How to build wealth without owning a house

NICOLA FIELD

Renters don’t have to be the ‘poor relations’ of homeowners. Following a disciplined investment plan can help you grow wealth independent of home ownership. We explore five options.

Buying a home may once have been the great Australian dream and even though it’s still a goal plenty of us aspire to, declining affordability is seeing patterns of home ownership change over time.

Data from the Australian Institute of Health and Welfare shows a steady rise in the proportion of people who rent their homes – up from 18.4% in the mid-1990s to 27.1% today.

One of the reasons home ownership is so much a part of our national psyche is because our homes grow in value over time. But the upside of owning the roof over your head goes beyond rising property prices.

The pros of owning a home

Paying off a home loan is a form of forced saving. If you don’t pay the mortgage the bank can sell the place from under you. For most of us, that’s a compelling incentive to stay on top of loan repayments. And it stands us in good stead later in life.

The federal government’s Retirement Income Review found homeowners are generally well-placed to enjoy a comfortable retirement. This assumes our homes are fully paid off by the time we exit the workforce.

Tenants, on the other hand, continue to face the cost of rent after they’ve hung up their work boots. This sees renters more likely to experience financial stress in retirement according to the Grattan Institute.

The pros of renting

Renting may not be the first choice for many but it does have upsides. As a tenant, you have the freedom to live wherever you choose. You may not be able to afford to own an inner-city terrace but chances are you could afford to rent one. If it turns out you’re not a fan of inner-city living – or your job takes you to new destinations – you can generally pull up stumps and move without lengthy delays or significant costs.

One of the underrated joys of renting is freedom from repair and maintenance bills. When the hot water heater breaks down, it’s the landlord’s problem, not yours.

The costs of owning a home

The key downside to home ownership is the cost. Buying a home brings a raft of upfront expenses including stamp duty and legal fees, which together can run into tens of thousands of dollars.

That’s followed by what may be several decades of paying home loan interest, plus all the outgoings associated with owning property – from rates and insurance through to repairs and maintenance.

Then when you go to sell up, you could face a selling commission of 2% or more, plus marketing costs.

Tenants can have a higher disposable income than homeowners

Long story short, home ownership can be great. But it’s not cheap. This explains why tenants can have a higher disposable income than homeowners.

How much higher? CoreLogic’s latest Housing Affordability Report shows that nationally it takes 37.2% of gross annual income to service a home loan. It takes just 29.4% of income to pay rent.

To see how this gap translates into dollars and cents, let’s take a look at Sydney where CoreLogic says it takes 49.1% of household income to service a new mortgage and 30.8% to pay rent.

CoreLogic found Sydney’s median weekly household income is $1,889. As a homeowner, you could pay the median of $927 per week in home loan repayments. As a tenant, your weekly rent could come to $581. That’s an extra $346 each week in disposable income for renters – money that can go towards building personal wealth.

5 ways to build wealth without owning a house

So, the question is where should you invest so that renting doesn’t leave you behind financially? Here are five options. We have included past returns on each strategy though these are no guide to future returns.

1. Invest in a rental property

Maybe you can’t afford a home to live in. But if you want to keep a hand in the property market, it may be possible to buy as an investor. This offers far more freedom in your choice of locations. You don’t need to make buying decisions based on personal needs, which frees up options like buying interstate or in more affordable regional markets.

Along with rental income to assist with loan repayments, you may also be entitled to annual tax savings through negative gearing. This can apply if the cost of holding the property is more than the annual rent you receive.

Potential returns: ABS data shows that over the past 10 years, property values across our eight state capitals have grown by about 6.4% on an annualised basis.

That’s far more modest than the 18% jump in values seen nationally over the 12 months to March 2022. However, the latest PropTrack Price Index from REA Group makes it clear that 2021 was an “exceptional year” for property price growth – the third fastest in Australia’s history. It adds that “exceptional circumstances” would be needed to match that growth in 2022.

Rental yields will vary in line with market values and weekly rents but are currently about 3.2% nationally.

The downside: As we’ve seen, owning a property involves plenty of costs. Be sure your budget can handle all the regular outgoings – even during the inevitable vacancy periods when you’re receiving no rental income.

2. Grow your super

Grow your super for tomorrow, pocket a tax saving today. It’s a strategy that can be achieved by making ‘concessional’ or before-tax super contributions.

