Everything you need to know about investment properties

Estimated reading time
 5 min

In this article

• How investment properties work
• Different types of investment properties you can buy
• The pros and cons of buying an investment property
• What you can do to avoid the sunk cost fallacy

Whether it’s an inner-city apartment or a house in a regional area, investment properties come in all shapes and sizes.

The cost of an investment property can be expensive, as you’ll most likely need to take out an investor home loan (with a home deposit saved up as well!). But investing in property is usually considered a safer, long-term investment that can give you positive returns over time.

Remember, always do research before investing. Read the T&Cs and product information, find out more about the risks and benefits and consider any fees and charges. You might also want to consult an advisor to get independent financial and tax advice for your circumstances.

If you’ve ever wondered what makes a good investment property, or you want to know your options before you invest, we’ve got you covered. Let’s get started.

How do investment properties work?

An investment property is when you buy a property – like a house or apartment – with the goal of earning money passively over time or making more money when you sell (or both!). To buy an investment property, you can take out an investment home loan, but you will need an initial deposit. Your home loan deposit will vary based on location and property type, so it pays to do your research first.

If you own a home already, you may be able use your equity as a deposit for the investment property – that’s the difference between the value of your home and the remaining balance of your home loan. Knowing how much equity you have can help you work out how much you can borrow for your investment property.

Depending on your investment goals, there are different strategies you can use to achieve them, which include:

• The buy and hold strategy is when you purchase a property and hold onto it for as long as possible. This allows the property to (ideally) grow in value over time, so when you sell it, you can earn a profit in the future.
• Positive cash flow properties earn more income from rent than what you pay in property expenses each year, like council rates and landlord insurance, even after all costs and tax deductions are factored in. This is basically a self-sustaining source of income that can work effectively if you rent out a property in a high-demand area, like being close to public transport or a school. Because this is another source of income, you might have to pay tax on it depending on the income bracket you are in.
• Negative gearing is when the cost of owning the property is more than the income you earn – so you’re operating at a loss.

Regardless of which strategy you choose, you should discuss any proposed investment with a registered tax agent.

What are the different types of investment properties?

1. Apartments

Apartments are typically a lower-cost entry into the investment property space. They tend to create higher rental yield – which is the difference between the income you receive from rent and the cost of your investment. The lower cost and high rental yield are what make an apartment a good investment option, especially for beginners. However, an apartment often comes with higher strata fees (especially if there are facilities, like a gym) and lower growth in value.

2. Townhouses, villas, and units

A townhouse, villa or unit is a property investment option that’s common amongst investors as they have good long-term growth and rental yield. Plus, they’re typically a lower price point than a freestanding home, making them a viable option for investors looking to get their start. Like with apartments, some townhouses, villas or units come with strata fees and regulations that can make managing the property more complicated, such as future renovations.

3. Freestanding house

While there’s a higher cost to purchase a freestanding house as an investment, there’s usually stronger growth and it’s easier to add value to the property with renovations. However, there tend to be more ongoing costs you’ll have to cover, like repairing older parts of the home, which can lead to lower rental yields.

Don’t forget about the location!

Location is a major factor for any investment property. You should buy in an area that’s within your budget, so you’ve got the finances to cover the upfront costs, like stamp duty and building inspections, and also ensure you’re able to meet your loan repayments down the track.

When choosing a location, think about the local amenities near your property as this can influence the type of tenants you might get and can add value to your home. For example, if your apartment is close to the city, you might have younger tenants who are flying solo. Close to a school? Then your property may be attractive to a young family who wants to live in the area.

You can get an ANZ Property Profile Report for a detailed snapshot of a property’s rental history, suburb insights and more. This can help you work out if your preferred property has growth potential.

What are some of the pros and cons of an investment property?

• Pro: There tends to be more financial and market stability when it comes to investment properties because of the steady income from the rent and a more predictable real estate market (compared to say, the stock market which has much higher volatility).
• Con: The initial and ongoing costs of an investment property might outweigh the rental income you earn. Upfront costs might include stamp duty and conveyancing fees. Ongoing costs to consider include loan repayments, covering the costs when there are vacancies, and any management fees.
• Pro: You can claim tax deductions on some property expenses that you’ve paid for, like interest on the mortgage, tenant advertising, council rates and repairs
• Con: Like with any investment, there’s always the risk that you’ll lose money if the value of the asset (the property) goes down. Also consider whether the rental income will cover the cost of the mortgage (if you get one!)
• Pro: You don’t really need specialised knowledge to invest in property – understanding the basics of buying an investment property and managing it is all you need to get started. However, it’s always a good idea to talk to an adviser to work out what is right for you and your circumstances.
• Con: If you’re renting it out, you’ll have to get someone to manage the property or do it yourself. If you do it yourself, then you’ll spend time (and money) finding tenants, addressing issues and more. If you opt for a property manager, you’ll have to cover their fees.

Don’t get stuck on the sunk cost fallacy

After buying an outdated home as an investment property, you’ve decided it’s time to give it a facelift to increase its value. You initially spend $25,000 on new appliances, carpet, tiles and so on. But it’s still not up to the standard of other homes in the suburb. At this point, you decide to commit to the makeover and spend more money on the reno because you don’t want to waste your initial investment of time and money.

This is what we call the sunk cost fallacy – our tendency to keep putting time, money and effort into something after we’re already heavily invested, even if stopping is the better course of action. To reduce the effects of sunk cost fallacy, it’s important to take a moment and evaluate the situation. Before you pump more money into the project, consider whether you can rent the property out in its current state while you wait for its value to increase. Considering all your options can help you to do what’s right for your investment goals, timeline and finances.

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