How to avoid settlement risk when buying off the plan

Even though there will be a flood of brand new apartments hitting the market within the next two years, buyers of off the plan property have no reason to panic, if the correct research has been undertaken.

There has been a number of news stories broadcast lately about how the record high number of unit construction is increasing settlement risk with some buyers being caught out and unable to settle on their property.

What is Settlement Risk?

Settlement risk, put simply is when one party is unable to deliver the terms of a contract with the other party. In this case, a buyer might not be able to meet the legal obligations of a loan and end up defaulting on the loan. This could be caused by your property being valued at a lower price than what it was contracted for, so you will have to make up the difference by providing a larger deposit.

Unit construction has been booming across the major capital cities in Australia including Sydney, Melbourne and Brisbane which is expected to create a high volume of new unit stock in the market. Most of these new properties will settle over the next 6, 12, 18 and 24 months according to CoreLogic’s new settlement risk report and it is thought they could affect the property market as a whole.

The inner city areas of Melbourne, Sydney and Brisbane are the top regions where the number of unit completions will be highest over the next 24 months. Melbourne City is expected to see 14,353 new apartments over 24 months, whilst Inner Brisbane will see 10,189 followed by Sydney Inner City with 9,376 total new apartments.

Sydney had a total of 34,216 new unit sales in the 12 months to April 2016 and is expected to see 81,696 new units settle within the next 24 months. Melbourne saw a total of 28,506 unit sales, and will have 80,503 new units settle over 24 months, whilst Brisbane saw a total of 15,880 unit sales and will see 44,511 new units settle.

Across the combined capital cities there are a total of 96,195 unit sales, with 92,102 settling within the next 12 months which will rise to 231,129 over the next 24 months.

So, with all these new units settling over the next two years, what does this really mean for the property market?

There is no arguing that historic high levels of unit settlements are expected over the next two years in the majority of cities in Australia. This is helped by a large volume of new stock, combined with a continually increasing supply of existing stock being resold.

Even though most of the stock is situated within 10km of the CBD, Sydney’s new units are spread out a bit more, in outer areas including Parramatta, Auburn and Kogarah – Rockdale. This does help reduce the risk as this supply is not centralised to just one particular area.

So what should buyers of new off the plan apartments keep in mind?

Lending criteria tightened

It is important that as a buyer of off the plan apartments you are aware of this issue. In particular, mortgage lenders have recently tightened up their lending criteria, meaning that some buyers will not be able to borrow as much as they thought they could when they signed their contract. Many of these buyers tend to be investors, and lenders have also increased mortgage rates for their investors. However, at iBuyNew we urge our clients not to overstretch their budgets in the first place to help mitigate this risk and be in a position to save up a larger deposit if required by the time settlement arrives.

Increased competition

One of the main worries for property investors is that a large amount of stock will be coming online at the same time in similar areas which will increase competition. Settlement valuations also might not meet the contract price of these units, whilst it can be harder to rent out your apartment if you are facing fierce competition from other investors who are also trying to find rental tenants at the same time.

If you are an investor, then you can try to mitigate this risk by finding a property manager in advance to advertise your property for rent to try find a tenant as soon as possible. You might need to reduce your weekly advertised rent slightly to make your apartment much more appealing to be leased instead of your neighbour’s apartment. It’s better to reduce your rent for six months by $10 a week, than to have your apartment vacant for a month or more.

Buy for the long term

Ideally you should be buying property as a long term investment of at least 10 years or more. During this time, you will experience different phases of the property cycle and you may see lower capital growth at times. However, if you bought your off the plan property in a good area, you are likely to see good and stable capital gains.

Brisbane market catching up

Brisbane is also playing catch up after the GFC hit, with the capital city seeing almost no construction for a good few years during that time. At iBuyNew, we don’t think Brisbane is at risk of an oversupply any time soon. It might seem as though there is an oversupply of property, but in actual fact, Brisbane is just making up for lost time. There are tenants available for the developments being built, showcasing good tenant demand.

Remember that an oversupply of property always happens after a boom. Developers are racing to acquire land and lodge building applications in a bid to build apartments, but it takes a few years for construction to complete.

Buy a stand out property

The best thing to do is buy a property which is slightly different to make it stand out from the crowd. That could include an apartment with a larger floor plan, extra parking, city or water views, or within a boutique development overlooking the park.

New infrastructure requires larger workforce

It is important to acknowledge that as more construction is required this will also require people to move here for work for the next couple of years at least. This will mean there is a greater demand for property, with an increase in population.

Healthy vacancy rates

Vacancy rates below 3% is a healthy vacancy rate. Currently, vacancy rates in Sydney, Melbourne and Brisbane are well below 3% so there’s no need to be worried. According to the state by state report by CoreLogic RP Data in April 2016, the vacancy rates for Sydney, Melbourne and Brisbane were as follows:
  • Sydney:1.6%
  • Melbourne:2.0%
  • Brisbane: 2.5%
If vacancy rates start to rise above 3% then you should start to worry; however, if you have done your research from the start then you should have bought in a high demand suburb and not have to stress too much about lack of demand.

Strong population growth

Looking into the future, Brisbane, Sydney and Melbourne will continue to experience strong population growth, fuelling demand for property. ABS predicts that by 2061, Brisbane’s population will increase at the highest rate between now and 2061, at a rate of 1.8% per annum. As well as Brisbane seeing strong growth, Melbourne will see the largest increase in population, with an extra 5,000,000 people added to the population. By 2029, Melbourne is expected to overtake Sydney as Australia’s largest city by around 2029.

With high levels of population growth expected throughout all three cities, and good employment and education prospects, there will always be a demand for property in each of these three cities, and there are no rental shortages in Sydney at the moment.

No lending to overseas buyers

Another thing three of the four largest banks are doing to compound the settlement risk is to no longer lend to home buyers from overseas. Much of off the plan property sales are to overseas buyers so this could help reduce settlement risk in the future. However, overseas investors play a large and important part in Australia’s economy.

How do you avoid settlement risk?

The key is not to buy overpriced projects in the first place and to buy in an area that has high demand and low supply. Many young professionals are flocking to the inner city areas, especially in Brisbane which is more affordable and fuels demand. They want to be within easy commutes of the city and have lifestyle convenience with everything right on your doorstep. This won’t change. People want to live where jobs and good transport connections are and all of our developments tick these boxes.

As a buyer you should also look into the future and research if there are any new infrastructure approved by council which could benefit the area.

Settlement risk is something that we should all be aware of, especially before we buy property off the plan, and is something to keep a close eye on over the upcoming 24 months.

If you are worried about settlement risk and how it might affect you, why not speak to one of our friendly Property Consultants at iBuyNew. We do our research and know exactly where you should be buying.

Call us now on 1300 123 463 or send an enquiry online using the form provided.
Published on 18th of May 2016 by Marty Stanowich
Marty Stanowich
Marty Stanowich

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