The Ultimate Property Investment Guide2

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In this report I’ve concentrated on the first two reasons. which in the current economic climate, seem to me to be the most relevant. But updated “modules” on the others, particularly the use of property to provide a tax efficient pension fund. will follow in time.

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The Ultimate Property Investment Guide2

  1. 1. http://www.proebayer.comDon’t get ripped off on eBay!Down load your free eBay buyers guide and sellers guide from:http://www.proebayer.com/tips.htmSign up for your free monthly newsletter for more eBay money making tips,tricks, reviews and much morehttp://www.proebayer.com/news.htm
  2. 2. FORE WARNINGTHIS PUBLICATION DOES NOT CONSTITUTE ADVICE WITHIN THE TERMS OFTHE FINANCIAL SERVICES ACT 1996 (OR ANY SUBSEQUENT REVISIONS, ADDITIONS,OR AMMENDMENTS).The contents are a general guide only and are not intended to be insubstitution for professional advice. All readers are strongly advised to takeadvice from their solicitor, accountant and surveyor before proceeding withany property purchase. 4
  3. 3. ContentsPage 8 Section One Why this e-book was writtenPage 14 Section Two Do I need property to achieve my goals?Page 26 Section Three The Planning systemPage 49 Section Four Deciding on, and forming, your system of businessPage 51 Section Five The Financing systemPage 57 Section Six A Buying systemPage 91 Section Seven The Innovation systemPage 99 Section Eight Management systemsPage 114 Section Nine The Accounting systemsPage 122 Section Ten A system for reviewing 6
  4. 4. The magnificent sevenSEVEN qualities are needed to make a successful entrepreneur, say researchers atthe Durham University Business School, who reviewed other research andinterviewed 16 graduate entrepreneurs and 100 small businesses.David Johnson and Rosa Ma say the qualities are a: • ability to envisage where the business should be at points in the future • motivation to succeed • ability to set realistic goals • desire for autonomy, though tempered with the readiness to accept advice • ability to calculate real risk and plan to reduce it • knack for spotting opportunities • willingness to take the blame rather than ascribing performance to luck • creativity and innovationBut Mr Johnson said people acted differently. Venture capital providers and bankmanagers “tend to decide intuitively whether the person in front of them is worthyof support”.As the list indicates behaviour it may be possible to train people to be moreeffective entrepreneurs, he said. Daily Telegraph 1st August 1994My aim in this e-book is to show you how to be a more effective property entrepreneur. 7
  5. 5. Section OneWhy this e-book was writtenIn this section you’ll learn: • How I discovered the contents of this e-book and why I think they are so important to your successBut first a quick recap…I was very pleased with “An Insider’s Guide to Successful Property Investing” andjudging from your comments, so were you. It covered the topics a lot of other propertyinformation doesn’t cover, but which is essential information for a private propertyinvestor to have, such as: The attitude and attributes of successful property investors A laymans guide to the three main valuation techniques, so that you can be sure to buy low and sell high A comprehensive look at why gearing is an investors best friend and how you can benefit Other people’s money and how to legally use it to fund your deals The truth about buying at auction Strategies for achieving income or capital growth: and The things you need to be aware of when you are a landlordHaving laid the background it then went on to look at the different types of propertyinvestments such as flats and houses, and some of the more unusual and nicheinvestment opportunities including residential reversions, freehold ground rents, andlock–up garages, and how to get the maximum returns from them.It’s now just over two years since I first launched “An Insider’s Guide”. In that time Ihave successfully started my own property business and am building up a sizeableportfolio.I’ve also spent the last 2 years reading thousands of pages about “Nothing Down”deals, mainly from America. It’s fascinating reading. In the USA propertyentrepreneurship is big business with a lot of full time investors and developer/traderswho started out like you and me. 8
  6. 6. I think we can learn a lot from the States about creativity and flexibility in property, butapart from anything else we can learn that:“the small guy” really can become a successful property investor, even if hedoesn’t start with a lot of cash of his own.When I was looking around at the Internet a few months ago, I came across a web sitehosted by a property entrepreneur who is a millionaire on paper, but who was moaningthat at one time his cash flow had been so poor that he had been almost bankrupt.To survive financially he had to completely change his tactics and instead of buyingproperty to hold as investments, he now concentrated on refurbishment and selling on.By doing so he had intended to build his cash flow and not his capital. Howeverbecause of the margins he was able to create between purchasing a run-down property,refurbishing it and selling it on, he had in practice increased both.This wasn’t a surprise to me because it was around that time that I realised that owningproperties wasn’t the answer in itself. You see, when I first started out building myportfolio, I was determined to create cash flow. That was my most immediate need.Remember, owning property isn’t a goal in itself – it is merely the means of realising twoof my principal goals • to quit the day job and do something more interesting • to create a permanent passive incomeWhen I first started buying property, my strategy was to assemble a portfolio of highyielding properties. I figured that if I were able to buy enough of them, then at somepoint in the future, the income would be so good, that even after allowing formanagement fees, mortgage repayments, repairs and even voids and re-letting feeswhen the odd one became vacant, there would be sufficient income to pay me a goodsalary, and some left over to plough back into the business. I’d use this extra topurchase more properties.I had calculated that it would take me about two years to become financiallyindependent, by which time I would have around fifty properties. When this stage wascompleted, I intended to sit down and look at my strategy again. I thought at that time I’dswitch into commercial property safe in the knowledge that the activities from phase onewould give me a decent income no matter what.However, what looks good on paper doesn’t always reflect reality. I’ve got to say, thiswas my first attempt at building a property portfolio. Up until then I had always workedfor clients who were all established property owners. So although I was able to helpthem build their portfolio, it was always in the context of assisting them with an existingportfolio. So I wasn’t prepared for how the system really worked for “newcomers”, whenyou start from scratch.After reflecting on the conflict between ownership and cash flow I realised that there aretraps to fall into which are not obviously apparent until it’s too late. I’m glad to say that Ihaven’t fallen into all of them, but having been in and out of several, I think I am in a 9
  7. 7. position to help the unwary avoid most of them. Mainly this comes down to commonsense but sometimes it’s hard to see the wood for the trees.So, sitting at my computer that Saturday morning, I read those words on the internetand thought, “Yes, I can relate to this, it’s about time I did some serious thinking” aboutwhat I am doing and what I should be doing.The result of that serious thinking is this, “An Insider’s Guide to Successful PropertyInvesting – Part 2”.I came to the conclusion that there are key questions that need to be asked andanswered by every prospective or active property investor before they do anything.These are: • What am I trying to achieve and why? • Do I need to own property to achieve this? • Where and how do I start? • What strategy do I need to adopt?In a sense, any success will be traced back to the quality and quantity of planning andresearch made prior to taking the first steps.I suspect that many inexperienced property investors have never thought very deeplyabout any of these questions, especially those who are currently piling in on the Buy-to-Let scheme.Their failure to do so illustrates what Brian Tracey calls the two main reasons whybusinesses fail: • Lack of direction • Lack of a (financial) planI hope to be able to give some thoughts in this e-book so that you can answer thesequestions for yourself. However, answering these questions is only the first step, wethen need to put the theory into practice.The transition between knowing what you want to do, and how to actually go about it, iswhere most would be investors get stuck. If they understood clearly • How to buy the most suitable properties for their purposes, and • How to do so with the minimum of riskthen jumping in at the deep end, whilst daunting, would be do-able. 10
  8. 8. The next stage is then to learn: • How to best protect their investmentsThe more I thought about it, using my own experience of the realities of propertyinvesting, I came to the conclusion that the best answer to these questions is to havethe systems in place which will automatically steer you in the right direction.In fact, I have subtitled this e-book “Milking the System” because I believe that nomatter how clever you are, if you don’t have the right systems in place to find, buy, runand manage your property business, you are never going to be successful.On the other hand I believe that if you do have the systems in place, and you use them,you almost can’t help but be a successful property investor or developer.This is not to say that you won’t need to think and use your common sense but thereare things you can do, almost on automatic pilot, to make sure that you get the bestpossible results and avoid the problems.In this e-book I will show you the systems you need.Interspersed with these principal themes, I have also dealt with some of the mostcommon issues that have arisen during some of my “one on one” consultations, which Ican see are genuine concerns to new and experienced investors alike.Before I show you the systems all good property investors could and should use, let megive you some of the background behind how I stumbled upon them.Now let me say from the start that I am relatively new to direct property investment andI am not too proud to admit that I made loads of mistakes. So what I am about to tell youin this e-book really is the result of trial and error.However, if I can help you to start and run a property business, and to avoid themistakes I made, I will think it’s a job well done.Here are some of the reasons I spotted early on as to why people’s businesses fail.Firstly, there are the lack of planning reasons • Not knowing why they are in business • Not knowing which business they should be in • Not really understanding how they can use their business to get where they want to goThe antidote to these uncertainties is to have a proper system of goal-setting, so youknow what you want and why, and secondly a proper planning system so you canformulate a strategy which will help you to achieve those goals. 11
