Episode 46 - Rentvesting
Updated: Mar 4, 2020
Want to get into the property market but can’t afford to buy where you want to live? Rentvesting might be your ticket to having it all. On this episode of the #mastersoffinance podcast we talk about how a rentvesting strategy works and how you can benefit from it. Stay tuned to the end for our masterful tips on what we have learned from personal and professional experience. Have a listen!
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Alex Hont 0:16
Welcome to this episode of the masters of finance podcast. Today Chris and I are gonna be talking about rentvesting. What is rentvesting. We're going to delve into it and talk about some of the advantages in that and some of the things you might not have thought of, as well as what are some of the drawbacks? And also how will the strategy work for you? Have a listen.
Chris Haggart 0:33
Chris Haggart and Alex Hont are authorized representatives of Moran Partners Financial Planning. Any opinions expressed in this podcast are solely our own and do not reflect the opinions or views of Moran Partners Financial Planning, or any entity we are associated with. This podcast is for informational purposes only and should not be used for or does not constitute investment advice.
Alex Hont 0:53
Alrighty, Chris, welcome back to another episode.
Chris Haggart 0:58
Here. We are. Yes on a Lovely Wednesday.
Alex Hont 1:02
That's right. So Chris. Let's talk reality TV, are you getting into survivor?
Chris Haggart 1:06
Yeah. Well, I didn't get to watch it last night because love Island. Trumps all.
Alex Hont 1:13
Fair enough. I love it. I reckon it's game theory in a little bit of a different format but the psychological aspect of it and the decisions that people make. And the fact that every game is completely different because the players are always different
Chris Haggart 1:26
it is and it's nice to see the familiar faces back I must say.
Alex Hont 1:28
Anyway, this is not a reality TV podcast. It's not it's not so let's get into the serious business of finances. Why are you laughing?
Chris Haggart 1:38
I shouldn't be laughing.
Alex Hont 1:40
We're very serious on this. we called ourselves masters of Finance. Chris, this is you know, serious business.
Chris Haggart 1:45
The point was we were taking a light hearted approach. We typically do, I don't think we do anything too serious in here sometimes maybe. But yeah, so today we're talking about rentvesting.
Rentvesting that sounds like a it's like two words mashed together. Is it a real word?
It's a weird term, but this is a good way to describe it.
Alex Hont 2:05
Yeah, well, let's What is it? Right?
Chris Haggart 2:08
Yeah. So basically, I guess property investment. Where it's not you're buying buying an investment property and renting where you want to live.
Alex Hont 2:18
Yeah. So I guess you're buying a property in an affordable suburb. But you get to live basically, wherever you want. You live in a suburb where you're paying rent that you want to live.
Chris Haggart 2:27
Correct. I guess there's a dynamic in here. That is assumed.
Alex Hont 2:32
Yeah, go on.
Chris Haggart 2:34
Because you, you could have bought a property say I'm just gonna pick a suburb, Glenroy.
Alex Hont 2:42
Glenroy, northern suburbs of Melbourne.
Chris Haggart 2:45
And let's say you're renting in Toorak.
Alex Hont 2:48
Chris Haggart 2:49
And so the rent that you're paying in Toorak is going to be significantly more than the mortgage you would be likely to pay depending on the property that you buy obviously in Glenroy.
Alex Hont 3:00
In this case, yes, yep. Unless you're buying a car park in Toorak or renting the car park in Toorak.
Chris Haggart 3:07
Yeah, well let's just say on on, I guess, typical assumptions.
Alex Hont 3:11
Chris Haggart 3:12
That that scenario is probably not the best outcome.
Alex Hont 3:18
Well, no, I mean, you still Well, I guess you get to live where you want to live and you're still
Chris Haggart 3:23
investing property wise. Yeah, I guess I was just more thinking about the fact that
Alex Hont 3:28
all right, but in general, generally you're buying a property. Yeah. But it's the same sort of thing. You're buying a property in a suburb where it's more affordable. Glenroy is significantly more affordable than Toorak.
Chris Haggart 3:39
Alex Hont 3:40
And you still get to live where you want to live in, you know, in in amongst it.
Chris Haggart 3:43
Yeah. Well, I guess that's I guess that's fair. Typically the way this is used is that you'll find the rent that you're paying is less than the mortgage you would otherwise fund.
Alex Hont 3:54
Yeah. And I guess that's because mortgages are quite big.
Chris Haggart 3:57
Alex Hont 3:58
And Therefore they take a lot of money to service, whereas the rent, the rent is not always as much as you might be paying in the mortgage.
Chris Haggart 4:06
So and typically that's the dynamic that's we have found ourselves in, in, in Australia, I think we're going to go into housing affordability.
