Thursday, August 23, 2007

Did you get it?

I sometimes get asked about the National Credit Act and how one can “get around it”. For some reason, people have got stuck on the idea that spending 30% of your gross household income on home loan repayments is a limitation that is going to hold them back on Wealth Creation.

When I ask why this is a problem for them, they say ...

“I am up to my limit already with my family home and my place at the coast, so that means I cannot invest in property for Wealth Creation.”

Then I ask them what IRR they are getting on their existing properties and they tell me that they have not done the sums.

This really surprises me!

How can you just leave these two big purchases, these two big risks, out of the equation when it comes to planning your financial future? If 30% of your income is not working its head off in terms of your Wealth Creation goals, how can you ignore that?

You see, a lot of people just do not “get it”.

I understand that they may have bought their properties before they learned how to invest in property like a Wealth Creator. Back in the days when, like most people, they bought up to their maximum in terms of affordable bond repayments (or more accurately, up to the maximum of what the bank would lend them) when it came to a family home, and then bought a dream holiday home at the coast too, when they could.

(As an aside, have you noticed how many more people have bought homes on the coast? Not long ago it was really something only the very well-to-do did. Now people on quite ordinary incomes are doing it too! Not that prices have gone down – far from it!)

Back to the story ...

If the 30% of your income that’s going into your home loan/s is not growing at a good rate, you have a problem. Nearly a third of your income is “out of the race”. Just the decision to pick up that little place on the coast has taken thousands of Rands a month off the table of your financial future. There is something called an opportunity cost and if, say, R5 000 a month is earning you say 20%, then in 10 years time you will have put in R600 000, for what kind of return?

R1, 880 476.50

If you think that’s not too bad then you must have been talking to a life insurance salesman sometime recently! Because take a look at this:

If you invest a tenth of this, R500 a month, at the rate of 85%, you will put in R60 000 and get what kind of return?

R26, 015 986.

It’s not a mistake. R500 a month can make you over R24 million MORE than R5000 a month, if you put in the time and effort to find the right property, structure the right deal, and check that you are getting the right kind of answers when you run Property Pro Investment Program.

Yes, it takes time and effort but it’s worth it.

In the meantime what do you do if you already have that beach house and an overly-expensive family home? Because we know that in an ideal world you do not try and make a bad investment better after buying it.

You make your money when you buy, not when you sell. But the reality is, many people are in this situation before they learn about property investment.

First and foremost, understand that your existing properties and investments are part of your Wealth Creation picture – they are not a separate issue. If you “get” just this, believe me you have made a breakthrough!

  • Find out where you stand – work out the IRR on all your properties.
  • See if you can improve the results – e.g. what would happen if you were to convert the garage into a cottage and rent it out?
  • If the figures are horrible, do the sums and see what would happen if you moved into a cheaper rented place and rented out your house. (There is also a myth that it is always better to buy than to rent – do you know that?)
  • Is there a market to rent out your coastal place and if so does it make financial sense to do this?
  • Consider selling, especially if you could not handle another interest rate increase. It is better to sell and to carry on with your life and learn how to make the right investments than to clinch to your emotional decision – and lose it all.
  • The bottom line – you cannot make a decision unless you know how to do the calculations. We make irrational decision because we are ignorant.

These ideas are just for you to investigate with Property Pro. Depending on the figures, you should make your decisions.

1 comment:

MonkeyOfAfrica said...

This is such a basic concept that people miss it! Dankie Oom Hannes for showing me this.

I like to give this example to friends and family now:
If you by your home for e.g. R1mil, you instantly have an opportunity cost of R10k! Because you could have rented that home out and earned a R10k additional income.