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Rewards and risks of granny flats (Part two)

John McGrath
Tuesday, March 20, 2012

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Last week I wrote about more investors in NSW using granny flats as a strategy for high yield investment. Put simply, you can pop one out the back of your place for an immediately positively-geared investment or you can build one in the backyard of an existing investment property to up the yield you’re getting overall.

More investors are taking up this opportunity in the areas where planning laws make it relatively easy to get approval to build and where granny flats can be rented out for income instead of simply housing a dependent. In Australia, this is limited to NSW, Tasmania, Northern Territory and Fremantle, Perth.

As with any investment strategy, there are risks and rewards. This week, McGrath’s Head of Network Property Management, Michael Conolly, provides some great insights into the pros and cons of a granny flat strategy.

When adding a granny flat to an existing investment property, the biggest risk is longer vacancy periods on both properties, particularly the main house. Here’s an example.

In Sydney there is a three-bedroom house at Northmead that has a one-bedroom granny flat out the back. When they both became vacant, the house was advertised for $430 per week and the granny flat at $240. (Together at $670, the granny flat represents about 40 per cent of the desired weekly rental return.)

There was a delay leasing both as no one wanted to move into one without the other being filled first. Eventually, they leased both properties to the one family for $650 per week.  So the landlord lost some rent due to vacancy and they had to drop the overall rent to fill them.

Now do the numbers. Say the granny flat cost $80,000 to build. Forty per cent of the $650 you’re now receiving is $260 p/w or a 17 per cent yield on the flat. Sounds great but you need to factor in two things. Does the high yield on the flat offset the amount of rent lost on both properties while they lay vacant; and secondly, how much less rent are you getting on the main house?  

If you’re considering adding a granny flat to an investment house, you have to realise that the rent you’re currently receiving for the house will have to be reduced to offset the negative for tenants of having a granny flat in their backyard. Michael gives a good example of this on Sydney’s Northern Beaches.

A house in Collaroy Plateau might lease for $850 to $900 p/w – five per cent yield. If you added a granny flat, you’d need to reduce the rent on the house to about $750 p/w and the granny flat might get $280 p/w. Together, this brings the yield to six per cent, so is it worth it – especially when you factor in the likelihood of longer vacancies?

Again, it all comes down to area. Talk to a local property manager and ask them how much a granny flat would rent for in your suburb and how they affect the vacancy rate and rent on the main house. Ask them for worse case examples so you can budget carefully. Here are some other things to consider.  

When adding a granny flat to your home

The positives are:
  • Positively-geared investment in most cases
  • Security of knowing someone else is around when you’re not
  • Someone to look after your pets, water the garden and collect the mail when you’re away (depending on your relationship with them!).
The negatives are:
  • Potential noise issues with your tenant
  • Sharing utilities
  • Uncomfortable situations such as rental increases or arrears
  • Knocks at the door re: maintenance issues. 

When adding a granny flat to an existing investment property

The positives are:

  • Positively-geared investment in most cases
  • Tenants like granny flats as the modern ones offer more than an apartment – such as access to a yard, for the same or less rent. They’re also usually pet-friendly and the utilities can be included in the rent due to issues around separate metering.
The negatives are:
  • Potentially longer vacancy periods, particularly for the main house
  • You’ll have to reduce the rent on the main house.

As always, research is everything in real estate investment so consider these issues carefully. If you decide to go ahead, think about how you could create a sense of separation through landscaping or simple gardening tricks, such as planting a row of trees through the middle of the yard to create a bit of privacy for both homes.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.

For advice you can trust book a complimentary first appointment with Switzer Financial Services today.

Published: Tuesday, March 20, 2012


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