Why you Don't Need Property

“The mainstream media lecture Millennials to say if you can’t afford property – just save longer – as if the solution were simply self control. But that’s ignoring the real issue”.

This article includes my opinion as to why real estate is expensive, and what you can do if you don’t want to purchase. It is a summary of my thoughts from the #1 Amazon book for Money Management - Fund Your Ideal Lifestyle.

Property and Millennials

Working class investors have successfully used property to get rich over the last four decades. The reason – it hits two sweet spots:

• It’s easy to understand – check
• It makes you rich over the long term – check

We see property as this thing that once you have it – you’ve made it. ‘Don’t worry about the future honey, we have a property that will double in value every 7 – 10 years!’

I get it. And this article isn’t meant to tell you to avoid property, or that the market is going to crash, or to impart any kind of doomsday message. I have property in my own portfolio, but that’s because investments are my life. I’m aware that isn’t the consensus. What I hope to accomplish is make one message clear – you don’t need property to get rich from investing.

The truth is most millennials don’t think they will buy a house. Almost laughingly, the fault of this mindset was laid at the price of smashed avocados in hipster cafes. But rather than point the finger at an elliptical shaped innocent vegetable obliterated onto a succulent piece of sourdough … let’s look at the key issue here – property prices are too expensive.

Is it the money spent on smashed avos that’s keeping us from buying? Or is it the hundreds of thousands of dollars us millennials need as a deposit to earn the right to be overly-burdened with debt. Ahh … yeah – that’s probably it.

But then, this article isn’t about complaining either. I’m not much of one to complain. Complaining is simply a desire for change but the inability to identify a solution. I have a solution. It took a few years to fully piece together, but now I know what it is.

I wanted to use property to build wealth in my early twenties. I spent a lot of time reading up on how to do it well, and created a bunch of spreadsheets and documents to help make it work. After making a few offers that were ultimately rejected, I noticed a problem. The numbers weren’t really adding up as well as I had thought. Once I started work as a tax accountant specializing in property in my mid twenties, the problem became glaringly obvious.

However, at this early stage I still didn’t have a solution – as most millennials don’t. And that fact is having a big impact on the world. Millennials have stopped buying houses. That is a problem no one is adequately addressing – and why I am spending this month entirely devoted to what to do about it.

Because it was only when I moved across to financial advice in 2011, did the solution become as obvious. Once I opened my own financial advice practice back in 2013, I was able to implement this for my millennial clients who were too disenfranchised with the price of property.

But first, let’s first examine why property prices are now ‘severely unaffordable’, why governments are never going to do anything to help, and what new solutions you can employ to ensure you still hit the two sweet spots: an investment that is easy to understand and makes you rich over the long term.

Why Are Property Prices So High?

Real estate is expensive because governments want it to be expensive. Wait? What? I thought the government was going to try to make it easier for you to buy? That’s what they said they were going to do on the news, didn’t they?

Truth is, no government anywhere on earth would want real estate prices to come down. In fact, they LOVE it when real estate prices go up. Let me explain.

Imagine you are a politician. You put your hand up to the public and said ‘I will help make our country a better place’. Righto. Big responsibility you have there, but if you are brave enough to do it, let’s see what you can do.

Now, one of the best ways to improve a country is to put more money into the hands of the civilians. Now before I hear you mutter ‘no shit’ – have you ever thought about how a government achieves this? I assume you probably think they print more money which is distributed around the economy right? Well, while that does happen from time to time, printed money (the money you can hold in your hand and put in your wallet or purse) makes up only about 10% of total money supply. So to put simply – no, that’s not how they do it.

So how does a government get more money into the economy so that it can filter down into the pockets of more people? Believe it or not, the main source of money in an economy is debt.

What the above graph illustrates is how the majority of money is created in an economy. If a bank has a ‘50% reserve rate’ that means they only need to keep 50c in the dollar in the bank vaults. What that looks like in practice, is if a bank has $100 in deposits, they can lend out $200. This process has a name designed to scare you aware from ever asking anything about it – Fractional Reserve Banking.

All it means is banks only need to hold on to a tiny ‘fraction’ of their deposit ‘reserves’ in order to lend out money. But in the majority of the Western world, banks aren’t shackled with a dampening deposit rate of 50%! That wouldn’t be sufficient enough to make them sweet profits! We are dealing with a 10% deposit rate. In practice that means for every $100 a bank has on deposit, they can lend out $1,000.

Crazy stuff right..?

Banks love to lend out the money as they make money from interest, and the governments love debt as it creates more money in the economy. That money eventually gets spent and stimulates the economy which in turn pays for salaries. So the more debt, the more money.

So that’s why governments love debt. They LOVE it. If economy is moving along slowly, the government ‘stimulates’ the economy and goes into debt for us. But then, the government has debt, and they don’t particularly like that. When things are going well however, they prefer for everyday citizens to get into debt. That way, money is created in the economy, the government doesn’t have to do anything, but they look like heroes!

