% | 1.00% | 1.00% | 1.50% |
| DEPRECIATION | 12,000 | 13,000 | 9,000 | 10,000 | 4,000 | 4,000 |
| INTEREST RATE TURNING POINT WHEN PROPERTY CASHFLOW NEUTRAL | ||||||
| 8.00% | 7.50% | 7.00% | 7.00% | 6.00% | 5.50% | |
* Expenses have been expressed a percentage of the purchase price. For example, a $300k purchase price with a 1% expense ratio has been calculated at $3k.
What the results reveal?
- Lower priced property built after 1985 will continue to be cashflow positive at best and cashflow neutral at worse.
- Newer property will be less affected by the interest rate rises due the positive benefits of depreciation.
- Lower priced property will be less affected by the interest rate rises for two reasons:
- Lower priced property tends to have a higher yield ratio in relation to the purchase price.
- Lower priced property tends to have a higher depreciation ratio in relation to the purchase price. (This is a whole separate article as to why!).
- Those on a higher tax bracket will be less affected by the increase in interest rates due to the fact that negative gearing works better for those on higher tax brackets.
- First Home Buyers won't have the benefit of the deductible interest payments and depreciation - and may hurt more than investors.