Australia, like most of the developed world, is experiencing a period of unusually low interest rates. At the time of writing this article the current Australian Reserve Bank cash interest rate is just 0.10%. This equates in general terms to a standard Principal and Interest repayment (P&I) home loan rate with the big four banks to be somewhere in the vicinity of the mid 2% per annum range, or lower, depending on your individual circumstance. Interest rates for business and commercial property loans are higher than residential loans. The lenders assert that this is due to higher risk, however you need to make a much larger deposit on commercial property and business loans than on residential loans. This is a separate topic in itself, however for the purpose of our discussion let us just work on the basis that commercial rates are higher – say 1 % – than residential rates.
Current Property Trends
Talking about property is almost the Australian national past time and is permanently ingrained in the Australian psyche. Notwithstanding the growth in property prices in the capital cities and in holiday destinations in regional Australia (people looking to work from home in more relaxed or more spacious conditions), the growth seems unlikely to slow in the next 12 months. Across the capital cities, National Australia Bank has forecast a 21.6% rise in dwelling prices in Sydney in 2021, followed by a 3.1% rise in 2022. This is mirrored across the other capital cities where the range in growth is anywhere between 11.6% in Perth and 23.5% in Hobart, no doubt affected by the work from home / regional escape / sea changers in COVID-19 times.
Whilst the long term (5-10 year) growth forecast for the major capital cities still looks robust, there are some outliers in the market that give us a genuine cause for concern. We have seen property prices spike almost 100% in 24 months in non-metropolitan regions located a two hours’ drive from capital cities. These prices are not sustainable and are driven by the population’s inability to travel internationally, as well as record low interest rates. There has never been a better time to sell a holiday house!
Investing in your Business Premises
Everyone has no doubt heard the old adage that rent is dead money, again this attitude is also part of the Australian psyche with respect to property. It’s particularly true when we look at current interest rates being so low. There are multiple reasons to contemplate a property purchase for your practice, not just for investment purposes. For example, owning your own premises provides you with continuity of location, the ability to alter or change the property as you see fit, and to enjoy the uplift in value if you chose to improve the facility. However, looking simply at the value / cost equation of the transaction, let’s do a simple worked example:
Property Purchase $800,000
Stamp Duty and other costs $30,000
Total Costs $830,000
Total Loan $830,000
Now – as noted previously, the LVR required on commercial / business premises may be less than you are able to borrow for a residential property. In the case of Veterinary, however, there are specialist lenders, such as BOQ Specialist, who can provide 100% finance for owner occupied veterinary practices.
For this example, let’s assume we borrow all of the money for the purchase. This may require, of course, some alternate security (a residence or other property) as surety for part of the business premises loan. However, BOQ Specialist would be best to talk to in this regard.
The interest costs on an $830,000 loan at 3.5% would come in at approximately $30,000 and the rates and other costs would likely be circa $1,000 per month. This gives a total holding cost of approximately $42,000 per annum.
The rental yield / value on a property varies from metropolitan centres to regional. However, as a rule of thumb, a property outside of the CBD metro would typically be valued at somewhere between 5 – 8 % of rental yield. This means that a property generating $40,000 per annum in rent, at a valuation of 5% yield, would be worth approximately $800,000.
In this simple example, the cost on holding the property as the owner is much the same as if you are the tenant. As such, wouldn’t you rather be the owner? Of course, if the property in a regional area was valued closer to a yield of 8%, the same rental of $40,000 per annum would generate a property value of only $500,000. So, buying the property outright would actually save you money.
Getting the mix of the property location, loan, fit out and so forth is never straight forward. However, given that the majority of your patients will attend your practice, and your practice is likely to operate for a long time, it’s usually well worth considering as a business and investment option.
By Heath Stewart, Chartered Accountant and Director