  9. 9. The next reason for failure is setting up the business in the wrong form. There are onlyfour basic forms that one can realistically choose, excluding a Plc, but the choice willimpact on cash-flow, tax, red-tape, and ultimately your exit strategy, if you ever need tosell the business. Most buyers and investors give this hardly any thought at all.The next reason property businesses fail is because they don’t have proper financingsystems in place. If your aim is to have one or two investment properties, then shoppingaround on the internet or ringing a couple of building societies for details of their best‘Buy-to-Let’ deals might be sufficient. If you want to run this as a proper business, youneed to have proper systems in place. This will become very apparent when you areoffered deals which you lose through not having ready funds available. This is why Ithink having a finance system in place should come before having a buying system.The next reason for failure is not having a proper system for identifying and buyingproperties. I could be pedantic and separate this out, but they really go together. Partlythis goes back to strategy; you need to know what you are buying and why. Randomlyacquiring properties ad hoc may seem like a good idea if they are all bargains, but howwill this affect the speed and ease of your exit if you ever need to sell? How will thebank treat them if you need to refinance? And without the proper system in place, howare you going to avoid properties which look like good purchases at the time but whichturn out to be unsuitable?Next, many property businesses don’t look ahead to the day they own their firstproperty. How are they going to manage it? Do they do it themselves or get someoneelse to? Either way there are fundamental implications for the business.The business itself needs to be managed. A lot of this is about implementing andoverseeing the other systems. It would be nice if they worked on auto-pilot, but it’s reallymore like spinning plates. If you leave them they’ll fall down. Then, and this maysurprise a lot of people, there’s self-management. Property is a people business and ifyou are not in top form, it will be reflected in how well you do.Then there are businesses which don’t have proper accounting systems. Thesebusinesses just do not last. This is more than having the accounts prepared once ayear, this is more about early-warning systems to alert you before things go wrong. It’salso about not missing opportunities because you don’t realise you can afford it.Finally, there has to be a system for reviewing. This isn’t about slapping yourself on theback at the end of the financial year. This is a constant process of refining what you doand learning to do it better. If you don’t review where you’ve been, you’ve no chance ofgetting where you’re going.In the e-book you’ll find links to other sites, some run by developers and agents dealingin property, I have identified these mainly by use of search engines, as any potentialinvestor doing their own research would do. The fact that the link exists is merely toshow that the site is there, it is up to you to decide whether it is useful or not. Thepresence of a link should not be treated as an endorsement of either the site or itsoperator by either the author or More Than Two Publications, it is purely for informationonly. 12
  10. 10. This book is not designed as a once only read. It is intended as a tool that you’ll want touse regularly. Instead of being a dull and dusty textbook, I’ve added a few light touchesto make it even more interesting. (So I very much hope that you enjoy it and find itstimulating and exciting)If you find there is something that I’ve missed and you think should be included in thenext edition please email me:mailto:peter@propertydeals.fsnet.co.uk and if I use your idea I’ll send you a copy of thenew edition free of charge.Please refer to this e-book again and again as you work through your preparation forbuying your next property or starting your business. Take your time to come back tospecific chapters and review the points.So let’s start by looking at arguably two of the most important systems, those for goalsetting, and those for planning. 13
  11. 11. Section TwoDo I need property to achieve my goals?In this section you’ll learn: • Why you need to think carefully about whether property is right for you • Five things that property can do which other investments can’t • Why you need clear, measurable, and achievable goalsBefore I show you the systems that you’ll need to build a property business, you’ve gotto know whether you really need and want to own property.You may be wondering why I would even ask the question “Do you need property toachieve your goals?” In the UK we just take it for granted that owning and tradingproperty is a good thing to do, and that more is better. It’s in our blood.Traditional thinking says that property is a great investment mainly because: • It can produce rental income • There can be rental growth • There are potential capital gains • It can be a hedge against inflation in certain economic conditions. • It can be very tax efficientThis is all true, and as an investor you may be trying to achieve one or more of these.However, property is only one of many different types of investment available. Whetherproperty is the right one for you or not will depend upon what (and why) you are trying toachieve.Property is not perfect and has its drawbacks, for instance: • it is relatively illiquid, meaning it is not easy or quick to sell • acquisition costs are high, especially when you get into higher bands of stamp duty • management costs are relatively high • unlike other forms of investment, it needs to be repaired and maintained • disposal costs are also relatively highBefore putting any money into property you need to consider whether it will achievewhat you require of it. 14
  12. 12. Property can provide an investor with: • capital growth and “security”, but usually the trade off is low returns from income. • high returns from rent but the trade off is low capital appreciation and poor security • any permutation in between.The tension between income and capital growth is discussed in more detail in AnInsider’s Guide to Successful Property Investing.The type of property, and the location you choose will reflect how you weigh the meritsof returns against risk, but if your buying criteria requires you to be able to invest anddeinvest quickly and easily, property may not be suitable.Alternative investments such as high income bonds, shares or gilts (the traditionalmarker for commercial property investments) may be more appropriate for you.When I first started writing about residential property investing about ten years ago, itwas a really very much a minority interest. There were only a relatively small number ofprivate landlords, and there were also a few semi-professionals doing houserenovations and conversions. The majority of residential investments were owned by anumber of small private and quoted companies, and by family trusts.Over the last decade things have changed completely.It seems that more people than ever before are thinking about, or actually, putting theirmoney into property. On the face of it there has probably never been a better time;record low interest rates, close to full employment, increasing capital values, and thesuccess of the Buy-to-Let scheme have given smaller investors the confidence to havea go.In fact, everyone wants to get a piece of the action. You can decide what you want toread into this but I’ve just read an article in the Sunday Times entitled “MPs rush to join the homes-for-rent club”.The article says “More than a fifth of MPs supplement their incomes with second homesor businesses, according to the new register of member’s interests…landlord MPsdeclaring property interests, including 65 on the Labour benches, are taking advantageof the booming housing market of recent years…..Labour’s landlords are joined by 44Conservatives and 11 Liberal Democrats…the MPs are part of a growing phenomenon,the Buy-to-Rent market. Rising prices and looser tenancy laws make property attractiveto those seeking stable investments…..In the second half of the 1990’s second homeownership in England rose by 22% from 936,000 to 1,139,000. More than 130,000 Buy-to-Let mortgages, worth £10 billion, have been taken out.”So why has everything changed? At long last it seems that the residential propertyinvestment scene is recognised as an industry in it’s own right. Government interferenceis at an all time low, for the time being at least, although the recent proposals to licence 15
  13. 13. owners of Houses in Multiple Occupation may become an issue. Finance is available formost aspiring landlords through Buy-to-Let. Interestingly, following the relatively poorperformance of the Footsie over the last couples of years, residential investmentproperty is now of interest to the large institutional investors who are queuing up to gettheir hands on as much stock as they dare to take.However, not everyone is convinced that residential property investing is a dead cert.In November last year (2001) the Sunday Telegraph ran a piece entitled “No Room Leftfor Buy-to Let” which suggested that buying for investment surged after the attack onthe twin towers on September 11th, when nervous investors decided to put their moneyinto solid bricks and mortar.The article went on to say “There are now 130,000 Buy-to-Let mortgages in the UK. Butmany of the 28,000 borrowers who have become landlords since the beginning of thisyear have already seen the value of their property drop”.It continues “the major attraction of Buy-to-Let is that the typical investor, who borrowsabout 70% of the purchase price of the property, covers mortgage payments with therental income and pockets the capital increase when he sells. This goes horribly wrongif property prices stall or fall, particularly if the property proves hard to let or rents haveto be slashed to get tenants.”Subscribers to my newsletter, Property @ Investment, will remember that last year(2001) I commented on an article published in the Estates Gazette which suggestedthat Buy-to Let had reached it’s peak in the South East, and that over-supply was goingto push down capital values and rental values.Six years into the Buy-to- Let scheme, are we finally about to see the bubble burst?Despite the dire warnings from the Estates Gazette and Sunday Telegraph, Buy-to-Letlending to private investors carried on increasing during the last half of 2001.In fact 2001 was a record year for property price increases, with average prices acrossthe country rising something like 15.5%. And the statistics seem to be showing thatthings are not slowing down in 2002, yet.However, there are suggestions that property values in the South East are poised tocollapse because of the boom in Buy-to-Let.This is interesting and is backed up by anecdotal evidence. A colleague of mine who isa very successful property investor, has recently bought a house in a prestigiousLondon borough, which he is now trying to sell asap. This he will be able to do, and hewill make a good 10% to 15% on his investment in a little under 6 months, so he’ll behappy.But he’ll also be relieved. He was intending to keep the property and let it out, but in thesame London borough he knows of many properties which were bought through the‘Buy-to-Let’ scheme, which have not been occupied since because of a lack of tenants.The owners are having serious problems with cash flow. 16
