Buying-to-let has its pitfalls, proper planning is key

26 July 2018 - 16:39
By Itai Masuku
You need to do your homework on what return you can expect from investing in property.
Image: 123RF You need to do your homework on what return you can expect from investing in property.

When John (not his real name) retired after more than 40 years as a lawyer, he used the lump sum he received as part of his termination benefits to invest in a buy-to-let apartment in Observatory in Cape Town, believing it would supplement his pension.

He banked on the income he would earn from tenants paying his monthly bond instalment, and after five to 10 years the rental exceeding his monthly bond repayments and augmenting his pension.

The developer advised him that a year after he bought, its estate agency would help him find a tenant and he could expect his two-bedroomed apartment to fetch about R14000 a month in rental income.

For the first year, he would have to fork out the monthly instalments from his lump sum, setting him back some R168000.

Trouble is, it's now more than six months after the building was completed and he has not found a tenant willing to pay the expected rental. He continues to pay the bond, levies and other charges associated with owning a property.

He has dropped the rent to R12000 and even R11000 and is also trying to secure a tenant himself, but he has still not succeeded.

The lure of a buy-to-let property, often cited by developers or estate agents, is that you put up a minimal deposit, and your tenant pays your monthly bond instalment.

"The advantage of a buy-to-let property is that you use money that's not yours, such as a loan from a bank, the tenant pays back that money you owe and on top of that you enjoy capital appreciation on your property," Rawson Properties Constantia franchisee Nancy Todd says.

Todd says if you buy a buy-to-let property in an area that is constantly improving, there is potential to enjoy a steadily increasing rental and, with reasonable rental escalations, you should be able to cover your costs within five years.

She advises first time buy-to-let investors to go for a less expensive property because, in general, the less expensive the property, the higher the monthly returns - although that still depends on what rent you can charge.

Furthermore, properties below R900000 are exempt from transfer duties.

But, as this case demonstrates, things can go horribly wrong. Not finding a tenant is just one problem. Finding a tenant who does not pay is another problem.

The latest report from TPN, a credit bureau that specialises in vetting tenants for rental properties, says on average nationally, 11% of tenants make partial rent payments and 6.5% do not pay at all.

Todd warns that there are no guarantees when you invest in property as many factors can change overnight.

Tenants defaulting, disappearing or dying, could lead to months of no income.

A bad tenant can also damage your property, lowering both its rental and sale value. Or the area in which the property is situated could deteriorate, negatively impacting both the rental and sale value.

Another risk you run is that interest rates on the bond could go up, and failing to keep up with the bond repayments could in the worst case end up in you losing the property.

Before you acquire a buy-to-let, you need to do your homework finding out what properties in the area can deliver in terms of potential rental and capital growth in relation to the mortgage bond you're going to be paying.

If being a landlord sounds like too much hard work, there is another option - buying a unit trust fund or exchange traded fund that invests in a diversified range of Real Estate Investment Trusts (REITs) listed on the Johannesburg Stock Exchange (JSE).

This way you get exposure to a diverse range of income-producing properties locally, and sometimes offshore, researched and carefully selected by professional investors. These include commercial, retail and industrial properties, such as hospitals, hotels, shopping centres and factories.

The SA REITs Association says REITS can earn you inflation-beating returns through growth in the capital you invest and through growth in the distributions or income paid.