Units vs houses!

Which is actually a better investment?

If we had a rule of thumb for property investment, no one would be asking this question; instead everyone would be applying for an investment home loan. But we don’t, because the concept of investing in units versus investing in houses falls mostly inside a grey area.

What you can do as a property investor, however, is to understand the answers to some of the key questions experienced investors ask when it comes to deciding on units vs houses for their next investment.


What do banks think about units vs houses?

Keep in mind that banks like to minimise their risk as much as possible. Because home loans are an important source of revenue for banks, they are interested in approving more mortgages. But they also want to make sure they will be able to sell properties at market value to recover the money, in case a borrower defaults.

So what do banks prefer when it comes to units vs houses?

  • Banks consider smaller units and studio apartments a lot riskier because they don’t command the buyers’ appeal, and are, thus, tough to sell. Usually, it is much harder to get approval for units less than 50m² under normal loan terms, although individual banks may have a varying size limit.
  • Some apartments that are located in high-density areas, with little or no view, or that receive a lot of noise or less sunshine, also make for a tough mortgage application. Banks see less appeal and more risk in those properties.
  • Banks also hesitate to finance properties that are anchored to a specific business element, like hostels for school students. The demand for student accommodation solely depends on the number of international students coming into Australia — a trend that is directly affected by the immigration policies that are beyond the control of banks.
  • Banks also find serviced apartments a bit tricky because financing such dwellings, typically, involves financing extra assets like fixtures and furnitures on top of the purchase price.
  • Also, when it comes to apartments, banks don’t prefer to lend against the properties that share titles among strata management, companies or tenants because when it comes to repossessing those apartments, banks may not end up having the first right of property.
  • If a property, regardless of its type, is within an area that has a greater credit risk, like a high unemployment or high crime area, big banks may decline or charge higher interest since properties in those areas are less likely to be sold in the future.
  • Similar logic applies to the properties located within an area that relies heavily on a single economy like agriculture or mining, since they are much exposed to economic downturn, which, in turn, exposes the banks to unwanted risk.

All banks have a guide that they use to classify each postcode in Australia based on their credit risk. To avoid high risk postcodes when looking for investment property, you can refer to this postcode guide and calculator.


Does price matter when it comes to unit vs house?

The first thing to consider in any investment activity is the initial cost of that investment.

And, quite obviously, property investment is no exception to that.

Generally, the first home buyers, who are looking to start investing in the housing market, may find unit prices more affordable as compared to house prices in the same location.

That makes finding the deposit to buy units more affordable as opposed to houses since units are a less expensive entry point into the market for first-time investors.

For a quick overview, here is a comparison between the median house and unit prices across the Australian capital cities in 2019.

Capital City Houses Units Difference (Houses – Units)
Sydney $973,664 $746,017 $227,647
Melbourne $778,649 $576,475 $202,174
Brisbane $546,781 $386,023 $160,758
Adelaide $471,419 $323,662 $147,757
Perth $456,289 $352,099 $104,190
Hobart $506,395 $393,399 $112,996
Darwin $464,625 $279,357 $185,268
Canberra $691,551 $439,496 $252,055
* CoreLogic Hedonic Home Value Index, December 2019 Results

Even seasoned investors can, thus, benefit from the low unit prices. They can quickly buy multiple units and easily diversify their investment portfolio to reduce their investment risk.


What is the potential for capital gains in units vs houses?

Many investors are in the property market because they wish to increase the size of their wealth through capital gains.

Whether it’s the dwelling price or the price of the land, the investors are always looking to add more value to their property, and “flip” it for more profit. That’s one of the two property investment strategies, which gets investors to actively seek units or houses that are most likely to grow in value over time.

Historically, houses have more potential for capital growth as opposed to units. That’s because the price of a house is a combination of the land value and the dwelling value.

On the contrary, apartments don’t have that land component attached to them, which significantly limits the capital gains they offer. But as the recent housing data suggests, there can be exceptions.

The 2019 Home Value Index shows that the total return on Sydney houses was 9.6% while the same on Sydney apartment was 7.4%. That’s fine but in Melbourne, the return on houses is 7.6%, which is around 3% less than the return on apartments (10.7%).

Exceptions aside, if your investment goal is to profit from capital gains, you should be seeking out a property that is most likely to increase in value at a higher rate than others.

Capital gain is not the only means of making a profit from property investment, though. There is another thing called rental yield.


How does rentability compare between units and houses?

Besides capital gains, some property investors are also looking for an investment that generates them a regular stream of income in the form of rent – the second of the two property investment strategies.