  14. 14. To maintain and cover the mortgage payments these properties need to be let for£1500+ per month. If the rents were £1000 a month or less, they’d be plenty of takers,but demand is limited at the upper ends of the market. One lady investor I was talking tosays she has had to cut her rents by £50 a week. As you’ll see later, most of myproperties are only let for £50 a week (well, about £70 a week on average to be factual)so I feel for her.The owners of these properties are being eaten alive by the negative cash flow. OurAmerican cousins call properties like these ‘alligators’. These properties are going tocome back onto the market, and probably in sufficient numbers to depress the owneroccupier market, if only temporarily. I’m not saying prices will fall, necessarily, and ifthey do I am not predicting a massive crash, but inevitably I think things will have toslow down.So is property investing finished?No, not in my opinion. The Buy-to-Let scheme’ is great and has opened up propertyinvesting even to people with modest means. But like all good things it got too populartoo quickly. Many people just didn’t do their homework as they jumped on the bandwagon.A correction was, or is, inevitable. However, that is not to say that the idea itself isn’tsound.My view is that we have hardly started yet. In my opinion there are two principle reasonswhy the private rental sector will boom in the long run: • Changing demographics • A shortage of rental propertiesAs they say ‘It’s an ill wind…’ but unfortunately as society continues to fragment thesmall, private landlord will come into his own.According to the official statistics the private rented sector is destined to explode overthe next 15 years as demographics change Britain into a country of “live alone singles”.In 1996 10 million households comprised married couples, 6 million households had justone person. By 2016 it is predicted that this will reverse with only 6 million householdscomprising married couples, and 10 million households with just one occupantBecause of this it is predicted that the number of households in the UK will jump fromaround 20 million to about 26 million in 2021. And of the extra 6 million households mostare expected to be small family units, singles and couples, many of whom will want torent, not buy.Now consider these predictions in the light of two further trends that have occurred andwhich are set to continue.The number of households in the private rented sector has dropped from around 12% ofthe housing stock since 1981 to around 10% today, although the trend is now on the 17
  15. 15. way up again. During the same period, presumably as a result of the success of theRight-to-Buy scheme, when council tenants were offered their properties to buy at adiscount, the number of households in social rented housing dropped from around 30%of households to around 20%.Unless I am mistaken, if these two trends continue, by 2021 there could well be asevere shortage of rented accommodation, both private and social, particularly social.This suggests two possible areas where private landlords may well prosper, and providea desperately needed social service.The first is in the “middle ground” providing good quality rented property to middleincome, working tenants. Ten years ago the average age of a first time buyer was 21,now it is over 30. A lot of these people will buy, but for now they want to rent goodquality accommodation.The second area is by making up the shortfall in publicly provided social housing forsocially excluded tenants. Local authority housing stocks are reducing. Despite effortsto boost the role of Housing Associations, private landlords may prove to be the onlyway to get rid of the current dependence on Bed & Breakfast and hostelaccommodation.Unfortunately there are still some in Government who dislike private property inprinciple, but I think their power base is quite weak. The thing they don’t understand isthat the Government now need private investors to provide social housing and asylumseeker accommodation. This is a real tangible service which is meeting a real tangibleneed.It’s a classic symbiotic relationship with both sides benefiting. The landlord gets a readysupply of tenants, and when the benefits system works, money backed by theGovernment. On the other hand the Government gets cheap accommodation forsocially needy groups, but without having the hassle of ownership and all that goes withit, such as the trouble and cost of maintaining the housing stock. Just think of all thatcapital which was once tied up in Government and council owned property which cannow be put to better uses.Over the last few years the Government have been falling over themselves to sell offeasily disposed of housing. A good example is the privatisation of armed forcesaccommodation. Another example is that Local Authorities are now being encouragedto sell on whole housing estates to “socially responsible” landlords, and these aren’t justHousing Associations.So unless politics gets in the way, it’s difficult to see how small private landlords can failover the next twenty years.But does this necessarily mean that property investing is a good idea for you?The answer is that it makes sense, if it makes sense for you. Whether it makes sensefor you will depend upon what you are trying to achieve through property ownership. Inthe UK over the last 50 or more years, rightly or wrongly, we have developed a culture 18
  16. 16. of property ownership. Most people assume that property ownership is a “good thing”and don’t question it. As the success of the Buy-to-Let scheme shows, given theopportunity, people will just charge off and buy as many properties as they can.What they may be overlooking is that, as I said earlier, owning property is not an end initself, it is a means to an end.People associate property with security, giving us the expressions “as safe as houses”or “as safe as bricks and mortar.” It can be a great hedge against inflation. If we buy theright properties in the right areas, it can provide the means to grow our capital. Usedproperly it can be a very tax efficient way of accumulating wealth to supplement apension. And if we really know what we are doing, it can provide an income. We’ll belooking at aspects of all these in later sections.Property Versus other types of investmentsAlthough we’ve already seen that property isn’t without its problems, it is supremelyversatile which makes it an excellent investment for most people.Here are five reasons why property gets my vote as a better investment than all others: • Capital values grow at a higher rate than money rates • Returns can be supercharged through gearing • Property values can be disproportionately increased by spending on repairs and improvements • Virtually any one can borrow to buy property • It’s never going to go out of fashionLet me illustrate each of these by comparing property to other types of investment. Tomake it a bit easier I’ll assume that we have £10,000 to invest as we wish.Capital values grow at a higher rate than money ratesMy definition of an investment is something which provides an income. Some maydisagree with this definition, and I realise it’s rather simplistic, but I think that mostpeople would recognise that this definition is reasonable.An example would be if you had some spare cash you may choose to invest it in aBuilding Society account. Say you put our £10,000 into a Building Society, and theaccount is paying 4% pa gross interest, then over the next year you would earn £400,less tax if you are a taxpayer. Not very exciting, but it ’s an income of a sort, and so bymy definition this is an investment.Property compares extremely favourably. The average return for a Buy-to-Let propertyhas been calculated as being around 7% to 8%, and it’s possible to purchase rentalproperties so cheap in some areas that the return can be 15% pa or more. (By contrast, 19
  17. 17. in high value locations such as central London, the yield will be much less, probablybetween 4% and 6%).I was reading recently someone else’s view that an investment is only a true investmentwhere the capital invested grows in its own right, regardless of the income generated.Going back to our example of the cash deposit in the Building Society, that wouldn’t beconsidered an investment under this definition because the amount deposited won’t begrowing in isolation to the interest.This may seem rather confusing but let me give you another example. Instead ofinvesting the £10,000 in a Building Society, we could use it to buy some stocks orshares instead. Assuming that the company whose shares we buy are doing OK, weshould receive a dividend, which is effectively income and the equivalent of the interestfrom the Building Society. A lot of companies in the FTSE 100 will pay dividendsequivalent to 3 or 4% of the share value. So we should still receive an income of around£300 or £400 per year.However, if things are going reasonably well, and there is sufficient demand from otherinvestors for these shares, then the share price will go up as well. So, if we had bought1000 shares at £10 each and the value of each share went up by £1, our £10,000 wouldthen be worth £11,000. So we’ve had growth on the capital element of £1000, or 10%,and a dividend or income of, say, £300 which is 3%.Let’s compare that to property. If you buy even a modest property in a reasonable area,then you’ll know from long term historical trends that the capital value is almost sure toincrease.According to the latest Quarterly Review from the Nationwide, house prices haveincreased on average by 7.5% per annum since the beginning of 1993. There’s noreason to assume that in the long run this trend won’t continue, and historically the rateof growth has been higher, nearer an average of 10% a year over the last 30 years.And if you’ve bought with letting in mind you will get a rent, or in other words an income,as well.Returns can be supercharged through gearingSo far, property is comparing very favourably. But now we can even blow stocks andshares away by doing something with property that you can’t do with most other typesof investments.“ I’m now going to tell you probably the most important secret known by, and used by,all the great property investors. I think you are going to be surprised. “Nobody ever risesabove mediocrity who does not learn to use the brains of other people and sometimesthe money of other people too… it takes a combination of the two”. So said NapoleonHill, the man who through his philosophy of personal achievement probably helped tocreate more self made millionaires than any other person in history. 20