The more debt everyone is in, the better the government looks. And where is the biggest source of debt coming from? Appliances, cars or credit cards? Not a chance.

Property.

Using Property to Get Rich

The higher the cost of property, the bigger the sums of debt people have to take out, and the more money is created in an economy. And remember, the more money in an economy, the more money there is to trickle down in to the hands of everyone else.

So to simplify even more, the government achieves their goal when more people take out bigger mortgages. This is why it’s such a farce when politicians talk about ‘easing property concern’. To do so is against their key measures of success. It goes against their interest.

But none of this is new information. Since the 1970’s it’s been every nation’s key to success. Encourage as many people as possible to buy property. They take out a mortgage (the bigger the better). And more money is created.

And the strategy worked. Really well. The economists successfully motivated enough people to pull as much money out of real estate as possible and stick it into the economy. The problem is, we have now hit a point where people are simply not interested in buying anymore.

House prices were once on average three times the average household salary. Totally affordable on a single household income. But now – well just check for yourself here. Where I live in Sydney, the average price is 12.2x average household income! Anything over five is considered severely unaffordable. Please tell me again why I should buy…..??

FOMO. Ahh of course. The fear of missing out. FOMO isn’t a new phenomenon however. I mean, check out the tulip craze in 17th Century Holland. This isn’t the first time investors are relying on the ‘Greater Fool’ strategy.

And because the Western world has seen such an amazing climb in property prices over the last few decades, it’s now attracting foreign players. This long upward trajectory of the asset class called ‘residential real estate’ is now a major focus of many international investors.

Now, remember when I said the more money in an economy the better? And remember I said the government prefer citizens to get into debt rather than the government itself? Well the only situation the government prefers more than both of these, is foreigners getting into debt.

As I mentioned, the government sees us all as nice loyal citizens when we buy property. But at the end of the day, if people start going bankrupt – it can end in catastrophe. So, the best way to continue growth without encroaching on the vulnerable (read: low income citizens at high risk of default), is to bring in big, safe and secure, money from overseas. To the surprise of no one, this has been growing at an accelerated rate especially over the last decade.

Buy why? Where is all this money coming from?

CUT SCENE

CHINA WALKS IN

(to no one in particular)

‘Hey guys’

The China Effect

The Australian Foreign Investment Review Board’s annual report shows China remains by far the biggest foreign buyer of property in Australia with $24.3 billion invested in 2014-15. More than three times larger than the closest competitor the United States.

But why? Why are so many Chinese nationals looking to buy property in the Western world? Put simply, they want their money in a safe place. They want to legitimize their wealth. This is why Chinese investors don’t care if they are over-paying. They get to move their money out of China, out of the Chinese Yuan, and into a market backed (rather than centrally priced) currency. Let me explain.

Remember when I explained, in our economy ‘money is debt’? Well the reason our whole financial system works is because our population all generally agree on the price of real estate. You would have to convince banks, governments, and people who work in real estate that prices were inflated. And considering they are all conflicted – that’s just not going to happen.

So by default, our society largely agrees on the price of real estate. Countless people all over the world are negotiating on prices. They may go 10% either way, but essentially a million dollar house isn’t going to get sold for $40,000. As a society, we all agree to pretty much the same level of perceived value.

China on the other hand has the auspicious benefit of having a centrally controlled government using Keynesian economics. What that looks like on a daily basis is rural councilors are valuing land not based on ‘free market’ negotiating prices, but based on ‘government policy standards’. This means they can value land at exorbitant prices, and have banks lend against the ‘value’ of the land.

This has made a lot of people in China rich. But they also know it’s funny-money. It’s a ponzi scheme on a governmental level. It works astonishingly well at the moment, but the moment China moves to a market driven economy, no one knows what will happen. It’s built on a type of economics that’s never been tested anywhere else. So, these Chinese nationals who have become rich from loans generated in China, now look to legitimize their new found wealth by moving it out of China.

Brilliant move on their behalf.

Kinda sux for millennials looking to get into the property market.

If there is a substantial amount of investors willing to overpay for motives other than being a diligent investor, you are going to see drastic rises in prices. Remember these investors aren’t interested in making money, they are interested in preserving their wealth in a legitimate system.

So the facts are, if you want to buy a property, you are up against a market of people who are not interested in real value. They will buy at any cost. That’s like playing on hard mode. Or even worse, playing against Odd Job in Golden Eye 64. You’re up against a competitor who isn’t playing by the same rules. Deep pockets mixed with a desperate buying mentality, equals a situation where now property is severely unaffordable.

So … What to Do?

Well, as I’ve mentioned above, don’t hold your breath for the price of property to come down anytime soon. And our economy is too robust for a crash, it’s against the government’s best interest, and the Chinese are only ramping up their property purchases. Put simply, no one is coming to your rescue.