While a house may offer more capital growth, it is apartments that have a better prospect of being rented out. At least that is what the current trend indicates.

Over 25 years, from 2001 to 2026, the Australian Bureau of Statistics (ABS) projects the number of lone person households to increase within the range of 57% to 105%. That’s a significant rise from 1.8 million lone person households in 2001 to between 2.8 million and 3.7 million in 2026.

The demography participating in the active urban workforce in Australia – single young adults, young couples without kids, single parents with kids – prefers to live in rental apartments that are closer to the cities. This preference comes as a result of convenience for commuting, proximity to amenities and other lifestyle facilities, and affordability.

On top of that, the recent trends also position units higher than houses in terms of their rental yields.

The December 2019 CoreLogic Hedonic Home Value Index shows the gross national rental yield from units is 0.5% more than that from houses. The combined capitals data also reveals the same trend: Units are generating higher rent than houses by 0.7%.

Capital Gross Rental Yield From Units Gross Rental Yield From Houses
Combined Capitals 4.0% 3.3%
Combined Regional 5.3% 5.0%
National 4.2% 3.7%
Sydney 3.6% 2.8%
Melbourne 4.1% 2.8%
Brisbane 5.2% 4.3%
Adelaide 5.4% 4.2%
Perth 5.2% 4.2%
Hobart 5.2% 5.0%
Darwin 6.8% 5.4%
Canberra 5.8% 4.3%
* CoreLogic Hedonic Home Value Index, December 2019 Results

The demand for rental units is clearly on the rise, primarily due to the growing population around the urban centres, who are increasingly preferring to rent out apartments rather than houses. And they are willing to pay more.

That should be a good enough indication of which type of dwelling to invest in if you have been looking for a steady stream of rental income from your property.

Gross profitability alone, however, may not paint the complete picture as there are expenses and other associated deductions.


What is the cost of ownership of a unit vs ownership of a house?

The other thing to account for in investing in units vs houses is the overall cost of ownership.

A house comes with council rates and land tax. The council rate may be higher or lower depending on the council’s rate in dollar and the valuation of your house. The land tax will accompany you as long as you hold the house, and depends on the size of the land your house is built upon. Both these fees, if higher, will eat into your potential profits.

A unit, on the other hand, comes with quarterly strata or body corporate fees for as long as you own the unit. Sometimes, the body corporate may also add extra levies to the ongoing costs. So, if you own an apartment within a big housing complex with several common areas, facilities like swimming pool, gym and sauna, you will end up paying more in strata fees, thereby, reducing your net rental profits significantly.

It is, thus, imperative to consider these costs of ownership to decide which property type suits your investment goals better.


What about the control over ownership of units vs houses?

While it’s apparent that you own 100% of the land upon which your house stands, it’s a bit tricky with a unit. When you buy a unit, you don’t necessarily own the land under it.

What this means is you have full control over your house. You can make additional upgrades, like adding a floor or an extra bedroom, to your house as and when you please. This adds significantly to the overall capital growth of your property. You could even add a granny flat in your yard and rent it out for additional rental yield.

But it’s ultimately your sole responsibility to cover all the cost for upgrades and upkeep of the house, which may track higher or lower depending on what your plans are.

With units, however, the strata fees you pay will cover the general upkeep and maintenance, any upgrades are not under your direct control. So forget the idea of adding capital value to your apartment by making your own additional upgrades. That’s just not going to be possible.

Although you may calibrate the cost of ownership of your investment property, choosing units versus houses can make a difference in terms of the actual control over the ownership.


What about depreciation, negative gearing and other deductions in units vs houses?

Some of the deductions you can claim, as a property investor, are depreciation costs and negative gearing.

Several factors can play a role in determining depreciation costs. For instance,

  • The method and materials used in construction.
  • The age of the property or the date when construction commenced.
  • The additional renovations since original construction ended.
  • The plant and equipment, fixtures and fittings, etc. in the property, in addition to common areas and facilities, in case of apartments.

Although units and houses offer a range of deductions, the monetary difference between the two cannot always accurately quantified. But typically, the more deductible assets there are in or have been used for the property, the higher the number of depreciation deductions that can be claimed. These usually include things like lighting, furniture, appliances and more for a house.

As for a unit, the additional depreciating assets include all the common areas and facilities like lifts, communal barbecues, swimming pools, gyms, and common plant and equipment. The more shared assets you have in your apartment complex, the more depreciation deductions you are entitled to.

