For many, owning a home is the cornerstone of wealth creation and something we all aim for when we start earning a stable income. While a home is an appreciating asset, it is not necessarily an investment that will provide a nest egg for retirement.
This is according to Steven Barker, Head of Home Loans at Standard Bank, who says a home only really becomes an asset and indicative of your wealth when it is paid off.
“While property has value that appreciates every year, it does not generate an income and the cost significantly reduces the return on the asset,” he says.
Many people hinge their retirement on the hope that they will be able to sell their paid-off home, scale down and live off the income. If you were thinking along that line, remember that you will still need a place to live after you sell your house, and costs will be incurred when you purchase your next home.
Of course, you could always choose to avoid paying such expenses by renting a property. However, Barker says there are pros and cons to be considered.
Owning a home is more beneficial in the long term than renting, he says. “When we repay a mortgage, we are investing in our own asset, and not paying off someone else’s bond. Once the loan is paid off, the payments cease, whereas renters will always have to pay their rent.”
Inflation reduces the effects of the initial borrowing and interest over time, whereas rent will probably rise in line with inflation.
For example, a couple who borrows R1 million and has an interest rate of 10%, will have monthly repayments of R9 650. Within five years, their debt will have reduced and their income increased. If they had rented over the same period of time, the rent would have escalated to at least the same rate as their income, and still they would have no asset.
So, the best option is to buy a house with the help of a bond and pay it off as quickly as possible. However, the responsibilities don’t end there. In order to protect your investment, Barker says you have to ensure that it is well-maintained; these costs will affect the return on your investment.
Other costs that should be taken into account when calculating an investment return on a property are insurance, renovations, garden services, and rates and taxes. If the property is a sectional title, then levies need to be factored in.
One clever way to ensure that you will have enough money for your retirement is by using the equity in your bond to purchase a property to rent out, he says.
So, if you have paid off your R1 million bond and buy another property in the right area valued at R800 000, you could rent out the property for enough to cover the new bond. If you no longer have a bond on the home you live in, it will be easy to subsidise any shortfalls.
It’s better still if you use the money you save to pay into the rental property over and above the tenant’s contribution, thus reducing the bond period and saving in interest charges. Then, in a few years you will have a bond-free property worth substantially more than what you paid for it, plus a decent rental income, he says.
Barker cautions investors against being tempted by “get rich quick schemes” that involve buying many properties to rent out, as an increase in interest rates can push the monthly bond payments above your ability to afford them.
If you are investing in properties to rent out, make sure you have at least three to six months’ worth of payments in reserve to cover you if there is a rate increase, or if a tenant defaults.
“For most people, homeownership is an important element of an investment strategy,” says Barker.
“However, you cannot rely solely on a property as a means of funding your retirement. The best way to work out a balanced investment strategy is to chat to your financial advisor, who will understand your needs and provide you with a solution that best suits you.”