Alex Hont 4:17
Well, I think it's come about because I mean, one if we go back a long way, when they changed the laws to introduce the 50% capital gains tax discount. Right. And and the deductibility of interest. It it, it made speculating on real estate as an investment and much more appealing idea. Now, this is not that old a strategy I think from from memory, it was sort of started coming about in the 90s. You know, before that no one, people owned investment properties, but it wasn't as speculative as it is now
Chris Haggart 4:48
as widely, as widely practiced.
Alex Hont 4:51
Chris Haggart 4:52
And I suppose at that time, we probably hadn't seen the increases in property prices.
Alex Hont 4:56
Well, I think the increases in property prices could very well be a function of the speculation or at least added to it
Chris Haggart 5:03
Self funding well I guess that's that but then that creates the cycle doesn't it?
Alex Hont 5:07
Chris Haggart 5:07
Increasing property makes more people invest, which increases the price of property and so on so forth. So we've seen the the value of properties rise and it's just become almost generic knowledge now it's just like well.
Alex Hont 5:21
Property always goes up. It doesn't, but that's what we think.
Chris Haggart 5:24
That's that's the mantra.
Alex Hont 5:26
Yeah. So I guess we're we've ended up and why rent vesting has become such a much more popular strategy is because housing in cities has become a lot less affordable. What was it that Chris, we said before insert, okay, Boomer reference.
Chris Haggart 5:40
Yeah, exactly, right. Some of the, the comebacks where it's like, well,
Alex Hont 5:48
Interest rates were 17% when I bought my property, yeah. Sorry, sorry, boomers! I'm not having a go.
Chris Haggart 5:53
Alienating a whole whole part of our listenership here.
Alex Hont 5:57
Yeah, and I'm not disputing that because interest rates Now, are you know sub 3%. So the, I guess the the servicing.
Chris Haggart 6:06
The difference is, although interest rates might have been 17% the debt on the actual property purchase wasn't seven times your income at that point, it might have been two.
Alex Hont 6:17
Well, that's right. I mean, that's what the data says when we look back at at say, the year Chris was born 1982 and have a look at the multiples of income. And this is data we've pulled from the RBA house prices in Sydney in 1982. Were about four and a half times
Chris Haggart 6:33
the average average income
Alex Hont 6:35
Chris Haggart 6:36
and now we're sitting at well, about nine.
Alex Hont 6:39
Chris Haggart 6:40
Yep. So it's like twice as unaffordable as it was.
Alex Hont 6:45
Chris Haggart 6:46
Thirty eight years ago
Alex Hont 6:47
And Melbourne 1982 was about three times income, and now it's more like eight. Right. So this is a significant jump, not just it hasn't just kept pace with wage inflation. It's gone well and truly above that.
Chris Haggart 7:00
Significantly, right. And then what that means is for the purchases, the deposits might have been similar, but you know, you don't have the equity. So you're taking on the debt. And then as a result, because you have larger debt, you have a larger mortgage obligation which eats up more of your salary, which means that we don't have money going into the general economy, for consumer spending. I think this is this is part of the issue that we're seeing, like we're not seeing wage price growth here in Australia, but that money doesn't go back into the economy to, to, I guess, feed other other areas.
Alex Hont 7:37
Yeah, that's true. I think also, we also forget about, you know, this idea of kicking the can down the road, where, where inflation slowly erodes the value of your debt, because if you just interest like, if you've taken out a loan of a hundred hundred thousand dollars in 1982, right, and you would have paid a huge amount of interest on it that I'm not disputing that. Let's just say you went interest only for the whole term of that loan for 38 years, and you still had it, you know. The price of your property has gone up significantly. And your $100,000 is not worth what it was back then you had the debt is not worth what it was back then.
Chris Haggart 8:11
Yeah, correct. Yeah. So even if we had property price growth, that inflation, you'd still be in a better position because your your asset is increasing in line with inflation while your debt is decreasing in line with inflation so that the it still makes sense. It's just Yeah, that's a good point.
Alex Hont 8:30
So I guess what we're trying to say is the reason that this has become a lot more popular is because getting into the housing market has become a lot harder. And it's been particularly, I think, utilized by younger people, but not not, not exclusively.
Chris Haggart 8:44
No, no, no, not at all.
Alex Hont 8:45
So why on earth would we do this? Why wouldn't we just buy the house to live in? Why would we rentvest?
