With any type of investment comes risk and these risks can act as barriers to your investing. Your level of comfort with investment risk will usually depend on your current financial situation, age, your personal circumstances and your experience.
For example, if you are a property investor coming close to retirement, your perceptions of risk are likely to be different to those of a younger investor.
These investors may be more open to 'risky' investments and, for example, may be more likely to buy property in need of renovations in order to gain capital growth.
These are the four top inherent risks of property investing and how to avoid them:
One risk of owning an investment property is that the property will be vacant for an extended period. With no tenants to pay the rent, this leaves you to pay the mortgage repayments without the extra income from rent.
This can occur for two reasons, because you or your property manager can’t find a suitable tenant for the property, or because there simply isn’t enough rental demand in the area.
While this is certainly a risk, with the right tools it can be easily mitigated. Using resources such as those in the Real Estate Investar suite of tools, you can research the vacancy rates in the suburb you are looking to invest in, as well as any changes in vacancy rates over time.
This will give you a good idea of how likely it will be that your investment property will be tenanted.
There is of course sometimes issues with finding tenants that are suitable, but this can be more of a patience game than a lack of demand.
It is recommended that some savings are held In reserve in case of tenants unexpectedly vacating, or if it takes a few extra weeks than expected to locate a suitable tenant.
Lack of liquidity
Liquidity is the ease in which you can gain access to the money you have within an investment.
One disadvantage of real estate investments is the lack of liquidity compared to other types of investments, which can force the investor to think long-term
When contemplating which type of investment option suits you, consider your need for liquidity in funds for risk management.
Do you need access to your investment quickly if necessary? If so, real estate investment may be a risk for you, as selling a property is not a quick or simple process, and selling quickly or under pressure could result in taking a loss on your investment.
Real estate investment forces investors to buy and hold for longer than most other types of investments, which can be a great risk management strategy for those who have not had much financial gain from other forms of investments in the past.
Damage to the property
One of the risks of investing in property is your investments vulnerability to damage. As it is a tangible asset, there is the risk that something that may happen to it at your expense, affecting its profitability. These risks include natural disasters, fire, damage by tenants and robbery or vandalism.
Thankfully, it is possible and relatively simple to protect your investment from the inside out. An insurance policy is easy to obtain and is a means of managing the risks associated with real estate investment.
You may never have to make a claim but home insurance or landlord insurance is a solid choice for both investors and homeowners and there are various types of insurance cover to suit your circumstances.
Debt gearing is a serious consideration when managing the risks associated with real estate investments. Debt gearing is the difference between the debts owed on a real estate investment and the equity within the investment.
The debt to equity ratio is determined by the purchase price and borrowing amount, the more distance you place between what is owed on the property and what it’s worth, the better – this lowers the risks.
Equity is the value in your property, less what you owe the bank. If a property you own is worth $440,000 and you owe $200,000 on your mortgage, your equity is $220,000. Your debt-to-equity ratio would be 45/55, as your debt equals roughly 45 percent of your home's fair market value.
Avoiding the temptation to over borrow is another way to manage your debt gearing risks.
When securing finance for a property purchase it is important to consider how an interest rate increase would affect your ability to make mortgage repayments on the property. If this is a concern for you, a fixed rate option could be a solution to help eliminate this risk.