These contributions are limited to $27,500 annually. This includes your employer’s compulsory super contributions. So, if your boss tips $8,000 into your super in a financial year, you can add up to $19,500 through personal concessional contributions.

It can be possible to ramp up these annual limits by carrying forward any unused concessional contributions from as far back as 2018-19. The main criteria is that you have less than $500,000 in super.

Potential returns: According to SuperRatings, over the 10 years to March 2022, returns on ‘balanced’ funds have averaged 8.4% annually. This rises to 9.5% annually for ‘growth’ funds.

The downside: You can’t normally access money put into super until you reach preservation age. That’s between 55 and 60 depending on when you were born. So what goes into super, stays in super – potentially for a long time.

3. Build a share portfolio

Shares have plenty going for them as an investment. You need very little capital – $500 is the minimum marketable parcel to get started. Brokerage is cheap too, potentially less than $20 per trade. And you can sell your shares at a moment’s notice if you need funds in a hurry.

Part of the appeal of shares is that they are lightly taxed. Franking credits are available on dividends that have been paid out of fully taxed company profits. And if you hold onto shares for over 12 months, you may be entitled to a 50% capital gains tax discount on any profits on sale.

Potential returns: Over the 10 years to the end of March, the Aussie sharemarket has delivered total returns – dividends plus capital growth – averaging 10.15% annually.

The downside: The key to successful sharemarket investing is to build a diversified portfolio. That means spreading your money across different companies and industries. That way you lower risk and smooth out overall returns. The catch is that as a direct shareholder it can take time, and plenty of brokerage, to grow a portfolio spanning multiple shareholdings.

4. Consider exchange traded funds (ETFs)

Exchange traded funds (ETFs) offer an easy way to grow a highly diversified portfolio even if you don’t have plenty of time – or capital – to invest.

ETFs are essentially managed funds listed on the sharemarket. So you’ll face the same minimum investment limits and brokerage costs as for shares.

A key difference is that buying into an ETF gives you indirect exposure to a large underlying basket of assets.

Exactly what those assets are comprised of depends on the ETF you choose. Options span everything from Australian shares, international shares, market sectors, and even commodities such as precious metals or crude oil.

ETFs charge fees of their own. These are often below 0.5% though they can top 1%.

Potential returns: This depends on the ETFs you select and the fund’s underlying investments.

The downside: Most, though not all, ETFs are ‘index’ funds. This means they take a passive approach, aiming to match the market they invest in, rather than trying to beat it. If something spooks the entire market, the value of ETFs can go down with the rest of the ship even if the underlying assets are, say, commodities rather than listed companies.

5. Invest in…you

If you’re looking for an outstanding investment, the answer could be right there in the mirror.

A 2018 study by KPMG confirmed the benefits of investing in your own skills and education. It found the wage premium for higher education among men and women works out to about 20% and 15% respectively compared with those who finished their education in Year 12.

Going further than an undergraduate degree can pay handsomely too. Research by Universities Australia found the median income for postgraduate degree graduates was 32% higher than for those with a Bachelor degree.

Potential returns: A potential salary uptick of 15%-20% that can span your working life. The added bonus of higher pay is increased employer-paid super contributions. So investing in your qualifications may put you in front financially all the way to retirement.

The downside: Heading back to the books can mean incurring a HECS-HELP debt to pay for the cost of higher education.

Spread your money around

With the potential to have more disposable income than homeowners, renters can take their pick of investments.

While we’ve offered five different options, it’s worth stressing these are not mutually exclusive. Mixing and matching is a smart idea as it lets you diversify your investments, which is a proven way to reduce risk.

The main point for renters is that investing on a regular basis calls for discipline. If that’s not your strong point, think about strategies to make it happen automatically. Like setting up regular purchases of ETF units through your broker. Or talk to your boss about salary sacrificing super contributions each payday.

If you can manage this, there is no reason why renting should leave you worse off financially than your mates who are paying off a mortgage.

 

Cover image source: enciktepstudio/Shutterstock.com


This content was reviewed by Editorial Campaigns Manager Maria Bekiaris as part of our fact-checking process.


Nicola is a personal finance writer with nearly two decades of industry experience. A former chartered accountant, who holds a Bachelor of Commerce and a Master of Education degree, Nicola has contributed to several popular magazines including the Australian Women’s Weekly, Money and Real Living. She has authored several best-selling family-focused finance books including Baby or Bust (Wiley) and Investing in Your Child’s Future (Wiley) .

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