Buying a property off the plan has always been presented as a high-risk exercise, yet one that can be extremely lucrative. The idea is that as well as getting in at the earliest level of a project that’s about to take off, the investor will also gain tax incentives and concessions from stamp duty, plus the investor is usually getting a discounted market price. The risk comes from the fact that the property is not yet completed – you’re in fact investing in a pledge that this property will be constructed to the plan, design specifications and glossy brochures that lured you in.
Like any investment, making poor choices can lead the investor down a ruinous path. For instance, the recent oversupply of apartments in Melbourne badly burnt a number of off-the plan-investors. However, there’s no doubt that buying wisely in an off-the-plan property can be an excellent windfall. It’s a very different investment type with its own peculiarities and needs to be carefully researched.
Therefore there are many pros and cons to consider before buying off the plan:
One of the major benefits of off-the-plan is you’ll get lower or no stamp duty as the stamp duty is only payable on the land component for new house and land packages. In states like NSW you’ll be potentially eligible for the New Homes Grant Scheme. Victoria, like many other states, has a concession for off the plan purchases. As an investor you’ll also be able to “double dip” as it’s a new build and thus will depreciate. This means you can get significant tax concessions.
Low outlay for high returns
Buyers can get a high value property for a minimal capital outlay. You can put down a 10% deposit and lock in a lower price than what the property will be once it goes to market. Assuming the market is rising (which, in most parts of Australia, is virtually a given) you will have got a bargain by the time the property is completed as its market value will have increased during those years it was built. In other words, you’ve already experienced capital growth before the property was even completed.
The investor usually needs a minimum 10% deposit to secure an off the plan property. This does mean that the investor then is able to buy time between the initial deposit and the project completion to secure the remaining finances. This is crucial if a sudden opportunity has arisen that the investor doesn’t have the immediate resources available. It also means that investors aren’t forced into bridging loans or high interest second loans in order to purchase an attractive proposition. That 12 month to 2 year difference, the average time that an off the plan property is completed, is useful for organising those funds.
This is perhaps the single biggest problem when it comes to purchasing off the plan. It comes down to the very nature of off-the-plan projects. Because they are uncompleted, banks will usually not be able to give an unconditional approval for financing. Instead it’s a pre-approval. This can leave the investor in a deep hole. It’s evidence of the how the rules of financing can swiftly change during the life of the off the plan project. For example, say a bank has asked for a 10% deposit and valued the property at X amount. The finance lasts for only 3 months. Now, two years later, the project is completed and the investor is ready for settlement. However, in that time the bank’s valuation could have drastically changed to 10-20% less than the purchase amount, meaning that the investor has to now find more money. For those investors working off a tight budget this can be very difficult.
Or alternatively when, finally, the whole project is completed, the banks may no longer want to lend at the same rate as was agreed upon. You’re at the mercy of the winds of the financial market. Maybe the banks themselves have had to reappraise their lending types in the face of a GFC style financial storm. Or if there’s a heavy oversupply of apartments they may change the conditions and rates on a loan. Essentially what you signed up for at the beginning of the loan has now changed. Instead of a 10% deposit you may need a 20% deposit.
A third scenario is if the investors are depending on a set date of completion for the project for their finances. If the building, for whatever reason, is delayed, this can impact on the financing coming through from the banks. For clients working tight margins, if a settlement date blows out this can affect their finances. Again they may need to come up with extra capital to cover the shortfall.
Delays in building can hurt the investor in many ways. If investors are working to tight margins and the construction time has blown out then this will drastically affect the loans and finance the investor has in place. An investor may have come in, being promised that the complex would be built within a year, and so he or she sets up the finance accordingly. If the project is then delayed by longer, suddenly the investor may find that the market value may drop or else that the lenders re-evaluate the loan. Most investors are working from an agile, swiftly reactive perspective, but construction delays become obstacles that deny this strategy. What it comes down to, is that investors have no control over how quickly the project is built. Any obstruction, whether construction or legal, will be detrimental to rental income. There may be a sunset clause in your contract but even these are not iron clad.
Investors often sign up to off-the-plan projects wowed by the stunning looking designs of the apartments in question. Yet the devil is in the detail. The apartment may well not turn out like it was portrayed. For instance, a different floor size or layout. Or fittings in the plans not being part of the actual completed property. Or simply a quality in construction that is not what you expected. The glossy brochure may show one thing but you have no control over the labour that puts the apartment into reality.
There are a myriad of legal issues potentially circling any property investment and off the plan is no exception. For example, the implications of who is liable for insurance, the investor or developer. And at what point the investor or developer is liable (ie. during construction or on completion). On top of all this there are random insurance points one may never have thought of: such as if a building is on the flood plains. Home warranty insurance varies from state to state. There are also more immediate contractual issues such as how many times can you visit the site and if you can make changes to fixtures or designs. Because you’re dealing with a property that’s yet to be built the contractual measures are more important than normal.
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So how do you minimise risk when buying off the plan?
Make sure you do the following:
Only deal with reputable suppliers and builders. Research who all the third parties are and their history (ie. any lawsuits, bankruptcies, average time to complete projects)
That the contract is fixed price. This ensures that what you’re paying at the end of construction is exactly what was agreed on at the start, with no sudden extra costs popping up, such as construction or legals etc.
Get guarantees of building and construction times. Ensure that there is compensation for any delays in the contract.
Research the market and area carefully. Make sure that you’re not buying into a locale that’s about to be swamped with other new developments that will cause an oversupply. Look for predicted growth rates over the long term and what kind of infrastructure is about to come in. Check out the current access to schools, jobs and shops and transport. Delve into the demographics and community statistics.
Ensure that the builder guarantees that a DA (development application) is attainable or the house can qualify for a CDC (Complying development consent) .
Look for rental income guarantees from the developer – this should be backed up by an appraisal from an independent agent. Request compensation in the contract if this income is not met.
Have the contracts thoroughly looked at by a solicitor and make sure your finances are pre approved with a buffer in case bank valuation comes in slightly lower upon completion of the build than the asking price (limiting your borrowing power).
Check with your lawyer or property adviser about the safety of your deposit in the event the developer goes bust. Are you able to get it back or some of it back? Ask how you can protect yourself from this dangerous risk.
Ensure that there’s an independent property inspection once the project is completed to check if there’s any defects such as leaks, cracks, poor wiring or faulty plumbing. Usually you get 90 days written into the contract to do this. If there are any faults make sure that the developer gets them fixed. Again, this should all be written into the contract.
So while off the plan properties come with their own set of risks, they can be highly lucrative if researched carefully and you know what to look for. It’s always advisable to talk to a property professional before you start this journey.