What Is Capital Growth And Is It Important?
There are two main reasons that most people invest in property. One is rental return and the other, seen as the most important by many, is capital growth.
Capital growth refers to the growth in value over time that your investment property experiences. It’s the money that keeps being added to your property portfolio over various property cycles, while your debt comes down or stays static.
Property investors may have different strategies… some may look to negative gearing for tax benefits, some may want to maximise cashflow by targeting only positively geared properties, and others may aim for a mixed approach. But capital growth is the cornerstone of just about everyone’s property portfolio.
The gift that keeps giving
You may have heard the cliché…” timing the market or time in the market”.
Both elements are important for capital growth. First of all, timing the market well means you can get a property when the property market is flat, or just before it is about to get a boost. If you can score a deal where you get a property for below what its value is, you are making money on the way into the property market.
Time in the market is simple. The longer you hold a property, the more market cycles you go through and the more capital growth you accumulate over time. Some in the industry say that properties should double in value every 7 to 10 years. That may not be true every time, but if you hold onto a property for 20 or 30 years, it’s going to be worth a hell of a lot more than what you bought it for.
The case against flipping
One way to limit the benefits of capital growth is to sell your investment property. First of all, when you sell it, that’s the last money you will ever earn from it. That’s all well and good if you use the windfall from the sale to leverage into another investment that will earn you more capital. But if you sell it because you’ve made $100,000 in value and think it’s a case of “job well done”, you are likely to regret it later. Have you ever heard someone say, “I really wish I sold that property 10 years ago”? Didn’t think so.
One example we often talk about is the first series of The Block. Back in the early 2000s, these guys renovated apartments in Bondi and sold them. The winners made a couple of hundred grand as a result, after selling their luxury apartments for just over $1 million. Now, just 20 odd years later, similar properties are fetching $5-6 million in Bondi, and the couple of hundred grand they earned has gone down in value since then. If they had held onto the properties and put tenants in them, they would have had access to millions’ worth of capital growth.
Keep the government out of your pocket
The other thing that happens when you sell an investment property is that you have to pay capital gains tax (CGT) to the government. This means forking over a sizeable chunk of the money you have earned from a good investment.
But if you don’t sell, you don’t pay tax on the gain. Simple as that.
But how do I reap the rewards?
You don’t have to sell to realise the gains made by your good investment. You can keep a property and access its value boost in the form of equity to invest elsewhere.
If your investment property has had capital gains over a period of time, you can get it valued and then refinance your loan to unlock the equity and use it for your next investment property, so you don’t have to save cash for another deposit.
Ever wondered if your superannuation will be enough to fund your retirement? Spoiler alert… no it won’t. Most people have a few hundred thousand in their super at best when they retire. Can you imagine what that will be worth 10 or 20 years from now? Not much when you factor in inflation.
If you took matters into your own hands by accumulating 5 or 6 investment properties in your property portfolio, then depending on your age, they will be worth a lot more by the time you retire, while the debt you owe on them will be less, if not gone altogether.
You could then choose to sell 1 or 2 properties to pay down the rest and live off the rental income of the ones you keep. These never need to be sold. You can pass them on to your kids unencumbered so they can earn rental return and more growth and then pass them onto their kids too.