  18. 18. The trouble with using other peoples money is that debt makes us squeemish. From anearly age we are told that debt is bad and should be avoided. And that is true, or at leastpartly true. There are certain types of debt that we should avoid at all costs, but, like it ornot, any businessman will tell you that most businesses cannot grow without the properuse of investment debt.This is especially true of property where the sheer scale of the figures involved meanthat only the super rich can afford to be seriously involved without some form of debt. Ifyou want to build a sizeable and profitable property investment business the truth is thatyou will require some short term debt.So the first rule of property is “ investing in property works better when you usesomeone else’s money” “. Source ‘An Insider’s Guide to Successful Property Investing’Let’s apply this rule to our example.Ordinary investors can now borrow considerable sums of money to buy property. This issomething you have difficulty doing with any other type of investment unless you are‘something’ in the City. However, with the introduction of the Buy-to-Let scheme, mostpeople can borrow a sizeable proportion of the purchase price of residential investmentproperties.For example, the bank I deal with will lend 85% of the lower of the purchase price or thevaluation. So, let’s assume you use the £10,000 to buy a property. If you can borrow at85% to gear up, then after allowing a bit for legal fees, stamp duty and bank charges forsetting up the loans, you should be able to buy a property worth around £63,000.Assuming a fairly modest yield of 10%, your gross income will be £6,300 a year, and attoday’s interest rates the mortgage will probably cost you around £3,100 a year (to keepit simple this is assuming an interest-only loan at 1.75% above Bank of England baserate).Let’s look at what you’ve achieved.After allowing for management fees, insurance and mortgage repayments, your netincome will be around £1,900 a year. That’s a return on the original £10,000 invested of19%.You also have a property worth £63,000, the value of which is compounding probably ataround 7.5% pa if the trend of the last decade or so continues. So if you hold theproperty for ten years it will be worth £130,000. If you deduct the original purchase priceof £63,000, you have made a profit of £67,000. That’s a 570% return on the original£10,000 invested, not including the 19% per annum you’ve been making from the rent.And all this is being paid for by somebody else, by the tenant.“This is the power of gearing and the effect is even more pronounced with higheryielding properties, and when you are able to arrange loans at lower interest rates. 21
  19. 19. If there is a key to success in property this is surely it. When you understand what ishappening you will see why buying property with other peoples’ money is much moreprofitable than buying property with your own money.” Source ‘An Insider’s Guide to Successful Property Investing’Even if you do have enough money to buy a property outright it would pay you not touse all your own money. Let me prove it.If you had bought a property outright, and without a loan, using the £10,000 (yes, insome areas of the country, this is possible) you would still have a decent return from therent, probably around 15.75% after deducting costs, but the capital growth would becompounding from a much lower base. If you achieved 7.5%, which is doubtful for thistype of property, the value after 10 years will be at most £21,000. The profit will be£11,000, so the initial investment will have grown by only 110% compared to 570%That’s why being able to supercharge the returns on the money you put in makesproperty so attractive, and gearing a property investors best friend.Property values can be disproportionately increased by spending on repairs andimprovementsIt’s a “rule” in property that cost does not equal value. You’ve probably got neighbourswho you know have spent thousands of pounds on their homes but you know that ifthey ever put them on the market they’d never recoup the full amount they’ve spent.A classic example is conservatories. You can spend £20,000 on a conservatory but addonly £10,000 to the value of the property. An even more extreme example is swimmingpools, which can cost thousands and thousands of pounds to put in, but which manyestate agents will tell you add nothing to value of the property. This is because potentialpurchasers see them as a liability rather than an asset. They are hard work and cancost a lot of money to maintain.Another less extreme example is double glazing. I wouldn’t be without it but you’reunlikely to get back in extra value what you spend.The good news is that this rule also works in reverse. There are things that you can doto a property which will increase the value by more than the amount you spend. Twoprime examples are kitchens and bathrooms. You can spend £5000 putting in a newkitchen safe in the knowledge that it will increase the value by £10,000. The same withthe bathroom. And, to a lesser extent, it also works with central heating.So the ideal is to find a property that requires some renovation and to do it up. Let’s saythat you buy the property worth £63,000 but which has an old-fashioned kitchen and nocentral heating. You spend £10,000 improving it, and end up with a property worth£85,000, which you then let out.You now have the best of all worlds. You have: • an instant capital gain of £22,000 for the refurbishment 22
  20. 20. • compounding capital as house prices increase, but now the baseline from which that will be calculated will be £85,000 and not £63,000 • an income from the rent, which will be higher, reflecting the improvements you have madeYou can’t actively “work” and “add value” with the other types of investment we’velooked at because they are passive investments. To do the same you’d have to be ableto influence the Building Society is run so it is more efficiently and can pay moreinterest. Or you’d have to have a direct say in the running of the company in whichyou’d bought shares in order to improve the way it is run, or even find new activities forit to undertake which are more profitable. Both of these are impossible for a smallinvestor.Virtually any one can borrow to buy propertyWith the Buy-to-Let scheme, and much more positive attitude by the banks to property,virtually anyone with a job can now borrow to buy property investments.It’s never going to go out of fashionThis comment is really self explanatory. In the case of residential property in general itis 100% true, every one needs somewhere to live and always will. However, don’toverlook that certain types or ages of property can become functionally obsolescent,and certain areas can go out of fashion.In the case of commercial property, certain types of property regularly go out of fashion;we’ve seen the demise of the corner shop, the high street bank, the rural post office.Wine bars look as if they are on the way out, as are smaller cinemas. Other things ariseto replace them; at the moment gyms, themed pubs, internet cafes and other leisureactivities.However, as a general principle, we will always need property, especially residentialproperty, and at the moment we need a lot more than we have.Compare this with other types of investment like internet stocks, which came and wentin a flash, leaving a lot of lost money and heartache behind them.So if after reading all this you think that property is the most suitable form of investmentfor you, you will need to think about the systems you to put in place to start, run andmanage your property business.The starting point is effective goal-setting and planning. 23
  21. 21. What am I trying to achieve and why?In its simplest form your goal setting and planning systems should work together likethis:Step One: Know what you are trying to achieve and why.I dealt with goal-setting in detail in “An Insider’s Guide to Successful Property Investing”,and so I don’t propose to cover it again here. However, knowing what you are trying toachieve and why is a crucial question for anyone thinking of getting involved in property.It’s a major investment, even the most basic of the “raw material” required to start youoff in property will cost you thousands of pounds.My reasons for going into property investment were primarily to create a short-termcash flow, hopefully coupled with long-term capital growth which will substitute orsupplement my pension in 20 or so years time.You will have your own reasons for wanting to invest in property, and these should beconsidered in relation to your goals and aspirations in the other areas of your life. This isimportant because when we consider devising a strategy to help you achieve yourproperty goals, you will find it impossible to do so if you don’t know what you are tryingto achieve or why.Remember, owning property is not an end in itself, it is merely a means to an end.Investment in property for investment’s sake is completely pointless unless you arestriving for an anticipated outcome.The other steps in the planning process then follow on:Step Two: Develop a strategy which you feel comfortable with and which is right foryou, with the aim of achieving a predefined goal or target.Many investors have no strategy as such, they would say that their strategy is “To buyproperty”. This is asking for trouble. Any one can buy a property, the key is to buy theright property.Step Three: Take action following that strategy in order to achieve that goalStep Four: Review progress regularly and fine tune your strategy as necessary. Whenyou achieve your goal, set another and produce a new strategy to achieve itStep Five: Repeat the aboveBefore we go any further, just think about your answers to these questions. • What do I want to achieve from property? i.e. capital (state a specific amount) and/or income (state a specific amount) • Why do I think I can use property to achieve these goals? 24
  22. 22. • Am I prepared to pay the price?The first two questions may seem self-explanatory and with some careful thought youshould be able to find accurate answers. However, the last of these questions needsmore thought.Let’s face it. Property investing isn’t everybody’s cup of tea. First there’s the fear thatgoes with putting so much on the line. Even the cheapest property investment isrelatively expensive. If you do it properly and take out bank financing, it can be anuncomfortable feeling to be in debt to the bank for thousands or even hundreds ofthousands of pounds.I’ll talk more about the fear of buying later.Even when you break through this psychological barrier, we all know that owningproperties can be stressful. Having tenants doesn’t make it any easier, most tenants arefine but one bad experience with a tenant can last you a lifetime.But you know there’s no such thing as a free lunch, and it’s usually true that the greatestreturns are achieved by taking the greatest risks.Even before I went into property investing, I had never had a hassle-free ‘proper’ job.Property investing has its difficulties but I see it as swapping one set of problems foranother. In my opinion I am no worse off, even when I have severe managementproblems to resolve. In fact, because of the potential returns, I’m actually much betteroff.So, assuming you’ve taken the time to write down your clear, specific, measurable andtime limited goals, and that you are quite clear what you are trying to achieve inproperty, let’s move on to making a plan. 25
