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What to do with property investments in retirement?
18 October 2016

A question asked by a lot of Hudson members is what to do with their investment properties they have accumulated over their investing lives when they approach or are in retirement?

This is a big issue because of the absolute value of the investments made. Often, the investment property portion of their investable assets may well be worth more than the share investments or even approaching or surpassing their Superannuation investments

There is no right answer for this situation as it always revolves around individual circumstance but there are a few things that all members should keep in mind when they are working through the decision making process with their adviser.

Residential property as an investment class 

Hudson has long recommended residential property as a fundamental portion of members’ investment holdings in conjunction with share market investments and superannuation (which can be invested across many asset classes including the above two).

Investment properties provide members with a strong growth potential over the longer term and the ability to leverage capital with borrowed funds whilst providing taxation benefits as well.

During a member’s working life, the leveraged aspect and the taxation benefits of property come into there own.  An individual can parlay a high income into supporting a leveraged portfolio that garners exposure to a growth asset class whilst also qualifying for taxation benefits.

Residential investment property as you approach retirement

The biggest hurdles having a residential property as an investment in retirement are those that make it attractive in your working life.

The leveraged aspect of investment properties can be a negative in retirement because it brings to your portfolio interest rate risk and debt overhang at a time when cash flow from earnt income is easing or stopped   Effectively, the negative gearing taxation benefits that flow from residential property work very well when you’re working but when you are in retirement by definition the taxation benefits are less beneficial if not non-existent. Probably the biggest issue with regard to property in retirement is the poor relative yield that it provides. 

This means the net or real cash return on the investment after all expenses are taken out. Residential property yields between 4 – 5% on average across Australian capital cities.  However, once the expenses are taken out of the equation the net yield can drop to below 3%. These expenses include interest on borrowed funds, insurances, council rates, utility expenses and maintenance etc.  Once all these are factored into the equation, the yield on offer can be greatly diminished. Observably, this low return can enhance the tax attraction of property whilst you are working and paying high tax but become less of an attraction than a hindrance   

Now the total return from a property will include this low net yield but also any non cash growth in the value of the asset over time .Growth is the whole point of getting into residential property in the first place.  This mindset alters as you enter into retirement.  As the old clichés go “you can’t eat growth” and tapping into the built up equity resulting from capital growth in a property is difficult as you “can’t sell a bedroom in a house”. So now contrast this poor net yield from property with other asset classes that are available to retirees, namely Australian and overseas shares, listed commercial property, fixed interest and cash. These other asset classes offer the retiree a better yield, a more tax effective return and are highly divisible (meaning that you can easily sell part of the investments at a very low transaction cost – think selling part of a share portfolio). 

So are we advocating selling all property in retirement and investing elsewhere?

Individual circumstances

As mentioned at outset of this article, there is no one blanket ruled for all investors and each individual needs to look at their circumstances and see what is best for them. 

Considerations to take into account when deciding whether you should sell your investment properties are not simply the yield on offer compared to alternatives, but one must take into account the transaction cost for selling the property including the likely capital gains tax that could be quite a hefty impost for the sale of the property.

It may not be a case of selling every property you have and investing into the other asset classes searching for better yield and taxation benefits. It may well be a case of scaling down from 4 properties to one or two properties; still maintaining a foot in the residential property camp to garner the longer term growth that it does offer whilst giving up some of the potential net yield. 

But using the proceeds from the sale (done at a tax effective time i.e. when you are retired rather than when you are working to reduce the CGT) to invest in highly divisible and highly tax effective and higher yielding investment in shares or listed property. These are all matters that investors face as they approach and transition into retirement and are an area that your Hudson advisor can assist on.   Please contact your advisor to discuss your individual circumstances before proceeding further.





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