Off-the-plan properties are often tempting to investors, with potential capital gains and a minimal upfront financial outlay offering a strategy that can be used to grow wealth quickly in an appreciating market. However, it’s important that thorough due diligence is carried out prior to making a commitment, as buying ‘off the plan’ means that you can’t see, touch or feel the property until well after the property purchase is complete
1. The investment strategy
There are a number of reasons for investing in off-the-plan properties, but the two main ones are for capital gain or income. In some cases, both can be achieved, and this, coupled with negative gearing benefits, can make off-the-plan investing attractive.
Capital gain can be achieved by selecting properties in a high demand residential area, usually within 10km of the CBD of a major city.
Higher-yielding properties providing good returns and rental growth may be achieved from a commercial property or resort type development, because in a strong economy, business rents rise and rents are secure. In popular tourist areas, the high occupancy rates produce good returns.
Often the purchase of an off-the-plan property can be achieved at a discount to the retail market, enabling the purchaser to minimise the capital outlay on settlement. This provides some or all the necessary equity for the deposit by the time settlement occurs.
2. Market research
There are many elements that affect the potential capital growth of a property, and the key driver is demand. As long as people want to live in an area, properties will be built and prices will rise, particularly as supply becomes scarce.
Areas where new infrastructure projects are being undertaken provide great opportunities for capital growth. Some of the items that drive demand for property include:
Figures have consistently shown that properties within about 10km of the CBD continue to outperform outer lying areas
Proximity to commonly used amenities such as shopping centres, schools, hospitals, transport and parks/playgrounds are growth drivers
New infrastructure developments are often a precursor to demand, such as roadworks, railway lines and shopping centres
Other developments in the same area
Other new developments in the same area may adversely affect your investment, both in terms of capital growth and rental return. Too many apartments in the same area can absorb pent-up demand, and reduce sale prices and rental returns due to too much competition
Examine the demographic of the area to understand potential renters’ demands. What are the average rents for the area and what types of properties demand higher rents? Is the property catering for the majority of the market? A good rental agent is vital
Obtain property reports to understand how quickly the area is growing and to understand the relative prices of different types of property in the area
3. The property and the developer
Knowing the type of property and understanding the drivers for the location is imperative in buying off the plan. Ask yourself, what do I really know about the developer and the property to be built?
Does the price compare with other properties in the area? Have the property price checked and obtain a bank valuation from a reputable valuer.
The developer should have completed many developments before and have established a good reputation in the industry. Seek testimonials where possible.
Also check the reputation and credentials of the builder and read any testimonials that are available. The builder has the responsibility for the quality of the workmanship, and will be required to come back and fix or repair anything that has not be completed satisfactorily
Does the architect have a known reputation for their designs? Often good design helps increase rental returns and can be a uniquely distinguishing factor separating it from other properties in the area
Size and specifications
Ensure that the size and specifications are stated exactly. The precise make and models of all fixtures should be identified. Check that they suit your demographic; for example, student accommodation will require easily maintained and easy-to-use appliances
Deposit bonds, bank guarantee and cash deposits are the most common forms of finance.
Deposit bonds are a financial guarantee, issued by financial institutions for a small fee, which guarantee the deposit amount to the vendor.
A bank guarantee is similar to a bank deposit, however in this instance the purchaser’s deposit amount is tied up until settlement.
Make sure you have the finance available prior to the time of settlement, to ensure the process runs smoothly. Penalties can be incurred if settlement is delayed.
A common strategy among investors is to buy property off the plan with a 12 to 18-month settlement, with an aim to use the equity growth over this period to finance the deposit. While this might be a suitable strategy in a rising market, it’s always wise to have the finance options available if this doesn’t happen.
If the property market drops and the developer is forced to lower prices to get sales as a result of market forces, the property may be valued less than the original contract price. This means that an investor could have paid more than the final sale price for similar properties in the same complex.
5. The contract
Have the contract reviewed by a qualified legal practitioner who is familiar with off-the-plan buying. Key considerations include:
a. Sunset clause – if the developer does not finish the development by this date, the investor has the right to terminate the contract without penalties. If this occurs, the developer should return the deposit with interest. If the investor has purchased with a deposit bond, they’ll lose the amount paid for it
b. Variations – most contracts allow a change of up to 5% of the area of the property purchased, due to council requirements and development conditions
c. Specifications – the contract should have the exact make and model number of appliances, security systems and include warranties and maintenance information
d. Strata management – while each state has different rules, the developer usually reserves the right to appoint the body corporate manager. The body corporate manager should not be appointed for an unduly long time, for example 10 years or more, as an incompetent manager can be hard to replace
This article has been republished with permission from Your Investment Property magazine. Try our Loan Repayment Calculator and find the best repayment strategy for you.