Investing in buy-to-let property offers the potential for both steady rental income and long-term capital appreciation. However, from fluctuating interest rates, unpredictable tenant behaviour and erratic maintenance costs, buy-to-let investments can come with significant challenges. In this article, we explore a number of key risk factors that property investors should consider before buying a rental property.
Hard work
Owning property is synonymous with maintenance and it is important that you give careful thought to the number of hours you’ll need to spend actively maintaining your property, especially if you are employed full-time. If your day job keeps you busy during regular work hours, home maintenance may need to take place after hours and/or on weekends. If you’re self-employed, you’ll need to ensure that the active management of your investment property doesn’t encroach on your income-generating activities. If you intend to manage the property yourself, expect to be permanently ‘on call’ for your tenants who may not hesitate to contact you in the evening or over weekends to address their concerns or complaints. Burst geysers, leaking roofs, burnt-out gate motors, and blocked toilets don’t respect office hours, and when incidents such as these occur, you will be expected to attend to them immediately. While rental income is often referred to as passive income, this is not necessarily the case as property management requires active involvement on the part of the landlord.
Unexpected expenses
As much as you may try to budget for the associated expenditure that comes hand-in-hand with property ownership, it is difficult to foresee every possible expense. As a rule of thumb, it is wise to budget, on average, one percent of the property value per annum to cover the costs of maintenance and upkeep, although this is only a guide. Insurance excesses, damage and breakages not covered by insurance, thatch repairs, faulty irrigation systems, general wear and tear, electrical compliance and maintenance all cost money, and you need to ensure that your budget accounts for these potential expenses so that your profits are not unduly eroded.
Non-liquid assets
Depending on the property market at the time, a property can take anywhere from two to nine months to sell, and this can adversely impact your financial position if you need quick access to capital. Having all your capital tied up in a property investment cash can be risky, and if you’re forced to sell your property at an inopportune time for a reduced price, you may end up losing on your investment.
Rental is market-driven
Just as investment returns are market-driven, so too is the rental income you can expect to generate from your property. The rental you are able to charge is directly linked to the property market and is largely driven by demand, such as we are witnessing currently in the Western Cape. Whereas rental properties took a hit during the Covid years, the latest PayProp rental index survey reports that rental growth has rebounded to its highest level since 2017, with the Western Cape – a popular destination for those seeking to semigrate – being the big success story. While the Western Cape region has had the highest rents nationwide since 2016, growth has been consistently below average in recent years. However, the PayProp Q2 report for 2024 shows that rents have shot up by 9.7% year on year.
Vacancy risk
The risk of your rental property standing empty has increased considerably as a result of the pandemic. According to the new TPN Vacancy Survey for the first quarter of 2024, national vacancies are at historic lows with demand for rental property outstripping supply, most likely because high interest rates continue to make homeownership unattainable for many people. The TPN report shows that nationally, 4.42% of rental properties were vacant in the first quarter of 2024 compared to 6.69% in the previous quarter. Keep in mind though that drops in interest rates and/or changes in sentiment, amongst other things, can adversely affect vacancy rates and, as such, vacancy risk needs to be factored into your planning,
High transactions costs
Unlike investing on the stock market, investing directly in property involves high transaction costs and, as a result, a buy-to-let property should be considered a long-term investment. If you’re planning to purchase a R2.5 million property with a 100% home loan, you can expect your costs to be around R187 000, including bond costs, transfer duties and deeds office fees. Being a large proportion of your overall investment, it does not make financial sense to buy and sell investment properties often as you will need time to recoup the upfront transaction costs.
Rental legislation
Rental property legislation in South Africa is fairly difficult to navigate and often works in favour of the tenant. If any disputes arise between you and your tenant, or your tenant fails to pay their rental, you will likely need to employ the services of an experienced property lawyer which costs money. Where you need to bring legal proceedings against a tenant for non-payment of rental, keep in mind that you will need to be able to cover your income shortfall while at the same time funding the costs of legal advice. Besides these additional expenses, legal proceedings can be time-consuming and highly stressful, and it is important that you are financially and emotionally prepared for such an eventuality. While there are rental insurance options available to cover the risks of non-payment, these policies are generally quite pricey and only cover a period of three-months rental – and these additional costs will only serve to erode your investment returns.
Concentrated asset
What is important to keep in mind is that owning a single property in one specific location is in itself a risk. As a concentrated asset that is exposed to the nuances of the area in which it is located, your property’s value and rental-generating capacity are wholly dependent on a single set of circumstances that are unique to that particular suburb and/or street. Plans for low-cost housing, the building of a new shopping mall, the onset of a squatter problem, or the building of a new highway, are just a few eventualities that can dramatically affect the value of your property. As the pandemic has demonstrated to us, it is almost impossible to predict how future circumstances may affect property demand and prices making the term ‘safe as houses’ some of a misnomer.
Ongoing costs
Keeping in mind that rental income is taxable, you will also need to account for ongoing monthly costs such as sectional title levies, building insurance, bond cover, rates and taxes, and general maintenance and upkeep costs. If you intend to outsource the management of your property to a rental agent, you will need to budget around 8% of your rental income per month for these purposes. When determining whether to appoint a rental agent, it’s always a good idea to do a cost-benefit analysis to determine whether it is financially worth your while.
Have a wonderful day.
Sue
