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Property investment can be a great way to build long-term wealth. But it also carries risk. For Australian property investors who are thinking about buying a unit, the 10 key risks when investing in a unit are:
Buying a unit with limited scarcity
Buying a unit with limited owner-occupier appeal
Buying a unit that’s too small
Overpaying for an off-the-plan unit
Struggling to settle on an off-the-plan unit
Buying into a building with poor finances
Buying into a building with high quarterly levies
Buying into a building with residents’ disputes
Buying into a building with structural flaws
Buying into a non-compliant building
Let’s examine each of these 10 risks in detail.
When it comes to buying units for investment purposes, one of the biggest risks is buying a unit that’s like many others on the market. That’s because scarcity plays a major role in the amount of long-term price and rental growth an investment property experiences. If you buy an apartment in a high-rise tower that’s essentially the same as the hundreds of other apartments in the building, buyers and tenants will know they won’t have to compete very hard for your property – because if they miss out, a comparable property will soon be listed for sale or rent. So that will restrict the growth in the value of your home and the weekly rent.
Conversely, if you buy a unit in a very small block – say, with no more than 10 apartments – that means there will be less supply for your type of property. So, over the long-term, apartments in that building should experience more demand among buyers and tenants, and therefore more price and rental growth. If you were to ask “Are units a good investment?”, the answer would be ‘almost certainly not’ for a unit in a high-rise tower and ‘maybe’ for one in a very small block.
For similar reasons, it’s risky to buy a unit with limited owner-occupier appeal. About two-thirds of homes are owned by owner-occupiers, so the level of demand owner-occupiers have for a particular type of property will play a major role in its long-term price growth. Owner-occupiers generally prefer homes with individual character, so they tend to prefer houses to units, and units in small boutique blocks to units in big blocks. They also tend to prefer homes that offer liveability, privacy and quiet – again, something that is more likely to favour houses over units and units in small blocks over units in big blocks.
When it comes to assessing different types of investment risk, one that might not have occurred to you is buying an apartment smaller than 50sqm. Here’s why that’s risky:
Very few people want to buy small studios and small one-bedders
So banks are reluctant to provide loans for people who want to buy properties that are smaller than 50sqm (as banks fear that if the buyer forecloses on the mortgage and they have to seize the property, they’ll struggle to sell it and recoup their money)
That, in turn, further reduces the pool of people willing to buy such small homes
So if you were to buy a property under 50sqm, you’d struggle to get it financed. And if you did complete the purchase, your studio would experience minimal price growth (and maybe even negative price growth), because there would be such low demand for that type of property. If you’re wondering is a unit a good investment if it’s under 50sqm, the answer would generally be no, unless you were able to buy it for an enormous discount.
Have you ever heard the saying that a new car is worth less money the moment you drive it off the lot? Something similar happens with many off-the-plan properties. That’s because the developers incur a lot of expenses – such as taxes, mortgage interest, architecture costs, building costs and marketing costs – which means they’re often forced to sell their properties at inflated prices to make a decent profit.
Sometimes, you might get lucky when buying an off-the-plan unit – if the market grows strongly in the period between when you pay your deposit and when you take possession, that might cover the premium you’re often charged when you buy a brand new property. However, the reverse can also occur – if the market falls during that period, the gap between what you pay for the unit and what it’s actually worth would increase.
LAnother reason off-the-plan units can be an investment risk is because you might not qualify for a loan (or a large enough loan) when you have to settle on the property. There are several reasons why this might happen:
The local property market declines in the period between when you pay the deposit and when you have to settle, which means the bank reduces the value of your property, which means they reduce the amount they’re willing to lend you, which means you now have to stump up more of your own money than you budgeted for
The bank changes its lending rules in the period between deposit and settlement, so they’re no longer prepared to lend as much, or at all, to buyers with your profile
Your financial position changes, so the bank is no longer prepared to give you a loan
The bank stops financing off-the-plan units in that postcode, because they’re over-exposed for that type of property in that specific location
The LMI (lender’s mortgage insurance) provider stops insuring off-the-plan units in that postcode – and, as a result, the bank refuses to give you a loan
The moral to the story is this: just because a bank indicates it will give you a loan, doesn’t mean they have a legal obligation to follow through. The longer the gap between deposit and settlement, the greater your risk, because the more chance of something occurring that makes the bank change its mind.
Prevention is the best cure. That’s why the best strata buildings do preemptive maintenance and have money set aside to cover emergency repairs. So when you buy into a building, you want to make sure the strata scheme has the money required to do all this ongoing and emergency work. Otherwise, you might have to deal with a very big and expensive problem down the line. As part of your due diligence, it’s a good idea to order a strata inspection report, so you can check:
The state of the building’s finances
How much money it has in its administrative and capital works funds
How often it imposes special levies
Whether the building is properly insured
A different financial risk when investing in a unit is buying into a strata scheme that has high quarterly levies. That’s because high levies can eat into your cashflow, making it harder to find the money you need to pay your holding costs. A strata inspection report will tell you what levies owners are paying. Levies may be high if the owners corporation (also known as the body corporate) has to fund non-essential facilities such as a pool, gym and elevators, or if the building has structural problems and requires a lot of repairs and upgrades.
That said, low levies aren’t necessarily a sign that an apartment is a good investment. Underinvestment in a building can compound over years and leave new owners with large, unexpected expenses to pay.
Another type of investment risk is buying into a strata building with residents’ disputes, because that could result in tenants wanting to move out or you having to fund a court case (in conjunction with the other owners). Disputes can occur over issues such as:
Quarterly levies
Special levies
By-law changes
Renovations
Parking
Pets
Noise
Littering
Building defects
A strata inspection report should disclose any disputes that might be taking place. Of course, even if you do your due diligence and discover the building is perfectly calm at the time of purchase, disputes might flare after you buy into the building. The more people who live in a building, the greater the potential for conflict between residents, owners and the owners corporation.
Cracks in the Compact City: Defects in Strata, a 2021 report published by the City Futures Research Centre at the University of New South Wales, researched 635 multi-unit strata-titled schemes in Sydney and found defects were common.
“This data collection and curation effort indicated that defects were present in at least half of the buildings for which we were able to obtain relatively robust information,” the report concluded, with the most common defects relating to water, cracking and fire safety.
While this research report focused solely on Sydney, it highlights a key risk when investing in a unit. A lot of newer apartment blocks throughout Australia have been poorly built – such as Opal Tower in Sydney, which had to be evacuated in 2018 after serious structural problems were discovered. Even older apartment blocks, which have been around for decades, can be a cause of concern, if, for example, they have concrete cancer. To protect yourself against this investment risk, you should order a strata inspection report before buying a unit.
Another risk to be careful of is buying into a building that isn’t compliant with official regulations, such as those around fire, asbestos, and work health and safety. That could expose the owners corporation to serious financial and legal penalties in the future. This is another reason why it makes sense to order a strata inspection report.
There’s one more thing you can do to protect yourself from investment risk – get help from an experienced local buyer’s agent. If you know where you want to buy, you can ask a local buyer’s agent to research the local real estate market, shortlist suitable properties, conduct due diligence and negotiate with real estate agents on your behalf.
While no option can ever be risk-free, partnering with an expert local buyer’s agent should reduce your risk, because a property professional is more likely to spot red flags than an amateur.
Suburb Help can introduce you to a skilled, ethical buyer’s agent in your area.
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