How to Avoid the Pitfalls of Property Investing – PART 2

This is the second part of this series on how to avoid the pitfalls of property investing. In this post I am going to identify and discuss two more pitfalls to be aware when deciding to invest in real estate.

These next two pitfalls are a little bit harder to identify and deal with then the previous two pitfalls of paying too much for a property and losing a tenant.

  1. Negative gearing the property

Although negative gearing sounds great in theory, it can sometimes cause problems in real life. Negative gearing is when the income from rent from a property is less than the costs of the loan plus other expenses. The result is that a loss is made on the operations of a property.

Due to the way the tax laws work the loss that has been incurred can be deducted against other income. So the term negative gearing means that you have made a tax loss in owning an investment property. This results in less tax being paid by a investing

So why would anyone want to lose money in owning a property? This is the question usually asked by a novice investor. Well, according to the theory the value of the property should go up and essentially offset the total cost of negative gearing when the property is finally sold.

It quickly becomes apparent that there are a number of issues with negative gearing. The first is that you need to have sufficient income to be able to pay for the expenses of owning an investment property before you can access your tax benefits. If you are a wage earner you can access your tax benefits by reducing the amount of tax deducted from your wages. If you are self employed then you will need to wait until you lodge your annual tax return.

The second is that you may not be able to sell the property for enough money to cover the losses that you made in owning it. Given the market moves in cycles it may be that when you are ready to sell the property it may be in a downturn and you won’t get enough money to offset the costs of owning it.



  1. Property booms and busts

This one is related to the pitfall of paying too much for a property discussed in part 1. The best way to become rich by investing in property is to buy property when prices are low. The property market operates in cycles. There are periods when the market is booming and then there are periods when the market is falling. The trick is to be able to afford to purchase property when the prices are low.

This is easier said than done.  When the property market is in a downturn it may be due to a number of reasons. These could include high interest rates, high unemployment levels and low economic growth. All of which could create barriers to purchasing property in a falling market.

These barriers are basically what identifies a falling property market. The most common barriers include banks restricting their lending, property valuations going down and limited stock on the market. All of which make it difficult to access funds to buy a property and to find a suitable property to buy.

On the other hand, buying property during a boom can be the worst time to buy. What usually happens is that people buy property during the boom. The market then goes bust and property prices fall. The investor then gets discouraged due to the falling prices and sells the property, usually at a loss, and this bad experience dissuades them from ever investing in property again.

Anyone thinking about buying property needs to be aware of where in the cycle current prices are. They need to research to find out whether the market is booming, falling or moving sideways.  This is crucial so as to ensure that the right price is going to be paid for a property and to understanding what will happen to the price of that property in the future.

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