  23. 23. Section threeThe planning systemIn this section you will learn: • What your trading options are: Cash generation Cash flow Equity • How to devise a strategy to achieve your goals • What sort of property suits your purposesSo, assuming you’ve established your goals, you’ll now need to make a plan to achievethem. If you are going to use property to achieve them, we now need to look at whatoptions property gives you, and how property can form part of your plan.If you already own property, now is good time to review your current goals, strategy andprogress, and familiarise yourself with the processes that follow to make sure you areon track.What are the options?There are three basic functions of property. It might help if we describe them as “cashgeneration”, “cash flow” and “equity”.In plain English they can be defined as follows: • “Cash generation” is the active creation of immediate profits as lump sums, usually through trading, which you can put into your pocket. • “cash flow” is the building of a positive passive income where the rent received exceeds all on-going costs and outgoings • “equity” is the net worth of your interest in the property, usually defined as the open market value less any loans still outstanding against the property.The reason for buying any property should be to benefit from one or more of these.Let’s have a closer look at each. 26
  24. 24. Cash generationThe easiest way to generate cash in property is by buying and selling. There are threeways to approach this, being: • Retailing • Renovating • Wholesaling Retailing • The first main form of cash generation is ‘retailing’ which is to “buy low and sell high”. In it’s simplest form, this is where you will identify and buy a bargain property i.e. a property where you can negotiate a purchase price below market value, and resell it at a higher figure, or it’s full value. If you are prepared to put in the hard graft you will be able to find properties at below ‘market value.’ An alternative to you putting in hard graft is to get someone else to do it for you. We’ll look more at buying systems later, but just as a taster over the last month I’ve bought 7 properties at well below their market value. This is solely due to the activity of an agent who wants to build his management business. He has sourced and identified the properties for me, at no charge. On average, by keeping his eyes open and talking to his fellow agents on a regular basis, he has found properties which he knows are being sold at prices below their market value. In most instances the vendors want a quick sale, but in one case the property has simply been put on the market at the wrong price. As a result of steering me to these bargain properties he has saved me at least 20% on every deal. That means I’m in a profit situation as soon as I complete each purchase. Renovating • The second main method of cash generation is when you buy a property which needs work doing to it to make it saleable. In other words, to renovate it, or as the Americans say “Rehab it”. If you can buy the property at a bargain price, in other words at a price lower than it’s value even after taking into account the repairs required, then the profit potential is even greater. If you get this business right, you can do very well from it. A couple of houses a year in the right area and at the right price can make you a decent living. There are a lot of books and manuals available which cover the subject in great detail, so I don’t intend to do so here. 27
  25. 25. However, before you rush out to buy a wreck there are a few things you shouldthink about.There are drawbacks: • It takes time. This isn’t necessarily your time, unless you decide to do the works yourself, but the time taken to run and complete the project. You should budget on 180 days from start to finish, depending on the size, type and location of the property and the works required. This assumes everything goes well and that you find a buyer in a reasonable time. Don’t expect to see any profit for at least 6 months. In the meantime you will need to live. • These projects are cash intensive. How much you will need to spend will depend on the size of the project you opt for, but even relatively small properties requiring renovation may need £20,000 spending on them. Add that to the price of the property and you’ll see that you need a lot of working capital to start with. This doesn’t necessarily have to be your capital. Some lenders will finance this kind of project, and you may be able to juggle credit cards (especially using credit card cheques and the offers of ‘nil interest on balance transfer’ deals) to cover the cost of the works themselves. However, this means that you have to have an eye on the interest paid and this will make your timing even more critical if you want to exit the project with a (decent) profit.If you think that renovating houses could suit you, you will need to set up asystem to find un-modernised houses or houses in disrepair. The most obviousway is to register with estate agents in your target territory. Also to “drive thearea”. This is covered elsewhere in this e-book.When you find a house, you’ll need to estimate the cost of repairs andimprovements. Once you’ve done two or three projects you’ll find it relativelyeasy to estimate the costs yourself. For the first few you may have to makearrangements to obtain quotes from contractors before making an offer, or makean offer subject to obtaining quotes.When you first start out you might want to start small and build up slowly. I’veheard it suggested by other professionals in this field that you shouldn’t startwith houses with major structural problems. Instead you should cut your teeth onhouses in need of cosmetic repairs or updating. Then once you become moreconfident you can step up to take on bigger challenges.When you find a suitable property you’ll have to work out how much you canafford to offer. Working backwards from the estimated resale price is the bestway to calculate the maximum price you can pay. Here’s a very rough and readyguide: 28
  26. 26. Estimated Resale Price (conservative)Less: Repair costsLess: Holding costs (i.e. interest on house price and repair costs)Less: Resale costs (i.e. agents fees and solicitors fees)Less: Minimum Profit, £10,000Equals: Maximum Purchase PriceA more detailed example of a spreadsheet for calculating the value ofredevelopment and refurbishment projects is given in “An Insider’s Guide toSuccessful Property Investing”.Try to buy it for less than the figure you arrive at. If your maximum purchase priceis so far removed from the vendors expectations that you can only buy it bytrimming your profit, then walk away. Don’t be tempted into a project where theprofit is less than £10,000,or whatever you think is appropriate bearing in mindthe size of the project. This is really your minimum buffer. It only takes oneunforeseen problem to significantly reduce this amount.For example, on my first renovation project I unexpectedly found that I needed tore-render the property. This extended the refurb period by about a month, so aswell as adding the cost of the rendering work itself, it added a months interest tothe holding costs.Once you’ve purchased, you’ll need to do the repairs and renovations. There’s alot of material available which suggests ways you can plan your projects so thateverything runs smoothly and in order. It’s important to do the jobs in the rightsequence so one contractor doesn’t have to undo the work of the contractor whohas just finished. For example, there’s no point having the plasterer in if theelectrician and plumber then arrive and start hacking chunks out of the wall to runcables and pipes. It’s all common sense but needs to be thought through beforeyou start.If you aren’t going to do the work yourself, you’ll need to put a team together. Thebest way to find them is word of mouth recommendations by friends and family.Otherwise look in the local paper and the Yellow Pages. Always get more thanone quote.For example. When I arranged replacement windows for one of my renovationprojects, I had about 5 firms come and visit who offered various deals, but all atprices more than I had budgeted, and all of which would have significantlyreduced my profit.In the end I went direct to a local manufacturer, explained I was renovating aproperty as a business and asked for a “trade discount”. I got 50% off. I also gotfree fitting. The fitter told me that if I had pushed harder I would have got a 60%discount.Always go to trade outlets for your materials: you can now always ask for, andlegitimately claim, a trade discount on anything you buy for your properties. 29
  27. 27. The final stage is to sell the property. In a very “hot market”, you may be able to do this yourself. Otherwise it would be preferable to use an agent. If you decide renovating and reselling should be part of your plan, buy with selling in mind. In other words operate in areas where owner-occupiers want to buy. If not you’ll be disappointed if you can’t sell for a long time, and your profit is eroded by interest payments. Wholesaling• The third main method of cash generation is ‘wholesaling’. This is where you buy low and sell low. This could be a starting point if you have no capital at all because the idea behind it is that you’ll identify bargain properties and then resell them on to other property investors at a price which will give you a profit, albeit a modest one. If you have no cash to put down on a property in the first place you could instead source suitable properties and then introduce them to other investors or developers. You can then charge a finder’s fee for your efforts and, depending upon the value of the property, you may still receive a sum similar to the profit you would have achieved if you had been able to purchase and sell the property on. I’ve seen this done, and I know that it works. You just have to know who’s in the market and what they are looking for. My old boss, who is a master wheeler and dealer, identified a maisonette in Kensington which he knew could be converted and split to make two separate flats and a decent profit. He knew this because he had done it for himself and he knew what was required: he knew how to get planning and building regulation consent, and he knew to within a thousand pounds or so how much it was going to cost to do the works. Just as importantly, he also knew that a fellow investor had admired his previous work and had said that he would like to do a similar scheme to keep one of the flats for himself and rent out the other. My old boss merely had to walk into the Estate Agent’s office, make an offer which, after one or two phone calls, was accepted, and then ring up his contact and tell him the good news. Contracts to buy and sell were exchanged simultaneously and on completion the funds came from his purchaser and by electronic transfer went through his account straight on to the vendor. And he made £10,000. 30
