Should I invest in property or start a business?

It’s a choice many Australians face: should you invest in business or property? We look at the potential returns and risks of each.

One dilemma that confronts many Australian investors is whether to invest in residential property or in a business. There are plenty of issues to consider when deciding on either investment opportunity, so let’s take a look at the factors you need to take into account.

Investing in property vs investing in business

It’s difficult to know where to start when deciding whether to invest in business or residential property. You may even want to invest in both eventually, but which one should you start with?

Investing in property can offer a more passive approach than investing in a business. Property can help you build a passive income, which replaces your job income via a property portfolio. The property portfolio would run as a business with the intent to grow asset value and give you returns.

Buying a property is something available to anyone showing the capacity to repay a home loan.

On the flipside, a well-run business has the potential to deliver greater dividends than a property investment. Businesses also offer a chance to explore a creative outlet and achieve fulfilment on a personal level. If you have a true passion or a great idea you want to share with the world, a business can let you do just that.

Finally, depending on your financial situation, it may be possible for you to invest in both business and residential property. Thanks to the leverage offered through residential mortgages, you may be able to borrow up to 80% of the property’s value without paying lenders mortgage insurance (LMI), meaning you would only need to contribute 20% of the value of the property plus costs. Depending on your circumstances, you could still have enough capital left over to invest in a business

Issues to consider

  • Cost. You’ll need to consider the initial purchase price and associated costs as well as the ongoing costs of maintaining your investment (see below for more details).
  • Risk. Any investment decision comes with a level of risk attached. Do you have the knowledge and expertise required to run a business? Do you know what it takes to choose a good investment property? Would you be able to manage loan repayments if your circumstances changed? Answering these questions will help you work out the level of risk involved in each investment option.
  • Work required. Consider the amount of time and effort you’ll need to put in to establish and maintain your investment. Will you be starting a business from the ground up, learning the ins and outs as you go? If you invest in property, will you manage the property yourself or hire a property manager?
  • Potential returns. What sort of ongoing income could you expect your investment to generate? Which offers the greater potential for capital growth in the future?
  • Tax implications. When working out the overall financial potential of each investment option, don’t forget to factor in how it will be treated at tax time. How much tax will you have to pay? What can you claim as a deduction? What strategies can you use to keep your tax bill to a minimum?

Pros and cons of investing in business

Pros

  • Potential for higher returns. Businesses generally offer a greater potential for return on investment than residential property.
  • Personal fulfilment. Starting a business may allow you to pursue your goals and creative interests, leading to fulfilment and satisfaction on a personal level.
  • Options. “You have many options regarding investing in a business,” Gardiner says. “It could be a micro business based at home, a retail store, a franchise, a partnership or a buy-in with an existing profitable business, or even taking a more passive approach and accumulating blue chip shares.”

Cons

  • More expertise required. Running a business will most likely require more knowledge, expertise and training.
  • Disruption factor. You may have to leave your current job in order to give your business the attention it deserves.
  • Lower loan LVRs. Lenders typically offer lower LVRs for business loans compared to residential mortgages.
  • Can be risky. Many new businesses fail, so make sure you’re aware of all the risks before investing in business.

Pros and cons of investing in property

Pros

  • Higher LVRs. Lenders offer higher LVRs on residential loans than commercial loans.
  • Simpler. Investing in property requires less time, effort and stress than investing in business.
  • No specialist expertise required. You don’t need specialist knowledge or training to invest in property (although doing plenty of research does help).

Cons

  • Passive. The passive nature of investing in property can be a drawback for those who prefer hands-on investments.
  • Lower returns. Businesses generally offer the chance for higher returns than residential property.

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Rates last updated December 10th, 2018
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Get a discounted, low-fee investor loan from a convenient online lender. 20% deposit required.
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Credit services for Aussie Select, Aussie IQ and Aussie Optimizer products are provided by AHL Investments Pty Ltd ACN 105 265 861 Australian Credit Licence 246786 ("Aussie"), and its appointed credit representatives. Credit for Aussie Select products is provided by Residential Mortgage Group Pty Ltd ACN 152 378 133 Australian Credit Licence 414133 (“RMG”). RMG is a wholly-owned subsidiary of the Commonwealth Bank of Australia ABN 48 123 123 124 AFSL and Australian Credit Licence 234945. Credit for Aussie Optimizer products is provided by Perpetual Limited ABN 86 000 431 827 (Lender). Credit for Aussie IQ is provided by Macquarie Bank Limited ABN 46 008 583 542 AFSL and Australian Credit Licence 237502. Home loans issued by the Lender are serviced by Macquarie Securitisation Limited ABN 16 003 297 336, Australian Credit Licence 237863 (MSL).

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The cost of buying property

When you buy a property, you’ll need to budget for much more than just the purchase price. Caroline Jean-Baptiste outlines some of the extra expenses you will need to factor into your calculations:

  • Lender’s fees (application fees $0-$1,000, settlement fees $0-$300, lender legal costs $200-$370 and valuation fees $0-$500)
  • Lenders mortgage insurance (LMI), which varies based on your LVR and the lender. For example, borrowing 90% of a property worth $500,000 would attract an LMI premium of between $8,000 and $10,000; if it were 95%, the premium would range between $14,000 and $18,000. The cost of LMI can sometimes be added to the loan amount.
  • Your own legal fees/conveyancing covering professional fees and searches, usually between $1,000 and $1,600
  • Government fees such as registration and release of mortgage (approximately $170 each) and registration of title
  • Pest and building inspection (approximately $550)
  • Adjustments at settlement such as rates, body corporate and water adjustments. These are calculated at settlement for any amount that may have already been paid by the seller.

In addition, you’ll also need to consider the cost of stamp duty. “Stamp duty is the largest transaction expense and is paid to the tax office of the state or territory,” Gardiner says.

“When buying a property, a good rule of thumb is to allow 5% for these additional transaction costs when in VIC, NT, WA and SA, and 4% when in NSW, Queensland, ACT and TAS. Stamp duty charges do vary state to state, and it’s best just to view them as the ‘cost of doing business’. Also, as they are a tax, they are not tax deductible as an investor.”

The cost of maintaining your investment

The next thing you need to consider is the cost of maintaining your investment over time to ensure that it provides the best possible return. If you invest in property, these costs include:

  • Landlord’s insurance that protects your building and contents against risks such as fire and storm damage, and theft and damage by tenants
  • The interest you need to pay on your loan plus any ongoing bank fees
  • Council rates
  • Strata fees (if applicable)
  • Property management costs (unless you opt to do it yourself)
  • Repairs and maintenance
  • Advertising for and screening potential tenants
  • Upgrades and renovations
  • Tax on the rental income you receive

If you invest in a business, you’ll also need to tally up the cost of ongoing expenses, including:

  • Recruiting staff and paying salaries
  • Insurance – the type of cover you’ll need can vary greatly depending on the industry you’re in
  • One-off establishment costs such as licence fees
  • Purchasing any equipment or tools that need to be used in the business
  • Maintenance costs for your business premises as well as any upgrades or extra fit-outs required
  • Marketing, advertising and signage costs
  • Accountant’s fees
  • Website development and hosting
  • Electricity, phone and internet, other utilities
  • Loan interest and fees

You’ll need to plan well into the future and consider other factors that may influence your ongoing expenses, such as interest rate rises or regulatory changes that affect your business. Working out the cost involved with your investment now and into the future will help you form a clearer picture of the right approach for you.

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