Chris Haggart 8:51
Well, as I think I've already kind of touched on is like, if you can't afford to purchase the house that you in the area would like to live, I guess We, US Gen X Gen Y
Alex Hont 9:04
I think the term's millennials,
Chris Haggart 9:05
Millennials. Well, that and that generation, we want it all. Don't we, we can't
Alex Hont 9:09
And I want it now too Chris
Chris Haggart 9:10
We're not willing to sacrifice. So we choose to want to live in the areas we want to live, we're not willing to move out into the outer suburbs. On the most part, I must say that's probably a gross generalization. But so why do it? Well, I want to live in the inner city. I want to have that lifestyle.
Alex Hont 9:32
Well, I think you're right, you know, you want to get a foothold in the property market and so you gain exposure to a growth asset. And, you know, in an ideal world, it's potentially the property you buy is potentially somewhere you could live if you had to, but not always the case. Well, it's part of the planning process, isn't it? I guess, and and yeah, you get to live where you want to live. You know, you get to enjoy the lifestyle that you might have become accustomed to. As the advantages of buying somewhere and still renting somewhere else.
Chris Haggart 9:58
So aside from those two things which are good because you're meeting two goals in the sense. The key thing is here that financially the numbers stack up,
Alex Hont 10:08
Chris Haggart 10:09
Yep, yep. So So in this scenario, let's say the, the rent that you're getting from your investment property pays the mortgage off. So you're ideally in this scenario, that you're you're meeting your costs of your property ownership. And then you're seeing well typically, if property always goes up, you're saying the price appreciation in your property asset. So that's not necessarily costing you anything. So you've got your you got your investment the numbers are numbers are working for you on that side. And then you've you're paying your rent where you want to
Alex Hont 10:47
Yep, that's right. I mean, if you use the the rental income to pay down your mortgage, that's a big upside of that seller strategy. And just one other thing is that a couple of other things but an interesting one that actually I'm experiencing at the moment as as the tenant but you might want to rent somewhere to get your kids into the school that you want.
Chris Haggart 11:10
Yes I see this too.
Alex Hont 11:11
Right? So and I say like, Oh, you might have heard the last podcast Um, I've got renovations going on at the moment. So we've had to move in and rent the place next door now the place we're renting it from it, I know this from because they my neighbor. But they moved out and had to move overseas for work. They had a child at at school, who is about I think, very soon to start high school. And they just outside the zone, I think of their desired high school. So the plan is that when they move back, it is not to move back into their home, which I'm living in. So I'm glad that they're not kicking us out for the moment. But to move back into a place pretty close by but it's, you know, I'm going to be right in the zone for that school, and they're not going to be far away anyway when they move back, but so they get the kids in. Once they are attending, it's a lot harder to kick them out. I know there are some schools it's still a bit. We'll look at your addresses and everything. But nonetheless, that's the strategy, get the kids into the school while living there and then disappear.
Chris Haggart 12:03
Exactly right. And well, Naomi and I are planning something similar but more in catchments for hospitals for, for children. So we we want to make sure we're in a certain catchment for a certain hospital. So, we will be moving when we decided to do that into an area that would fall in that category.
Alex Hont 12:25
It's interesting as well, Chris, because looking at the services that are provided in particular areas, so that's good. Another one that you mentioned before was flexibility, you know, that, that one of the big advantages is having some flexibility around managing or controlling your housing costs.
Chris Haggart 12:41
Yeah. Well, I guess the the pretext of a lot of this conversation is about buying an investment property and that's why it's used but this is also a strategy and we've I've used it for a few clients is that you know, you they reach certain points in their life they've previously bought the home that they've lived in, they've lived in that home happily. But they've come to a point in their life where let's say one partner wants to do a career change and start a new business. And it means they're going to have to take a pay cut in order to do that. That this rent vesting I guess, structure or approach basically allows them that they don't have to sell their home. Because if we take a pay cut and we can't afford the mortgage, well we get a renter into to contribute to the mortgage and we move somewhere where we can afford to rent for a short period of time whilst the career change happens, that sort of thing. So it's not necessarily just about the property ladder, in that sense, like going out and buying investment property and building wealth that way it can be used as a as a way to, I guess, deal with with life's other goals.
Alex Hont 13:58
Well, it's interesting because it's kind of reverse of the kind of strategy we talked about off the top where instead of, you know, buying somewhere less or more affordable and living somewhere less affordable, you're going the other way. You're saying, Well, you know, we've already bought the place in the place that we've lived in, and it's great, but it's a expensive area and we can't afford to live there. So we need to rent that out. Someone else who can afford to live there can pay the rent and help pay the mortgage and we'll go save some money by moving to a more affordable area or space where the rent's going to be lower than the mortgage repayments we're going to get.
Chris Haggart 14:29
Alex Hont 14:30
So that creates a positive kind of cash outcome.