  28. 28. Cash flowThe creation of cash flow is the second basic function of property.Is it possible to create a positive cash flow by buying and holding properties to let asinvestments? The answer is yes, but probably only if: • you pay cash • you are prepared to wait, or, alternatively • you buy high yielding propertiesIf you buy properties where the gross yield is 9% or less, you will find it hard to finance apurchase and create a positive cash flow. This is especially true if you have otherincome and any profit on the rent received is taxed as income.Even without accounting for income tax, and taking into account current low interestrates (the Bank of England base rate is 4% as I write), it will be hard to produce apositive cash flow on yields as low as 9% because finance and running costs will almostcertainly exceed the rent.These are the costs you will need to take into account:Firstly, letting and management. You may be able to do both yourself. If it is not easy,quick and cheap for you to find tenants, then by not using a letting agent you will becreating a false economy.Management can be very time consuming, and depending on the tenant, quite stressful.A few weeks ago a pipe burst in an empty flat of mine (nothing to do with cold weather,an old joint just gave out), and water seeped into the flat below. The owner of the otherflat was besides himself with worry in case it got any worse, but there was nothing Icould do. I was in Spain 1000 miles away.One phone call later and my managing agent was there in ten minutes, and a plumberwithin the hour. The whole incident was sorted for just £50.A full management service like this will usually cost between 12½ % and 15% of therent collected, plus VAT. For a ‘letting only’ service you will probably have to pay 10% ofone years rent plus VAT.I’ll tell you more about management in a later section.The second major cost is finance. My lender lends at 5.5% on loans over £25,000, 6.5%on loans under £25,000. You can reduce the monthly payments by taking out aninterest only loan, but you will have to pay off the capital one day. There are differenttheories and views about this which I’ll tell you about later.As an aside, I started with interest only loans to build maximum cash flow which I wasable to plough back into building the portfolio. My lender doesn’t require interest only 31
  29. 29. loans to be backed by endowment policies which is handy, and meant I could keepmore of the rent. I was able to put this back into buying more properties. I used thesurplus as a deposit to cover the difference between the purchase price and what mylender would allow me to borrow. I have now reverted to traditional capital repaymentterms.You can also reduce monthly payments by increasing the length of the loan period,although you will pay more interest in the long run.Another way to reduce monthly payments is by borrowing less if you have the cash todo this, but you will then be losing the ‘gearing effect’ I showed you earlier.The next major cost is repairs and maintenance. These are difficult to quantify as theywill relate directly to the age, and type of construction of the property, how well it wasbuilt, and how well it has been maintained. I suggest budgeting 10% of the rent. Even ifyou don’t spend all that in any one year, keep the balance to one side as a fund,because you will have to upgrade decorations, fixtures, fittings and furniture at leastevery 5 years.Then there are voids. These are bound to happen but are unpredictable. I’ve hadtenants stay in a property for two years, others have left after 6 months. How quickly aproperty will re-let will depend on what and where it is, and what the potential tenantmarket is like.You should get warning of the tenant leaving because strictly they should give a monthsnotice, so you can start advertising before they go, and start showing potential tenantsthe day they leave.Finally, there’s insurance. Again this is difficult to quantify for the same reasons asrepairs. There are special schemes for landlords, and if you own several properties youwill probably find it cheaper to insure under a Bock policy.Let’s have a look at the effect of these costs on cash flow assuming the purchase of a£100,000 property yielding 9% gross. I have assumed that a repayment loan has beentaken out for the full 85% loan to value available.Annual rent received £9,000 per annumLess management at 15% £ 1350Less VAT on management £ 236.25Less repayment loan on £85,000 for20 years at 5.5% £ 7016.4Repairs say £ 900Insurance, say £ 350Total costs £ 9852.65Balance (£ 852.65) negative 32
  30. 30. Even if you are able to negotiate a better deal on the management, and take out aninterest only loan, the cash flow will look like this:Annual rent received £9,000 per annumLess management at 12½% £ 1125Less VAT on management £ 196.88Less interest only loan on£85,000 at 5.5% £ 4675Repairs say £ 900Insurance, say £ 350Total costs £ 7246.88Balance £ 1753.12This is the equivalent of 11.69% on my own money invested, which is not very exciting.Because of the difficulties of generating a positive cash flow on properties giving thenational average yield or lower, I purchase properties with gross yields of 13%. Thissuits me, although I have sacrificed potential long term gains in capital value.You would probably think that large family homes in London and the south east shouldbe a great long-term investment. After all, the capital growth in these areas has beenphenomenal over virtually any period of history except for one or two recessionary blips.But because they are relatively low yielding, in other words the rent is likely to be lowrelative to the capital value, they are often, at best, only a break-even position in termsof cash flow. Even if they carefully select a property to show a positive cash flow, veryfew “newbie” investors think ahead to all of the real expenses which crop up withproperty ownership such as ongoing maintenance and repairs, insurance, management,the cost of voids when the property is vacant and the associated costs of re-letting, andperiodic upgrading.You can be sure that no matter how much you are expecting to spend on your property,you will always need to spend more.EquityProperty is great for building equity which is mainly generated by: • increases in capital value • paying off the capital element of the loan • undertaking repairs and improvements which disproportionately enhance the value.We’ve already looked at the last point in ‘renovating’. Let’s have a closer look at the firsttwo. 33
  31. 31. Increases in capital valueThere is common misunderstanding which has given rise to the popular view that“properties always go up in value.”This is not true.For example, from first hand experience I know that the areas where I buy are unlikelyto show signs of significant capital growth in the short to medium term. At best theremay be some minor growth in the long term – I’m talking about a few percent over tenyears.In the short to medium term I always have the prospect of a fall in values hanging overme. The plight of the inner city areas has been well documented where demand forterraced houses fell, values plummeted and whole streets are now empty and boardedup. In many of these areas prices have hopefully stabilised, and demand from investorshas taken up some of the slack.However, the average wage in this country, coupled with the lending multiples availablefrom the banks and building societies, means that first time buyers are able to leap-frogproperties at the lower end of the market. They are able to go straight to the next level.I predict that market forces will eventually correct the balance, and that this extrademand will push prices in the next level up to a point where the ‘first tier’ properties willbe of interest again to the first time buyer. This may take years to work through thesystem, unless interest rates rise significantly over a relatively short period and buildingsocieties and banks tighten their lending policies.One of the areas I bought in a couple of years ago has seen a lot of properties beingbought by investors to put asylum seekers in. The result is that the usual tenant market,which comprises claimants on benefits, are reluctant to live there. In the long run thismay have a depreciating effect on capital value. Of more concern is that if theGovernment cancel their contracts for asylum accommodation with private landlords, alarge number of properties could become vacant and available to let or for sale at thesame time. That could force capital and rental values down.However, having said all of that, most peoples’ experience in most areas of the countryis that the long term trend is for property prices to rise. For as long as anyone canremember, this has been true, and is true even though we have seen occasionalgeneral downturns during recessions.I’ve just downloaded the latest Nationwide Building Society commentaryhttp://www.natonwide.co.uk/hpi/quarterly/headlines.htmwhich says that year 2001 was the strongest year of price growth since1988. Eventhough it was predicted that the house market would slow, house prices are stillshooting ahead in 2002. Some experts are predicting a correction. They point out there 34
  32. 32. is pressure on the Bank of England to raise base rate, and talk of unlet ‘Buy-to-Let’properties coming back on the market and depressing values. We’ll see.In “An Insider’s Guide to Successful Property Investing” we looked in some detail at howrises in capital value can produce significant long term equity growth, and how this canbe enhanced by buying in ‘hot spots’ early in the economic cycle.As an aside, and remember that I said capital growth is a bonus which I am not countingon, I’ve just discovered that one of the properties I bought about 18 months ago hasprobably literally doubled in value.I tell you this not to be smug, but merely out of interest that even depressed areas cancome back. This is a useful lesson to learn.In fact, one strategy I have seen promoted by a successful investor is to invest in areaswhich have ‘bombed’ but which for well researched reasons will come back up over athirty year time frame. I’ll tell you more about that later.Paying off the capital element of the loanLogic suggests that this is even more worthwhile when: • there is an increase in capital values • the loan is paid off by other people’s money, for example, by rent received from tenantsOne of the strongest combinations is both of the above occurring simultaneously.As I said earlier, I am not relying on growth in the value of my properties. I see anygrowth as icing on the cake. However, while I am receiving rent I am effectively gettingthese properties for free because the tenants are paying the mortgage and buying themfor me.Even if I put the properties into an auction and sell them at the end of the loan term, andonly get back what I paid for them (unlikely, even I am expecting growth over twentyyears) I am still quids in. Because the rent produces a surplus over the mortgagepayments I will have taken my money out long before.Which option is right for you?So how do you know which is the best option for you? The answer is, they are all rightfor you, but they aren’t necessarily all right for you now.New investors will opt either for refurbishing properties and selling them on, or buyingproperties to hold and rent out.This decision may be based on something as naive as they like DIY, so they opt forrefurbishing. Many people get stuck because they don’t know which one they should beconcentrating on first. Of the two ideas, holding to rent out is the most popular. 35
