Question Mark

A question from a Eureka Report subscriber this week raises an interesting question: if you buy a property at a mortgagee auction, is it a bargain?

When an owner can’t make repayments on their loan and hasn’t been able to come to an arrangement with the lender to make good their arrears, the lender can repossess the property and sell it to reclaim the amount owed. Essentially, it’s a forced sale.

In recent months I’ve observed a dramatic increase in the number of mortgagee sales, particularly in the outer suburbs, where developers and owners have over-extended themselves and built or bought properties for much more than their true market worth.

High quality, well located blue-chip property is rarely sold via a mortgagee auction because it enjoys healthy ongoing demand from investors, home buyers and tenants alike.

Sure, you may be able to buy a property at a mortgagee auction for less than the original purchase price. This does not mean you’ve scored a bargain; often it's quite the reverse.

Prices achieved at mortgagee auctions are usually an accurate indicator of the property’s current market value. If it’s worth less now than it was when the vendor first bought it, there’s a good chance it will be worth even less down the track when you go to sell it. Essentially, you’re inheriting someone else’s problem. Remember, the point of purchasing property is to make money, not lose it!

I am not saying you should rule out buying at a mortgagee auction altogether. Just make sure you’re aware of all the factors surrounding the sale and be prepared for the possibility that you have a higher-than-average chance of buying a dud.

Property bogey

I’ve seen ads for what appears to be a fire sale at the famous Moonah Links golf course south of Melbourne. They’re offering on-course villas via mortgagee sale for 10% less than the mortgage valuation. Sounds like a bargain to me '” what’s your opinion?

If you’re a dedicated golfer and are looking at the Moonah Links properties purely as a lifestyle purchase so you can tee off any time you want, the mortgagee auctions may represent a good opportunity.

However, if you’re looking at these properties as an investment, I suggest you think twice.

First, golf course property appeals primarily to owner-occupiers, and a very small segment of the owner-occupier market at that. When demand from this small market segment softens, there is virtually no demand from investors or tenants to take up the slack. This makes these properties poor prospects for regular rental income and consistent long-term capital growth.

Second, the asking price of new properties such as these is determined not by market forces, but by the level of return the developer is seeking on their investment. To calculate the asking price, the developer factors in the costs of purchasing the land, building the development and associated infrastructure, interest rates on the loan and other holding expenses, agents’ fees and advertising expenses. They then add on a profit margin.

When new properties are sold by the mortgagee they reveal their true worth; that is, what the free market is prepared to pay, not the price set by the developer. As mentioned in the introduction to this week’s column, if the price achieved at auction is lower than the developer’s original price, it may be some time before this trend reverses.

Country block

My partner and I bought a three hectare block in the country 19 years ago. We intended to build a home on it when we retired. However, with the long delays in getting a house built in this area, we are having doubts about whether to proceed. How would the taxman treat us if we decide to sell? We are both retired and rely heavily on the age pension.

Capital gains tax was introduced for investment assets (except the family home) purchased after September 19, 1985. Because you purchased your land after this time, your land would be subject to CGT on any capital gain made during the period you’ve held it.

There are two ways you can calculate your CGT liability. Because you’ve held your land for more than 12 months, you would qualify for the government’s 50% discount on the amount of CGT payable for investment assets.

Alternatively, you can use the indexation method. This involves calculating what the property would be worth at the time of selling, if it had grown at the rate of inflation. This figure is deducted from the sale price to calculate the capital gain.

Remember that the taxman will count any capital gain as income during the financial year it was realised. For example, if you sell it before June 30, 2006, any capital gain you make will be considered as taxable income for the 2005-06 financial year. This could affect your pension entitlement. So, I strongly suggest you seek advice from your accountant about the most appropriate action to take.

A unit in Mildura

What is your view about buying a unit in Mildura priced about $100,000 to $125,000 with a rental return of about 7%? What are the possibilities for medium and long-term capital growth in the area?

I haven’t seen the property so I can’t give a specific opinion. However, in general terms I suggest that this kind of property is marketed towards the investor market, with the expectation of strong rental demand. It may not enjoy strong demand from home buyers, who form the biggest proportion of the overall market.

When demand from investors softens (as it inevitably does at various stages in the market cycle) there’s unlikely to be sufficient demand from home buyers to fill the breach. This means the outlook for longer-term capital growth is relatively poor.

Additionally, regional areas tend to experience more fluctuation in demand than urban areas, because of lower population levels and fewer opportunities for employment.

While all properties will show some level of growth over time, it’s unlikely that Mildura is a candidate for strong capital growth, particularly given that the Victorian market as a whole is quite slow. I believe it will be well into 2007 before we see the beginnings of significant growth in the Melbourne market; this growth may take longer to reach regional areas.

If it’s capital growth you’re after, now is probably not the time to buy into this kind of investment.

Rural idyll

My wife and I moved to Bendigo from Hawthorn three years ago. We sold our long-term family home and bought a larger Federation-period house with 14-foot ceilings and a big garden, walking out of the purchase with just over $100,000 change in our pockets. With the refurbished 110 kmh Calder highway we are only 100 minutes’ drive from Melbourne. Every time I visit Melbourne I thank my lucky stars that I do not have to spend hours every day in traffic jams. Do you think there’s a growing trend for people to move out of capital cities and into regional centres? If so, what are your thoughts on this trend?

I certainly agree that people are seeking out different locations to pursue “lifestyle”. People who once aspired to quarter-acre blocks on suburban blocks are upping sticks and moving to areas some distance from the major capitals, seeking sun, sand, serenity or snow.

With today’s information technology breakthroughs, there’s less need to be tied down to a desk and a single office. People can log into their office IT systems from virtually anywhere and communicate with anyone in the world.

What’s more, Australians as a whole are becoming wealthier. As our wealth grows, the constant need to generate income lessens and we begin to focus on other priorities, including the way we want to live our lives outside work.

For home buyers who are considering a “seachange” primarily for lifestyle reasons, the trend towards regional living is encouraging.

For investors, however, I don’t have such a positive outlook. Because property is comparatively cheaper in the country, people tend to buy rather than rent. Additionally young people, who make up the bulk of potential tenants, tend to leave regional areas for the bright lights of the big cities, where there are more educational and employment opportunities.

Therefore rental demand in regional areas is not particularly strong, making for a relatively poor investment outlook.

Mark Armstrong is Director of Property Planning Australia, an integrated property advisory and mortgage sourcing service. He also writes for Australian Property Investor magazine.

You can email any questions regarding property to Mark Armstrong right here, by clicking questionmark@eurekareport.com.au