Money Matters: Your parents, your tenants

By MARY HOLM

Q: I am trying to decide whether to buy a rental property instead of buying our own home.

My suggestion is to buy my parents a house, as they are at present renting. The rent they would pay would cover the interest on a 25-year mortgage, with us topping up the rest.

We would also benefit from the tax advantage of being able to deduct expenses incurred in owning the property, therefore reducing our personal tax bill.

We have a $15,000 deposit, and save approximately $2500 a month, so have no problems in meeting the repayments, while still managing to save a deposit for our own house.

Is buying a rental property with guaranteed tenancy a better investment than buying your own home?


A: Yes, it probably is. I say "probably" because there are non-financial issues you need to consider. But first, let's look at the money.

There's an argument that buying a house, whether you're going to live in it or rent it out, is not a great investment.

If you were disciplined enough to put all the money you would have spent on a house, minus your rent, into a good share fund, it's quite likely you would end up better off.

Still, most people want to own their own home, because it gives them security and they're not at the mercy of a landlord.

That won't apply to you, if you rent your house to your parents. But, assuming you're a decent sort of bloke, your parents would gain security by renting from you.

Another good reason to buy a house now - given that you want to own your own home later - is that you're in the housing market.

If the Government should change its policy to encourage more immigration, house prices could rise fast.

The value of either your own home or a rental property would probably rise with the rest, and you wouldn't be left on the sidelines.

Assuming you're planning to buy, should you get a house for you or your parents to live in?

Rent payments aren't really important, here. You'll receive money from your parents, but you will have to pay it to your landlord.

True, what you pay out may be less than what you receive. But that simply reflects that you're living in a lower quality house than you otherwise would. The main financial advantage is tax. If you rent to your parents, you can deduct the mortgage interest, rates, insurance, maintenance and so on.

That can amount to quite a few thousand dollars a year.

You can also deduct depreciation. But that usually gives you a timing advantage only. If you later sell the house at a profit, those deductions are clawed back.

Now for the non-financial issues. You'll have guaranteed tenancy. And that's a big advantage.

But you should consider the following:

* What if you buy a house your parents don't like? If they have a say in which one you buy, what if they like House A and you like House B?

* How will you decide what is a fair rent? A local rental agency might help with that.

* What happens if your parents get into financial difficulties and can't pay their rent?

* What happens if you unexpectedly need the money for something else, and have to sell?

* What will you do if, three years down the track, your parents want to move to another part of the country, or need to go into a rest-home?

* Perhaps the trickiest one of all: Will it sit easily with you and them that you are their landlords?

All of these "what ifs" are surmountable. It would be good to discuss them before you start.

Q: We own a two-bedroom unit in a fairly small town. We are a bit short of cash, so our daughter has suggested they buy our unit and we rent it from them.

We would then have the money to see our other children in Australia and New Zealand.

We could do with an extra $20,000. But what do we do with the rest of the money if this all happens, investing-wise?

I could buy a cheaper unit to rent here. My daughter and son-in-law think that's unwise. There were about ten houses or units to rent in our last local paper.

They have bought flats in Dunedin for renting to students. Our son-in-law is a carpenter, so he could repair his. They have a friend they pay to look after them.

The units are a lot cheaper down there, so I would have the pocket money from the difference.

My son-in-law likes the idea of shares better than money sitting in the bank at 5 per cent interest.

My husband is over 70, and has had two big strokes. I have had a smaller one, but I'm all right now.


A: What's this? A new trend for kids to rent to their parents?

Each situation is different, though. In your case, think about whether you can cope with the idea that you may never own a home again. If so, selling your unit may be a good move.

You two are in the classic house-rich, cash-poor situation of so many retired people. If you sell, you'll free up cash.

That means your family will inherit less. But I'm sure you've done heaps for them over the years. It's time for you to enjoy your money.

Many people would be reluctant to give up the security of home ownership. But you'll have a landlord who has your interests at heart, which makes a big difference.

Perhaps your first step should be to get a valuation on your unit. You'll need it, anyway, to make sure you sell at a fair price.

In considering what you would do with the sale proceeds, first make sure you'll get enough income to pay your rent, allowing for inflationary increases.

If you bought another cheaper unit in your town or in Dunedin, chances are that it wouldn't bring in as much rent, after expenses, as you are paying out.

Also, I doubt if you want to take on the worries of bad tenants, vacancies, maintenance and so on.

Nor am I keen on your putting a great deal into shares, despite your son-in-law's views.

You'll be spending a fair bit of your money over the next few years, on rent and travel. And there's too big a chance that a short-term fall in the sharemarket would leave you short of money.

You could put, say, a quarter of your funds into solid shares that pay high dividends.

But, if you want to keep things safe and simple put the bulk into bank term deposits.

Work out how much interest you could earn in the bank, after tax, on the proceeds of your sale.

Is it more than enough to cover the rent, even after you take out some money for trips?

If not, you could plan to use up some of your capital - the amount you put in the bank - over the years. But don't forget that means there'll be less each year to generate interest.

An alternative would be to buy an annuity. That would guarantee you a lifelong income and give you more than bank interest, because it uses up your capital.

Annuities are a better deal if you live longer. So, given your health history, they may not be great value. Then again, you might yet live another 30 or 40 years.

It would be worth going to an insurance broker to get some annuity quotes.

Before you do all this, I suggest your family discuss the list of issues in today's first Q&A. Skip the first one, but all the rest are relevant.

Q: I have received in the post a cheque from Westfield for $A134.57, which is the dividend on my shares in the company, previously St Lukes Group.

I notice from the distribution advice notice that my tax file number is marked "Overseas" but that $A42.22 has been deducted as Australian withholding tax.

What do I have to do to keep on the right side of the law regarding my responsibilities to the New Zealand IRD?


A: On your tax return, include in your income the gross amount of the dividend, which is the money you received plus the Australian tax withheld. Then you claim a credit for the foreign tax paid.

There are instructions on this in the guide that comes with the return.

Inland Revenue notes that, "the credit is limited to the amount of New Zealand tax payable by the taxpayer on the gross dividend."

In your case, it looks as if the Aussies have taken about 24 per cent of the gross dividend.

So, if you're in the 33 or 39 per cent tax bracket, you'll end up paying a bit more to the NZ Government.

When a Kiwi company becomes an Aussie company, unfortunately we lose the benefits of dividend imputation. The Australians also have imputation, which they call franking, but New Zealanders can't take advantage of it.

Take care not to confuse franking with Australian withholding tax.

* Mary Holm is a freelance journalist and author of Investing Made Simple.

* Got a question about money?

Send it to:

Money Matters

Business Herald

PO Box 32, Auckland

or e-mail: maryh@journalist.com.

Please note: Letters should not exceed 200 words. We won't publish your name, but please provide it and a (preferably daytime) phone number in case we need more information.