Apart from depreciation, there is negative gearing on your investment property, as well, that may affect your returns. Negatively geared properties usually have higher holding costs -like interests, maintenance and depreciation expenses – than the rental yields. This makes it possible for investors to claim tax deductions for that loss in income.

While individual situations may vary, houses, usually, tend to be more negatively geared than units mostly due to their higher initial and maintenance costs, and lower rental yields.

Needless to say, deductions are a way to minimise your outgoings and, thus, increase your incomings. So, when it comes to units vs houses, choosing a property type that has more potential for negative gearing could be another investment strategy to follow to maximise your wealth.


What are the pros and cons of units as an investment?

Here are some of the major pros and cons of buying units for investment purposes.

Pros of units Cons of units
Units are typically less expensive than houses in the same neighborhood. So for first home buyers, units can be an inexpensive entry point into the property market. As for property investors, units can be a quick and cheaper way to diversify their investment portfolio. Strata fees are an ongoing expense that can be really pesky and expensive if you have additional apartment facilities like common gyms, sauna and swimming pool. Also, any changes or renovation needs prior permission from strata management as you may not have full control over these issues despite your ownership.
Units require almost no cleaning and renovation when you first move in, saving you the additional costs to suit your living standards. Units have little room for expansion or upgrade, so forget about adding value to your capital by upgrading your apartment.
Maintenance and upkeep of the unit is not your sole responsibility; strata management will take care of it. Since units have a lower proportion of associated land, they will not fetch as much money as houses typically do.
Units are more attractive for tenants in urban areas, due to demographic trends and preference towards high-density urban accommodation. Moreover, units also offer higher rental yields than do houses within the same neighborhood. Units lack outdoor space for things like gardens and private parking that adds to the appeal and appearance of any property, thereby, increasing buyers’ appeal.


What are the pros and cons of houses as an investment?

Here are some of the major pros and cons of buying houses for investment purposes.

Pros of houses Cons of houses
Houses are not managed under strata rules, so no such fees are associated with it unlike units. Houses are often more expensive to buy than units in the same location.
Houses, usually, come with private parking and some outdoor space that you can turn into a garden or anything — as such they’re more attractive to tenants with family. Houses, due to their higher cost, do not make for an ideal entry point into the property investment. No do they help you diversify your portfolio in an inexpensive way.
Houses can receive as many upgrades as you please. Since you own 100% of the property, you can renovate and add value to your property and no permissions (except the Council, in some cases) are needed i.e. by adding a granny flat. Upkeep and maintenance of your house is your sole responsibility, as is the cost incurred. Alo, houses usually require some renovation and upgrades to match your living standards when you move in or rent it out.
Houses can be ideal for long-term accommodation for families or a group of students, so the rental yield, although low, can be long-lasting. The rental yield for a house is also lower than that for a unit around the same neighborhood.
When you buy a house, you also own the land, which appreciates and has the potential for a significant capital gain when you sell the house. Houses are less attractive for tenants in urban areas, due to the rise in the number of active, young singles and couples without kids.


Conclusion

Of course, there are several factors like affordability, location, demographic changes, market trends, regulatory limitations and economic variables at play here.

So it really helps if you start by understanding the market better since it is not the type of property that solely dictates your risk and return.

You should also probably figure out what sort of investor you are, to begin with. Do you prefer to buy, upgrade and sell quickly to increase your capital gains? Or do you want to earn a continuous rental income by holding on to a property?

Are you young and willing to take higher risks? Or are you close to retiring and want to play it safe?


Disclaimer

The information provided on this page is intended for information purposes only. It is to be used as a general guide and not to be considered any form of financial advice. You should consult a financial planner or an accountant to come up with a detailed investment strategy.


Are there any golden tips when investing on units vs houses?

Yes, of course.

As a general rule:

  • Decide between a capital growth or a rental investment strategy.
  • Take into account affordability and economy, which will narrow your option for picking out a property market.
  • Understand the housing demand and supply trends in that market, along with population and job growth.
  • Use our investment property cash flow calculator to estimate a range of expenses associated with your property and work out if your property will be positively or negatively geared.
  • Then, and only then, decide on the type of property that is inline with your investment strategy.

Are you planning to invest in a unit or a house?

Regardless of whether you choose to go with units or houses as your preferred investment property, we can usually help you borrow the amount you need.

Just speak to one of our mortgage brokers by giving us a call on 1300 889 743 or by filling in our free assessment form to find out if you qualify for an investment home loan with a competitive interest rate.