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Similar question: In general, is it financially better to buy or to rent a house? which you can see the returns they are getting

Ok, so I'm wanting to know how I can calculate how profitable it would be to buy a house versus invest my money in a managed fund. I know this depends very much so on a case by case basis, but I'm interested in your both opinion on the matter/my circumstances and also ways in which I can calculate the value of my options (since you probably don't know the New Zealand market overly that well).

Some details about me:

  • I'm 19 years old and a recent grad on a decent salary.
  • I live in a little city in New Zealand.
  • If I buy a property I would live in it for 1-2 years before travelling/working overseas and likely living in another city in New Zealand thereafter.
  • I am able to have my parents manage the property as a rental which makes things significantly easier.
  • I'm looking to buy a 3 bedroom house for approximately 300k
  • There is a housing bubble in the capital city of New Zealand, I am a fair way away from that geographically, however I do not know how well it would affect things.
  • New Zealand has no capital gains tax and they are unlikely to introduce it to affect somebody with only 1 home.
  • If I did not buy a home I would likely invest in a managed fund such as Devon funds
  • I presently do not have the full deposit, I have about a 13% deposit but it would not take me too long to acquire the amount I need.
  • New Zealand has a superannuation scheme which I can get $5000 from as a free grant and I can also probably gain an additional $4000 from withdrawing my "employer contributions" from it (which I can do only if I'm buying my first home). So buying a house has about $9000 worth of added value for me.

I'm interested to hear your opinions regarding my situation and any advice you can give.

Cheers,

EDIT: Look at all of the answers, not just the accepted one as they are all excellent and provide very valid and sometimes case specific examples, however the accepted answer was simply the most satisfying answer for me personally.

  • When, if ever, would you plan to sell the house? As I understand it, you're describing buying a house, living in it for 1-2 years, and then renting it out and never living in it again. Would you ever move back to it or sell it (for instance, after you retire)? Would you want to bequeath it to your heirs? – BrenBarn Jan 28 '15 at 22:15
  • I would probably sell it when I retire or when I can no longer get my parents to maintain for me. – Adrian773 Jan 28 '15 at 23:04
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    You know that it is a good idea to buy a certain investment if most people are telling you not to buy it. You know it is a bad idea to buy an investment if most are telling you to buy it. As Warren Buffett say - "Be greedy when others are scared and scared when others are greedy." Generally, a good time to buy property is when interest rates are high and demand for property is low, you can usually get some good bargains during these times. – Victor Jan 29 '15 at 1:00
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    Which "little city"? Auckland housing market is booming due to immigration i.e. demand increase. Christchurch market is booming due to earthquake i.e. supply decrease. Everywhere else is not quite as hot. So the city you're investing in and it's demographics are massive considerations. – rism Jan 29 '15 at 3:20
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Whether it is better to buy or to rent depends on several factors. Most of them are fairly uncertain, but calculations can be made to see how they play out in the long-term for insight into their impact.

The results below are made on the basis that both the buyer and the tenant spend the same amount, in this case $1,480.03 per month. The buyer pays his mortgage and when it's all paid for he switches to investing $1,480.03 per month at the fund deposit rate. Meanwhile the tenant pays rent and invests whatever remains from $1,480.03 per month at the fund deposit rate.

The amount $1,480.03 is set by the mortgage case and used by buyer and tenant for equal comparison.

Taking some hopefully not too unrealistic rate estimates, these are the calculation inputs:-

mortgage APR = 4.0 %

deposit = $300,000 * 13 % = $39,000

grant = $5,000

mortgage amount = $300,000 - deposit - grant = $256,000

number of periods per year = 12
mortgage term in years = 25

periodic payment = $1,480.03

periodic rent = $900
rent inflation per annum = 2.0 %

fund deposit rate = 7.0 %

property appreciation rate = 2.0 %

(All percentages are expressed as effective annual rates)

Plot of buyer's and tenant's accumulated assets over time

The simulation extends for twice the term of the mortgage.

enter image description here

If the investment fund can return 7% and a $900 rental is comparable to a $300,000 house then there isn't much of a compelling case either way.

Lowering the expected fund return shows a different picture.

fund deposit rate = 5.0 %

enter image description here

Sticking with the 5.0% fund return, lowering the rent brings the tenant's asset accumulation closer to the buyer's.

enter image description here

If there is a particular set of inputs you would like to see plotted I'm sure I could add another example to this post.

There is also an interactive version of the calculation which you can find via this page. However, unlike the examples above which include a deposit and grant, it just explores the simple case of a 100% mortgage. The aim is just to see how rate variations affect asset value over time.

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I don't know much about New Zealand, but here are just some general thoughts on things to consider.