Okay, what do you do? Well, the most obvious and regular solution I see Wednesday to Sunday in the bars is – nothing. Well, not nothing in the pure sense of the word. I mean, spending your cash on aged single malt whisky isn’t ‘nothing’ is it – but you get my point.

So I’m going to suggest an alternative. In the world we live in, at the moment it’s either buy a property, or throw caution to the wind. Overpay on property, or party and travel your ass off. No one is offering a third option. Mainly because most people who comment on finance don’t have one. I do. I’ve been a tax accountant specializing in real estate, and a financial adviser.

So I made a spreadsheet for you to download. (It’s excel, so probably just for desktops – fill in the yellow cell)

Because the answer is this. Take the amount you save by renting rather than owning, and deposit that amount into your retirement account. I’ll show you the math.

Difference between rent and mortgage repayments + tax benefits + extra earnings on those deposits = about 80% of the gains you make from buying and selling a house over 10 years.

Don’t believe me? – download the spreadsheet. (just fill in the yellow cell)

So hit me with the counter arguments. C’mon, you think this is my first rodeo? You think if I’m going to lay this as a legitimate option I haven’t lived the math. I’d back myself on this one subject going toe to toe with anyone. Here’s the counter arguments:

You can’t touch the money until your older.

Well, guess what … the whole freaking point of building ‘wealth’ in the first place is not to spend until you’re older. The whole purpose of creating wealth is to build up a big pot of cash, ready to pay you an income when you no longer work. So saying you can’t spend it now is like saying you can’t live unless you’re alive. It’s redundant. You’re using superfluous brain cells without thinking your argument through.

In fact it goes one better. The whole reason property is such a good investment is because you can’t just go and sell a brick if you need the cash. The money is LOCKED UP. Another term for property is ‘forced savings’ because you can’t touch the money when you own property either. And when money is untouchable, there is no decision fatigue. You’re not tempted to spend it, because it can’t be spent anyway. JUST LIKE IN YOUR RETIREMENT ACCOUNT!

Perhaps you want to ‘own your own home’.

Perhaps you don’t want to buy property. Maybe you like the idea of creating a nest? If that’s the case, I can understand. It’s no longer a monetary question. But I’ll point something out. The sharing economy is alive and well. Ownership no longer represents wealth, it represents responsibility. It no longer represents freedom, it represents obligation. The sharing economy allows for all the benefits with none of the hard work. Renting just so happens to be the oldest form of the sharing economy.

But Clayton … what about ‘interest is dead money’. Yes. Yes it is. But so is interest payments on your own home.

But Clayton … my parents made a lot of money by owning property. Yes. Yes they did. I don’t have a problem with the returns from property over the last 40 years, they are unbelievable. What I’m suggesting is in the event you are like most people today and never expect to own a house – do something else.

When I problem solve, I don’t try to think of a perfect world scenario. I’m a realist. So while it would be fantastic for everyone to buy their own home – what I’m seeing is this isn’t happening. The troubling part is a whole generation of millennials are sitting around waiting for property to become affordable again. This isn’t going to happen. So either do something, or do nothing. But now that you know the truth, you can no longer complain.

And the best part. If you’re heart so desires, there is absolutely no reason you can’t buy a property in your super fund when the time has arrived. Imagine that, using your super payments you receive from your employer to pay off an investment property. Just avoid heading down this line of query until you hit the $200k mark, as fees can be quite expensive – but again, if you start doing what I suggest above, that’s only a handful of years anyway.

Conclusion

People bought property in the past as it’s an easy way to make money. Buy, hold, wait, profit. What I’ve offered today is a way to live in the modern world of avoiding owning a property, but still creating a situation where in the long term, you will still have a substantial amount of money.

To be clear, I’m not saying don’t buy a house. If you want to despite what I’ve written above, and you’re in a position to do so – go for it. And I am ABSOLUTELY not saying don’t worry about buying a house AND do nothing else.

What I’m saying is, the world has changed, and instead of waiting for it to change back again, change with it. You can get 80-90% of the profits from redirecting your salary to your retirement account. It poses such a good argument, it at least deserves a degree of examination on your part.

Put it this way: either buy a property, come up with a better solution, or join me and a bunch of people who are already doing this.

Whichever you choose, I don’t mind. Just don’t do nothing.

Disclaimer: This article is about how it’s not as easy to use property to get rich as it once was. And the spreadsheet included indicates a general amount to deposit into your retirement account. Problem is, the excel sheet is not a personal situation, and can’t be used as personal advice. Anything to do with your retirement account needs an additional layer of research. There are limits. If you break them, you can get yourself into some trouble. As such, this isn’t a recommendation, but rather information. Any action you take, you choose to not hold Clayton Daniel or Fund Your Ideal Lifestyle with any responsibility.

Video

Podcast