“The house has a development approval for an additional bedroom, which would add value to the property once completed, but the valuer didn’t take this into consideration,” he said.
“We can weather this because we have a buffer, and we believe this property would grow in value once the market recovers. But it’s painful over the near term because there’s currently an annual shortfall of $30,000 in rental income.”
Experts say the rental shortage that fuelled a record-breaking rise in rents is partly triggered by fewer investors moving into property, while those who are already in the market, like Mr Peterson, are finding it tough to hold on to their investments.
Analysis by CoreLogic found while rents have risen swiftly, mortgage repayments have climbed higher.
In Sydney, for example, rental income has lifted by approximately $340 a month over the past year, but monthly mortgage repayments on a $500,000 loan climbed by about $1113, based on an interest rate of 5.78 per cent over a 30-year loan term with principal and interest repayments.
At the national level, rents have risen by $227 a month, but mortgage costs jumped by a substantially higher $904 each month.
“The rising interest rate environment has deterred investors, and that’s compounding the current strain in the rental market,” said Tim Lawless, CoreLogic’s research director.
“There have also been myriad disincentives for private investors to participate in the housing market.
“For example, a wind back of depreciation benefits in 2017, a premium on mortgage rates, less control over their assets due to regulatory changes, and heightened uncertainty related to the policy environment across all three layers of government.”
One example was the proposed, and ultimately scrapped, change to land tax for investor-owned properties in Queensland and policies to cap rental increases.
Qualifying for debt is another challenge, as well as servicing the mortgage, particularly for highly leveraged investors.
Investors are currently being assessed to service their debt on a mortgage rate close to 9 per cent.
“During a downturn, we generally see investors taking the opportunity to buy sound assets at discounted prices,” said Margaret Lomas, veteran investor and mortgage broker at Destiny Financial Solutions.
Negative cash flows
“But the combined effects of rising rates and a more difficult borrowing environment has made the strategy unviable for many investors.
“It is definitely harder to hold, due to increased borrowing costs, and harder to add to a portfolio, due to the tightening of borrowing criteria. The banks are making it incredibly hard to borrow once you get past two to three properties.”
On top of this, maintenance costs have also risen amid the surge in residential construction costs and shortage of tradies.
Many landlords underestimate these costs and are unprepared to meet the cash flow shocks, which could lead to some being forced to sell.
“Rental properties face a huge number of potential maintenance issues and dealing with them can be a significant and unplanned expense,” said Evan Thornley, executive chairman at LongView and co-author of the LongView PEXA report on the private rental market.
“For example, a minor roof leak can cost thousands of dollars to fix, which for an average property could equate to 10 to 30 per cent of the annual rent.”
Many investment properties have negative cash flows due to higher operating costs compared to other forms of investment.
“Some investors do this intentionally to take advantage of negative gearing, but a large cohort of investors do not intentionally set out to employ negative gearing but find themselves in this position by underestimating holding costs,” Mr Thornley said.
While some investors have done very well financially, others have had poor returns, which may also discourage further investments.
Between 1990 and 2020, investment properties held between four and 10 years delivered a median return of 6.3 per cent after tax, according to the LongView PEXA analysis.
Call for incentives
By contrast, returns on balanced funds held within superannuation generated a 7.4 per cent post-tax return over the long term.
In addition to higher returns, the diversification of superannuation across many assets and asset classes has made it much less risky than investing in one or two properties in terms of return variability, Mr Thornley said.
“As many as 60 per cent of landlords would have been financially better off putting their money into balanced superannuation funds, usually because they have bought poorly performing properties,” he said.
Kent Lardner, founder of Suburbtrends, said property was still very appealing to a large number of investors, but the price growth in recent years has squeezed many investors out.
“Yields have jumped considerably, but even at these higher rents, most investors will not have a cash flow-positive property,” Mr Lardner said.
“It seems the higher interest rates and risk of out-of-pocket expenses are significant factors holding many investors back, even with the benefits of negative gearing.”
Mr Lawless said a rebound in investment activity would be a net positive for rental supply, but not a magic bullet without additional newly built supply flowing into the rental market.
“Logically, incentives for investors should be channelled into new dwellings, supporting a lift in new construction activity, especially across the medium- to high-density sector,” he said.
“Considering dwelling approvals across the higher-density sector have mostly remained below the decade average since 2018, in a few years’ time this sector of the housing market is likely to be chronically undersupplied.”