The big difference between buying a house and investing in stocks or the like is that it is fairly easy to invest in a diversified array of stocks (via a mutual fund), but if you buy a house, you are investing in a single piece of property, so everything depends on what happens with that specific property. This in itself is a reason many people don't invest in real estate. Shares of a given company or mutual fund are fungible: if you buy into a mutual fund, you know you're getting the same thing everyone else in the fund is getting. But every piece of real estate is unique, so figuring out how much a property is worth is less of an exact science. Also, buying real estate means you have to maintain it and manage it (or pay someone else to do so). It's a lot more work to accurately assess the income potential of a property, and then maintain and manage the property over years, than it is to just buy some stocks and hold them. Another difficulty is, if and when you do decide to sell the property, doing so again involves work. With stocks you can pretty much sell them whenever you want (although you may take a loss). With a house you have to find someone willing to buy it, which can take time.

So a big factor to consider is the amount of effort you're prepared to put into your investment. You mention that your parents could manage the property for you, but presumably you will still have to pay for maintenance and do some managing work yourself (at least discussing things with them and making decisions). Also, if you own the property for a long time your parents will eventually become too old to take care of it, at which point you'll have to rethink the management aspect.

So that's sort of the psychological side of things. As for the financial, you don't mention selling the house at any point. If you never sell it, the only gain you get from it is the rent it brings in. So the main factor to consider when deciding whether to buy it as a rental is how much you can rent it for. This is going to be largely determined by where it is located.

So from the perspective of making an investment the big question --- which you don't address in the info you provided --- is: how much can you rent this house for, and how much will you be able to rent it for in the future? There is no way to know this for sure, and the only way to get even a rough sense of it is to talk with someone who knows the local real estate market well (e.g., a broker, appraiser, or landlord). If the property is in an "up-and-coming" area (i.e., more people are going to move there in the future), rents could skyrocket; if it's in a backwater, rents could remain stagnant indefinitely.

Basically, if you're going to buy a piece of real estate as a long-term investment, you need to know a lot about that property in order to make any kind of comparison with another investment vehicle like a mutual fund. If you already live in the area you may know some things already (like how much you might be able to rent it for). Even so, though, you should try to get some advice from trustworthy people who know the local real estate situation.

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This isn't exactly an answer, but I can not comment at the moment. I have bought a house in NZ in the last year, being my first. There are a couple of things that you might need to watch out for with the First Home Subsidy (the $5000), especially the one that says that you have to live in the house that you buy for a certain amount of time otherwise you have to pay it back.

I also assume that you have been in Kiwisaver (the superannuation) for at least 5 years? You can only take $1000 for each year you have been in there up to $5000. You can take all of the Kiwisaver funds except what the Government has put in, so if you have $4000 from your employer, then you would probably have more in your contributions that you could use as well.

You don't have to have the 20% deposit to be able to buy a house, I went through a broker, and was able to get in with less. Not sure on the exact percentage. The 20% does help to get the bank to put some extra funds in for legal fees etc.

My house wasn't an investment property, but I hope this helps.

  • If you are putting down less than 20% deposit, won't you then have to pay LMI and thus pay more for the loan? – Victor Jan 29 '15 at 5:38
  • I believe its up to the bank on if you have to pay that or not. I didn't have to pay it. It was all the broker though, I didn't talk to the bank myself once. – Seige Jan 29 '15 at 19:34
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Here's my view, as a 38yr old NZer who grew up in Auckland:

When you purchase a residential property, whether or not you intend to live in it, you're essentially counting on the possibility that one of the following will occur:

  1. owning is more economical than renting and investing the money you'd otherwise put into the property (in NZ, this is rarely the case)
  2. the property grows in value faster than your investments would otherwise (this is only as predictable as the property market). If this happens, then you will be better able to purchase a property to live in at a later date (because you can sell your initial one).
  3. you gain additional benefits through ownership, whether it is more peace-of-mind, stability or just more control over how you alter the property

This report by the NZ Royal Society (going by memory from a presentation I attended) predicts ongoing population growth in NZ, mainly driven by immigration, and mostly in Auckland. Building of new housing isn't keeping up with population growth, so my bet would be that the property values, especially in Auckland, are going to continue to climb.

Other factors that might influence your decision are things only you can know, such as where you might be likely to settle down, how much risk you're willing to take, how much capability you have to look after a rental property, and how much knowledge you have about the property market.

Bear in mind that government schemes and world events may change the outlook for number of houses being built and immigration levels, both of which heavily affect property values.

My personal view is that the government isn't doing nearly enough to provide affordable housing for our young adults in NZ. Not only that; the govt is essentially responsible for the problem in the first place, as zoning rules for local authorities artificially inflate land prices which prevent the building of affordable houses. Furthermore, foreign investment in rental properties is unregulated and unmeasured. Both these problems could be resolved with appropriate legislation, though central city prices are unlikely to be relieved as much as other areas simply because prices are also inflated due to the desirability to live centrally.

The problem is a severe one, and high housing prices for even the smallest dwellings are going to make inequality, and the social problems that go with it, far worse. I'd like to see new cities or towns being planned and built from scratch, such as Pegasus and Canberra.

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