Explore the critical risks associated with buy-to-let property investment, from maintenance challenges to market fluctuations, and learn how to navigate these obstacles for a successful investment. Picture: Nicola Mawson.
By: Sherry Tapfuma
Investing in buy-to-let property offers the potential for both steady rental income and long-term capital appreciation. However, from fluctuating interest rates, unpredictable tenant behaviour, and erratic maintenance costs, buy-to-let investments can come with significant challenges. In this article, we explore a number of key risk factors that property investors should consider before buying a rental property.
Ongoing maintenance
Owning property comes with the responsibility of ongoing maintenance, and it’s crucial to consider how much time you can realistically dedicate to it, especially if you work full-time. For those with day jobs, property maintenance may need to be handled after hours or on weekends. Self-employed individuals must ensure that managing an investment property doesn’t interfere with their primary income-generating activities. If you choose to manage the property yourself, be prepared to be on-call for tenants, who may reach out during evenings or weekends with issues like burst geysers or leaking roofs. While rental income is often seen as passive, property management demands active involvement, requiring landlords to be responsive and available for urgent repairs and tenant concerns.
Unforeseeable expenses
While budgeting for property ownership is important, it’s challenging to foresee every potential expense. A good rule of thumb is to allocate around one percent of the property value annually for maintenance and upkeep, though this is just a guide. Costs such as insurance excesses, damage not covered by insurance, thatch repairs, faulty irrigation, wear and tear, and compliance maintenance must be factored in to protect your profits.
Non-liquid assets
The time it takes to sell a property can range from two to nine months, potentially affecting your financial position if you need quick access to capital. Tying up all your capital in property can be risky, especially if you’re forced to sell at a loss during an unfavourable market.
Rental is driven by demand
Just as investment returns are influenced by the market, so too is the rental income you can expect from your property. Rental rates are directly tied to market conditions and driven by demand. The latest PayProp rental index reveals a significant rebound in rental growth, reaching its highest level since 2017. The Western Cape, a popular destination for those relocating, has seen a 9.7% year-on-year rent increase in Q2 2024, marking a sharp recovery after several years of slower growth.
The risk of tenant vacancy
The risk of your rental property remaining vacant fluctuates based on market conditions. The TPN Vacancy Survey for Q1 2024 shows that national vacancies have dropped to historic lows, with demand exceeding supply, likely due to high interest rates making homeownership unattainable for many. In Q1 2024, 4.42% of rental properties were vacant, down from 6.69% in the previous quarter. However, interest rate changes or shifts in sentiment can impact vacancy rates, so this risk should be factored into your planning.
High transactions costs
Unlike stock market investments, direct property investments involve high transaction costs, making buy-to-let properties better suited for long-term investment. For example, if you purchase an R2.5 million property with a 100% home loan, your costs could total around R187,000, including bond fees, transfer duties, and deeds office charges. Given these significant upfront costs, frequently buying and selling investment properties is not financially viable, as it takes time to recoup these initial expenses.
Rental property legislation
Navigating rental property legislation in South Africa can be challenging, often leaning in favour of tenants. If disputes arise or rent goes unpaid, you may need to hire an experienced property lawyer, which comes at a cost. Legal action for non-payment also means covering your income shortfall while funding legal expenses. In addition to the financial burden, legal proceedings can be time-consuming and stressful, requiring both financial and emotional preparation. While rental insurance can mitigate non-payment risks, these policies tend to be costly and generally cover only up to three months of rent, further reducing your investment returns.
Property is a concentrated asset
Owning a single property in a specific location presents inherent risks. As a concentrated asset, its value and rental income are vulnerable to the unique circumstances of that area, such as plans for low-cost housing, new developments, or infrastructure projects. For instance, the construction of a shopping mall, the rise of a squatter issue, or the creation of a new highway can significantly impact property value. The pandemic has shown how unpredictable future events can be, highlighting that property demand and prices are not immune to unforeseen changes, making the notion of being "safe as houses" somewhat misleading.
Ongoing costs
Rental income is taxable, and ongoing expenses such as sectional title levies, building insurance, bond cover, rates, taxes, and maintenance must be considered. If you outsource property management to a rental agent, expect to allocate approximately 8% of rental income per month for their services. It is essential to conduct a cost-benefit analysis before appointing a rental agent to assess whether the financial outlay is justified and aligns with your overall investment goals.
* Tapfuma, CFP, is an associate financial planner at Crue Invest.
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