What Is Capital Growth? (Lesson 3: Intro To Property Investing)
Most Australians try to make money in property through capital growth. What is capital growth and how do you access it?
What is capital growth? This is a very, very important term when it comes to investing in property in Australia and this is how most people make money or try to make money when they invest in property in Australia. So it’s really important that you understand this so that’s why we’re going to take some time to go over it in this lesson.
Capital growth, in its most basic form, is the rise in value of something or, in this case, property. We buy a property for a certain amount of money, it goes up in value. If we were then to re-sell that property, however much it went up in value, we would effective make as profit after we’ve paid all of our expenses.
That’s what capital growth is in a nutshell. You can also access capital growth through equity, which we’ll talk about a bit later in this lesson.
There are 5 different ways a property can increase in value. There’s probably more, but this kind of covers most of it. The first one is that the market goes up. You might have heard the saying, “A rising tide lifts all boats.” If you’ve got 10 boats in a river and the tide is going up in that river, all of those boats are going go up as the tide goes up. This is how most people try and make money investing in property in Australia.
They want t the market to go up and their property to go up as a result. They might do absolutely nothing to the property. They’re not trying to buy it under market value or anything. They just want the market to go up.
This is one way to make money and you can make really good money this way. Look at Sydney and Melbourne in 2016 where the market went up something like 12-18%. That’s ridiculous! People making $100,000 in 6 months for doing nothing to their properties. But, it’s one way to do it and you need to time the market, which isn’t always easy. So, over the course of the future lessons and series, I want to teach you how to pick areas where the market’s going to go up. But also, how to invest so you can make money even if the market isn’t going up.
So that’s the main way. The second way is improving a property’s appeared value. This could be as simple as doing a minor renovation to spruce up the property and make it look better. It could even be something as simple as getting a better real estate agent to sell the property. Or, having better marketing for the property or better photos on the advertising. You’re just making it appear more valuable to people so they’ll pay more money.
The third way is buying under market value. So there’s a property on the market and it’s worth $500,000 and you’re able to purchase it for $400,000 because they’re going through a divorce or who knows why they’re selling. You’ve effectively bought under market value and you’ve achieved $100,000 in capital growth as a result of that. So you get capital growth not because the market is gone up, but because you purchased under market value.
The fourth way is development. So in this bucket, I put everything from major renovations to extensions to building townhouses or even blocks of units. So, you can purchase a property, let’s say, for simplicity’s sake you purchase a block of land. You add a house on to that land and combined, the house and land is now worth more than what you spent purchasing the land and building the house. So you’ve achieved capital growth that way.
And, the fifth way, it’s technical. You can achieve capital growth through depreciation. Though, this isn’t very lucrative for most people and it’s not really a way that people try and achieve financial freedom through property. But, technically, it’s possible so I just wanted to put it in there.
A very important thing to note about capital growth is that capital growth is only realized either through equity loans or through the sale of a property. You could purchase a property. Let’s say you buy one for $500,000. That property goes up in value and it’s now worth $1 million. Effectively, it’s gone up by $500,000. But that $500,000 in value, you only still have that one property to show for it. So, to access that extra value, you either need to sell that property, in which case you get $1 million in cash.
You could pay off your debts and whatever you had left over would be profit. Or, you could get a loan against the increased value of the property, which is called an “equity loan”, which we’ll talk about in future lessons as well as I don’t really want to confuse you right now.
It’s important to note that you can achieve a lot of capital growth, but still not be financially free – still be cash poor. There are people that I have seen that have millions of dollars in equity but are still negatively geared. So they’re tied to their job because they need to pay for their properties even though they have so much value in equity. That’s a trap that a lot of people can get in so you want to be very careful if your goal is
That’s a trap that a lot of people can get in so you want to be very careful if your goal is lifestyle and financial freedom. So you can actually be rich in capital growth, but still be poor in terms of cash flow in your day-to-day life. Which is why I love positive cash flow, which we’re going to talk about in the next lesson.
In summary, capital growth is the rise in value of your property. Which can be achieved through the market going up or through buying under market value or through other methods. And you can only really access that growth by either selling your property or getting an equity loan against that property.
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