  33. 33. If they are in full time employment they may assume that they don’t have time for goingthe refurbishment route. Or they may think they only want to create an income tosupplement their salary or pension, and so jump straight into being a landlord.These influences may sound logical but even so they are wrong, and can lead tounexpected results.Most people charge off and start accumulating rental properties. The thinking behindthis is quite sound on the face of it. They assume that they can produce a healthy cashflow while, at the same time, building up equity for the future.If you are able to keep paying the mortgage then after 20 years you’ll have loads ofequity. But what happens in the meantime?It is likely that they’ll wake up one day and realise that actually their income is no betterthan it was before, sometimes it’s worse, and they always seem to be broke.The idea of being a professional landlord is much more appealing and much easier toachieve now that the Buy-to-Let scheme is in full swing. It’s for you to understand that ifyou go into the rental side you’re really tying your capital up and overlooking theopportunity to make capital lump sums.What a lot of people getting involved in the Buy-to-Let stampede don’t realise, becausethey haven’t thought it through, is that they need to carefully select the type of propertywith their goal in mind.There is a strong argument that if you are just beginning in property then cash is themost important consideration, especially if you are hoping to get into property full timeas quickly as possible.In fact, cash doesn’t just fund your costs of living, but it also helps build your savings,which in due course can accelerate your investment programme.Firstly, let me put paid to one false assumption that trips up a lot of would-be investors,which is that, ‘being a landlord is good and will pay a decent income.’There is a school of thought that says you should not become a long term landlordduring your first year in the property business.Instead you should concentrate on cash generation. Buying rental properties won’tnecessarily create a cash flow you can live on in your early days. The best advice I’veseen is:“If you think this is the case, take a current landlord to lunch and ask him or her whereall the money goes from rentals. You won’t like the answer.” Ron Legrand.And this isn’t just an isolated view. 36
  34. 34. I’ve seen owning multiple rental properties being compared to running a large business.When a new business first starts up, it takes quite a long time before you see a profit.This is also what happens with rental properties. Most properties will need somemodernising or repairs when you buy them, and this can mean it could be months oreven years before you get back the money you put in.I’ve seen it argued that if a boiler blows, for example, or if you have another majorproblem, you may have to spend hundreds, or maybe thousands, of pounds to put itright. That’s why you need cash reserves.So if you don’t have a lot of money you might be better off not going into the rentalbusiness and instead should be concentrating on refurbishing and trading to build upyour capital.You’ve also got to consider this in the context of how much rent you get from theproperty that you purchase. My particular forte is low value property with a relativelyhigh yield. These are the sort of properties that let for £60 or £70 per week. I only needone or two small items of repair to crop up and half the month’s income can be wipedout. If you’ve geared up and have mortgages on the properties that can mean no profitthat month, or even worse, a loss. Every time I arrange a gas test to get a CP12certificate I lose the equivalent of a week-and-a-half’s rent.I’m not necessarily saying that being a landlord would be bad for you. I don’t know yourneeds or resources. Remember, all these comments are really geared towardsprofessional landlords who need to live off their income.If you have the resources and income to live independently of your propertyinvestments, and you are happy for the properties to break even while you build capital,this may not be a concern. But either way, I think you should know that renting propertyisn’t necessarily the money-spinner many people assume it is. At least, not in the short-term.To try and redress the balance some owners of property investments will increase theirborrowing against the property. If the figures stack up then through the use of overgearing they can borrow more than they put in. If they are able to do this again andagain they can build up quite a cash deposit in their bank account.For example, they may be able to: • Buy a property cheap • Wait for increases in capital value as property prices rise • Do improvement works which increase the value of the propertyIn any of these situations they will be able to remortgage the property to take out part ofthe extra equity as a loan. If they wish, this could go straight into their personal bankaccount. 37
  35. 35. However, no matter how satisfying this may seem, it is still debt and the more debt youhave the more rent will be going towards paying it off. Unless they are careful, whatseems like an asset, in other words having cash in the bank, can quickly become aliability. It only takes a couple of interest rate rises and cash flow is suffering again.Now let me deal with two misconceptions to do with property refurbishment.Firstly, renovating houses doesn’t necessarily take a lot of your time. If you subcontractthe work out, and merely attend to the project management, it can take only a few hoursa week, and most of that can be done on the telephone.The second misconception is that the way to make money from renovating properties isto do the work yourself. In the scheme of things your time is much better spentorganising the refurbishment, or looking for new projects, rather than trying to do tasksyourself. You are only going to be saving £4.50 an hour which you would otherwisehave paid to a school leaver.If you want to do the works yourself, you will only be creating another low paying job foryourself.How to devise a strategy to achieve your goals“The main thing is to keep the main thing the main thing.” Stephen CoveyLet’s quickly summarise where we’ve got to so far. • We have set goals (specific financial targets) to achieve and dates to achieve them by • We have reviewed our various investment options and decided that property best fits our requirements • We’ve seen that property can be used • for cash generation through retailing, renovating and wholesaling • for cash flow • for equity • We’ve seen that cash flow and cash generation can be mutually exclusive; what seems like a good idea to novice investors, i.e buying rental property, can kill their business there and thenOnce we have decided which of the options is our priority we can start to think aboutstrategy. So how do you devise your strategy? There are so many books, courses andseminars about property nowadays, I’m sure that most people feel overwhelmed and 38
  36. 36. don’t really know where to start. Often the more you read the more confused you canbecome.In my opinion most private investors would be wise to start with residential property, asother forms of investment property require more specialist knowledge.Also other types of property investment sell at higher prices and therefore need moreinitial capital, and an investor potentially has more to lose.Then you have to make the decision whether you buy and hold for capital growth,whether you buy and let out for rental income, or whether you refurbish and trade on tomake a capital profit. Each way seems attractive but most people don’t have the readyfinance to try all three at the same time.This is an individual process. I assume that 99 times out of 100 property investors andentrepreneurs will be looking to increase their capital or net worth in the long term andso will be looking to build their equity. This suggests owning and holding properties forthe long-term increases in capital value and this will inevitably be supplemented byrental income.However, you will still have to decide whether your current priority is cash generation, orcash flow.If it is cash generation, then the best strategy may be to concentrate on the use of thethree methods listed, but coupled with a plan to set aside a certain proportion of theprofits generated to fund the acquisition of an investment portfolio.Alternatively, if like me you are able to keep the day job going, you may wish to skipstep one and go straight to cash flow through the selective purchase of propertyinvestments to hold mainly for growth in capital to build equity (either by increases invalue or by using the rental income to pay the mortgage) but also over time to create acash flow surplus for income.Or you may choose to keep the day job going but opt for cash generation, toprogressively build your capital. This will be accelerated due to you not needing to dipinto it for living expenses. You can then choose to build a portfolio purchased for cash,with the possibility of an instant cash surplus, or instead you can gear up on a largerscale.You will need to decide which permutation of these best fits with your financial goals.Most beginners in property find it confusing devising a strategy because of the largenumber of permutations of property type, location, tenant type etc etc. Just think aboutthe lists that follow:Reasons for buyingCash generationCapital growthTax breaksIncome 39
  37. 37. Methods of tradingRefurbishmentBuy-to-LetWholesalingRetailing“Buy low sell high”Property typesCheap propertiesExpensive propertiesSingle propertiesMultiple propertiesPortfoliosResidentialCommercialFlatsHousesOfficesFactoriesShopsTenant TypesProfessionalWorking familiesWorking singlesStudentsBenefit claimantsAsylum seekersWith so many choices in each category, how can anyone come up with a strategy thatthey can follow consistently? The danger is that you can easily be distracted and try toomany different approaches.What you need is an approach or strategy that suits you, and then to stick with it.There is a school of thought that any strategy or plan with an aim in mind, followed withpersistence and consistency will produce better results than a series of random butotherwise worthy actions backed by no overall plan. “Consistently putting deals together is easier than you think. Really! Making things happen and making serious money as a real estate investor doesn’t require luck or extraordinary negotiation skills, and it doesn’t take talent or money or a masters degree in business. Heck, none of that stuff matters. What does it take? In a word, PERSISTENCE” Joe Kaiser 40
  38. 38. Exit strategyA key element to an any strategy is knowing what the end game is. It really worries mewhen people have no exit strategy.For example, if you are buying to refurbish and sell on, the exit route should bestraightforward, but you will still need to know • how am I going to sell it? i.e. by auction or by private treaty • who is going to sell it? i.e. an estate agent, and auction house, or myself, privately • who am I going to sell to? i.e. investors or owner-occupiers?Often, things may not be so obvious. For example, if you are buyinginvestments to let and hold you may need to ask questions like these: • should I sell the property to an investor as an investment with the tenant in place? • Would I be better off waiting for the property to become vacant and then selling to an owner-occupier? • Which of these options will produce the quickest sale. • Which will produce the best price? • What do I need to do if I need my money back in a hurry?As I have said my niche is low value, high yielding residential property. The locations Ideal in have a limited owner-occupier market, and if I ever need to sell I will be planningon selling to an investor.Rather that selling individual units, I will sell the portfolio as a whole. This is my plan andI have deliberately put together a portfolio with a mix of properties which is regionallyfocused for ease of management. They are all held in a limited company which will savea potential purchaser stamp duty, and which will make conveyancing easy – it onlyrequires a sale of the shares.This is a plan, and when I ever want to get out of property, or if I ever need to get out, Iwill be several steps ahead of other investors who have thought no further ahead thanthe next rent cheque. 41