Chris Haggart 14:32
Yeah, exactly. Just makes the the numbers affordable. And we like to use this too for older clients. I'm about to use this for an older client now, she is 50 odd I think and is looking for retirement and wants to buy her long term home. So we're going to rentvest her long term home.
Alex Hont 14:53
So buy the long term home
Chris Haggart 14:54
Yep rent it out so it's affordable. And then use that to repay the mortgage.
Alex Hont 14:59
And I guess once the mortgage is repaid?
Chris Haggart 15:01
Oh, then she moves in. Yeah. Yeah. So just it's a way for her to be able to live a lifestyle that she wants to in an area that she wants to, but we're also taking care of the longer term goals.
Alex Hont 15:12
Yeah, that's good. I mean, there's certainly some plenty of options around how you utilize this strategy.
Chris Haggart 15:17
Exactly. It's not just about buying an investment property. Yeah. For younger people.
Alex Hont 15:21
Yeah. Yeah. And I know, there's always a lot of pressure to get into the property market and has been for generations.
Chris Haggart 15:27
Alex Hont 15:28
And this is one way you can do it. So let's talk Chris now about tax. Right, because any investment strategy we have to think we have to factor tax in and it's not the determining factor. But nonetheless, it does play a role in the kind of return that you get it.
Chris Haggart 15:44
Yeah, it does definitely. And never I would we would never advocate for making investment decisions solely based on tax, but I hear it often enough.
Alex Hont 15:54
Chris Haggart 15:56
I want to do this because I can negatively gear it well, is that a necessarily good idea. Yeah.
Alex Hont 16:02
Let's well while we're on a negative gearing I mean, I think we've talked about this in the past our podcast episode. Debt, the good the bad, the ugly
Chris Haggart 16:10
Alex Hont 16:11
the spaghetti western.
Chris Haggart 16:12
Yeah, I think everybody's a bit sick and tired of me banging on about how much I don't like negative gearing, because, not because of any policy aspects, but just because its wealth destructive over time.
Alex Hont 16:22
Yeah, I think it certainly can be, there's always I think as a time and a place. There's situations where, you know, where you've got a lot of disposable income. And you paying a lot of tax and part of your tax management strategy might be a negatively geared property. But again, you know, you're completely relying on the growth in the property to balance out the loss, the negative the, you know, the loss that you're making in the short term.
Chris Haggart 16:50
Yeah, definitely within Yeah, unless you're on the highest marginal tax bracket. You're still giving more money to the bank than the taxman. So but you know, as you said, it's not it's not all about the tax. That's just a side aspect.
Alex Hont 17:09
Yeah. So we probably should just given a quick description of negative gearing, which is basically where the the outgoings. So the mortgage and the insurance and the rates and all of this stuff, the costs that you incur in owning a property,
Chris Haggart 17:22
Which are tax deductible,
Alex Hont 17:24
Which are tax deductible are more than the income that you get from the rent
Chris Haggart 17:28
and is taxable
Alex Hont 17:29
which is taxable, so that you get to basically deduct the rent off the of the expenses and whatever is left, so you, I probably said that really badly. But the difference between the rent you get and the amount you have to pay is a tax deduction that you can use against your other income,
Chris Haggart 17:45
assuming it's negative,
Alex Hont 17:47
Well, yeah. Instead of you paying you've got more expenses than the income you getting. The difference is you get to use that the rest the difference to deduct off your other taxable income,
Chris Haggart 17:56
Alex Hont 17:57
Okay. I guess the other side of that is when you've got a positively geared property where the income the rent is more than the interest payments or the and all the other stuff. So you've got a positive cash flow.
Chris Haggart 18:07
Yep. And this is a great scenario was probably my preferred property scenario where you're getting the increase in the property value and also earning a positive income.
Alex Hont 18:17
But Chris, I won't get a tax deduction! Yeah. What's the point?
Chris Haggart 18:22
Again, coming back to that scenario, where I would rather give 40 cents to the taxman and keep 60 then give 60% to the bank and get 40 back from the taxman.
Alex Hont 18:36
Yep, I agree.
Chris Haggart 18:39
But it's a hard one because it's a bit like property in itself from a like ingrained culture, I need to invest in property and I need to get my tax benefits. Yeah. And I think people don't think past those two just mantras.
Alex Hont 18:55
That's right. And I'm with you. I love positive gearing and it's more income, More income means you've got more ability to do
Chris Haggart 19:01
Oh you can do all sorts of things,
Alex Hont 19:03
Tax management strategies that, super you know. We could have harp on about this stuff all day
Chris Haggart 19:08