  39. 39. What sort of property suits my purposes?Unless you have specific reasons for considering a niche investment category like fishfarms or telecommunication aerials, most investors will choose between eitherresidential property, or more mainstream commercial properties such as offices, shopsor industrial or warehouse units.I’m now going to look a bit closer at the pros and cons of: • residential property • commercial propertyResidential propertyIn “An Insider’s Guide to Successful Property Investing” we looked at different types oftenancy arrangement, the legal requirements of being a landlord, and even some nicheresidential property investment opportunities such as residential reversions, freeholdground rents, and holiday homes.For most property investors the choice will lie between houses, flats or houses inmultiple occupation - an HMO. A house in multiple occupation could be a single dwellinghouse, in which individual bedrooms are let and amenities like the kitchen and bathroomare shared, or could be a property comprising a number of individual, self-containedflats, accessed off a shared landing.The definition of an HMO is given within the various Housing acts, and this definition iscurrently under consideration by the government. Of the three principal types ofresidential property you are most likely to get involved with, HMOs are the least straight-forward.Unfortunately there seems to be a lot of uncertainty surrounding the government’scurrent review of licensing HMOs, which I understand is now mandatory for all localauthorities. Although I have read plenty of articles in the professional property press,have visited the government’s website dedicated to the licensing of HMOs, and havespoken to environmental health officers in local authorities, whose job it is to undertakethe licensing, I have to admit that I am still confused as to what the scheme isattempting to achieve, what the requirements are to comply, and which particularproperties are affected.As far as I can see, and I am prepared to be corrected on this, it is down to individuallocal authorities to plan their own programme for licensing. If you own, or want to own,an HMO, the best advice I can give is to ring the environmental health officer at the localauthority concerned, and discuss with them what is required.I went through this process a few months ago when I considered buying a propertywhich had been constructed in Victorian times as a single dwelling house but which has 42
  40. 40. subsequently been converted to provide four self-contained flats. Although the flatswere self-contained, they are all accessed off a shared stairway and landing, whichbrought them within the definition of an HMO even though for practical purposes theyare not.The conversion had only been done about 10 years ago and I rang the local authorityPlanning Officer and Building Inspector and confirmed for myself that planning consentand building regulation consent had been granted. However, even though it is arelatively recent conversion, I thought I should check that it complies with the currentrequirements for an HMO licence. One thing I didn’t want to do was to purchase theproperty and then find that I had not budgeted for several thousand pounds of work tobring it up to standard.The conversion had been to a good standard, and included the provision of a proper firealarm system with break-glass alarm boxes to the stairwell, and even the provision of anexternal metal fire escape from the upper flats at the rear of the property.Even so, the Environmental Health Officer informed me that to obtain a licence, strictly,the accommodation within each individual flat would have to be arranged so that eachroom was accessed off a common lobby rather than having access direct from room toroom.The idea is that the lobby can then be fireproofed to ensure a safe exit for the occupant.Also, that all principal doors would have to comply with the required standard for fireresistance, and would have to have intumescent strips. These are fire-resistant stripsheld in a groove around the edge of the door which melt to provide a firm seal to keepsmoke and poisonous gas out.Also that the common landing and staircase would need mains-powered secondarylighting and that the stairs would need suitable fire protection, possibly some kind ofenclosure.I could see that the property complied with some of these requirements, but not all. TheEnvironmental Health Officer was more than happy to make an appointment with theFire Officer from the local Fire Brigade to inspect the property and even to give a roughestimate of the cost of the works, before I signed a contract to purchase.Unfortunately the deal fell through for other reasons before the Environmental HealthOfficer and the Fire Officer could inspect the property. But I could see they recognisedthat the situation was confusing, and were very willing to help me.Most of the properties in my portfolio are individual self-contained flats, each with theirown front door at street level. This really reflects the area in which I have purchased,and I haven’t deliberately sought out properties of that construction. If the right HMObecame available, I certainly would consider purchasing it, subject to making properenquiries of the local authority.Whether you choose to purchase houses or flats should ultimately be driven by marketforces. I talk elsewhere about my own experiences where my preliminary investigations 43
  41. 41. into the suitability of buying properties in a particular area revealed that the demandfrom tenants for houses was stronger than the demand for flats.If you intend to buy properties to refurbish and sell on, it may be that the best option isto specialise in houses. Houses tend to be freehold and although some works mayrequire planning consent or building regulation consent, at least you won’t have to gocap in hand to the freeholder for consent as well.It’s also worth remembering that whether you are buying for refurbishment or to hold asan investment, individual flats held on a long lease usually require the payment ofground rent and a service charge, which can impact the profitability and the cash flow.One way around this is to try to buy the freehold, though this may mean buyingindividual blocks of flats.There is a school of thought that it is better to buy multiple units i.e. a building dividedinto flats, or even adjoining houses, than single family homes.Firstly, there is less cost per unit. For example, a small 2-bedroomed family house inyour chosen locality may cost you £90,000. A property divided and converted to providetwo 2-bedroomed flats may cost £120,000. Although the overall cost is £30,000 more,the actual cost per unit is £30,000 less. As a general rule of thumb you will find that themore units there are in an individual property, the less per unit you will be paying.What makes this exciting is that in many areas the rent paid for a 2-bedroomed flat willbe the same, or not much less than, the rent paid for 2-bedroomed house. This meansthat the net initial yield per unit is also higher.Then there’s the question of financial security. If you have one letting unit, such as afamily home, you will usually find there is one family living there. If you have financedthe property, you have in effect one family making the repayments for you through therent received. If, on the other hand, you buy a property with two or more units, you willhave two tenants paying the rent. As the amount of mortgage per unit is less, you havemore chance of collecting enough rent to cover the mortgage, even if one of the unitsbecomes vacant.Similarly, if you have a single family home and it is vacant, it’s 100 % vacant. However,if you have four flats in a property and one of the units is vacant, you only have a 25%vacancy rate. The more letting units you have in a property, the less impact the void willhave on your cash-flow.Owning multiple units also simplifies the management. If you have a number of singlefamily homes scattered around your target area, you or your managing agents canpotentially be running around all over the place.If instead, you buy a property divided into flats, you potentially have all of your tenants inone location. If you have enough units located close enough together you could evenconsider employing your own caretaker and could probably afford to provide hisaccommodation, instead of putting the management in the hands of a managementcompany. 44
  42. 42. Buying multiple units can also save on expenses. For example, if you have to call anelectrician or plumber out to deal with the ground floor flat, you may as well get him tolook at the problem in the first floor flat at the same time. This makes a lot of sense ifyou have to pay a call-out charge. One call-out charge will cover two flats.Commercial PropertyThere are distinct advantages and disadvantages to investing in commercial property.Let’s have a look at both.The first main advantage is that the most common form of lease used for commercialproperty makes the tenant responsible for all repairs, and for reimbursing the landlordthe cost of any insurance policy. This can be contrasted with a residential assuredshort-hold tenancy, which will make the landlord responsible for all repairs and forpaying for insurance.Secondly, rent will be paid quarterly in advance, meaning that the landlord has only toinvoice the tenant four times a year. As the tenant will be a commercial business, itshould be relatively easy to collect the rent by standing order if the tenant is agreeable.Compare this with residential tenancies where the rent is technically due at thebeginning of the month, known in the trade as “monthly in advance”. In my experience,managing agents pass on the rent at the end of the month in which they collect it, so itis usually received by the owner “monthly in arrears”.If your tenants are receiving Housing Benefit there can be even more delay. At themoment a Housing Benefit office I deal with is about 11 weeks in arrears, so by the timeI am passed payment by my managing agents, I’ll be receiving the rent about fourmonths in arrears.If there is any management required, (in the case of multi unit investments such as anoffice building let as floors or individual suites, or an industrial estate let as individualbuildings where there may be a service charge) the lease will invariably allow thelandlord to re-charge the tenant any costs incurred by managing agents and their fees.By contrast, residential managing agents will charge from 12½ to 15% of the rentcollected plus VAT, and this cannot be recharged by the landlord to the tenant.In reality most commercial properties are easily managed by the landlord, often all thatis required is posting out an invoice for the rent once a quarter. However, the option ofappointing a managing agent and recharging their fees to the tenant is usually providedfor in the lease.The result of all these advantages is that the landlord should receive the full rent statedin the lease. In other words the rent agreed with the tenant is the net rent because thereshould be no deductions from it.This can be contrasted with the rent received from a residential property where thelandlord will pay say 15% of the rent +VAT for management, and a suitable sum forinsurance and repairs. 45

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