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Is Adding Granny Flat an Effective Investment Property Strategy?

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Do you have a budding teenager who longs for more privacy and space but still enjoys the benefits of home living? Or perhaps, do you know of a senior father or mother looking for a residential place that they can stay to be closer to their adorable grandchildren?

The answer is simple: Let them stay in a granny flat which is typically seen as an extension of space to your home.

These granny flats are investment properties that can provide rental income for your family. They’re generally less pricey to build or buy, convenient to manage and offer solid income. But buying or building a granny flat for investment also has its risks.

We listed down below the benefits and downsides of this investment property. Please read on.

Granny Flat as a Good Investment

Your granny flat is considered as a good investment if:

  • You need income tax relief (ie claiming depreciation)
  • You need extra rental return to help cover your mortgage costs;
  • It can protect you from the possible home loan interest rate increases
  • It could add value to your home and boost your equity in your property;
  • You are in the right location – i.e., your granny flat is in an attractive suburb;
  • You’re ready to lease out one of the units permanently or as a holiday house;
  • When you’ve confirmed from your real estate agent that the suburb has a low vacancy rate and can generate a good rental yield.

What are the risks of Building a Granny Flat?

The price is higher than what you expect it to be.

As in any other building or renovating a house project, more cost overruns are very likely to happen as you construct your granny flat.

Granny flats are not allowed for all councils.

Remember to fill in all the particulars, check all the details, or be meticulous for you to get council approval easier and faster. Check for factors such as the needed access, the size of the block required, and how near it can be built to a fence or wall.

The councils that normally allow granny flats are those in low capital growth areas.

You are most likely to use this approach in the outer locations, plus lower socio-economic areas – locations that appear to provide below-average capital growth.

The cost of constructing the granny flat doesn’t always add sufficient value to the property.

If you’ll be spending somewhere around $100,000 – $120,000 on the granny flat, the banks will just escalate the property’s value by about $70,000 – $80,000.

To put it simply: You are over capitalising.

You’ll lessen your potentials in the resale and rental market.

The reason is that the product has a small market with less demand from both tenants and owner-occupiers.

You know that majority of owner-occupiers choose to have all the accommodations under their main dwelling. They’re not too keen on having a granny flat right in their backyard.

You will have longer vacancy periods as your property will attract only primary investors.

Most tenants do not want a co-tenant in their space, more so the noise or disturbance that an attached property might cause.

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You’ll experience longer vacancy periods.

Your batch of potential tenants will be limited on both properties, so you’ll have fewer options available as well as experience vacancy periods much longer. It’s also expected that you will have to interact with two groups of lower socio-economic tenants rather than one regular socio-economic family.

You can’t subdivide your property into two titles.

Granny flats are registered as a secondary dwelling on a primary dwelling. Regardless of whether it is free standing or attached to the main home, this means that the main home and the granny flat are to remain in the same lot and cannot have separate ownership titles.

Follow these Regulations in Owning a Granny Flat Investment Property

In Australia, housing affordability concerns have driven several state and territory governments to come up with procedures that make it more trouble-free to construct a granny flat. The governments of Western Australia, the Northern Territory, the ACT, Tasmania and New South Wales let residents lease out a granny flat for additional income. But sadly, this is not true for those in South Australia, Victoria, and Queensland.

Before building your granny flat or buying a modular one, you must be certain that your planned property’s extension will have full compliance with the area’s applicable laws.

See what regulations you have in your location from the local council, but generally, the following requirements for a granny flat are:

  • It should be constructed on a residential zone;
  • The property’s size should fall within 450 square metres minimum;
  • The owner should be the same as the one for the primary dwelling on the property;
  • It should be the lone granny flat on the property;
  • The living space is about 60 square metres maximum (this size varies and usually excludes carports, patios, terraces, or porches);
  • Have distinct and passable access for pedestrians.

After ensuring that your granny flat plans are meeting the requirements completely, the next step is to apply for your local council’s planning approval.

Further information in each location/state are listed here – go and check them out:

  • NSW –  Learn more about the granny flat rules in NSW here.
  • Queensland – You can easily get approval for a granny flat if you’re renting it out to a family member. There are different rules for every council. Check details on Brisbane City Council’s rules here.
  • ACT – The Australian Capital Territory made granny flat rules more flexible. Find more details here.
  • Victoria – The rules in Victoria are quite hard to get a granny flat approval, but it depends on your local council. Get more information here.
  • South Australia – Having a granny flat’s approval in South Australia is not easy unless you rent it out to family or relatives. Get more information here.
  • Western Australia – The rules have been made more flexible since 2015. Check it here.
  • Tasmania – The rules vary by council, although the state allows the use of granny flats. Check out more information about rules for Hobart here.

Adding a granny flat – how much will it cost you?

If you’re wondering how much is the cost to be incurred as you plan for a granny flat as an extension in your property, this will vary. It would depend on the type of the granny flat’s structure and builder, but typically you’d be paying on average between $110,000 – $200,000 in total to install a new functional home.

While you’re planning for the construction of your granny flat, there are wide-ranging options for the type and design of the home you want. There are dwellings built to start with or perhaps, the pre-fabricated and modular ones or “flat pack” – whatever you choose will be based on the availability of the designs, including the features which you desire to be part of your granny flat. It is also largely dependent on your budget.

If you’re considering it as an extension or maybe a part of the renovation, the costs may be higher because you will have to consider other costs such as architect’s fees and engineering expenses, including extra money for present or probable hazards like asbestos.

Tax Implications of a granny flat investment property

Before proceeding with your granny flat project, it is advisable to speak with a financial advisor or your tax consultant to ensure you fully understand the different tax and Capital Gains Tax implications when it comes to the sale of your property.

If your granny flat was built primarily to generate additional income, then you’re expected to be taxed on your earnings from the rental, with the amount of tax payable depending on your marginal tax rate and income tax bracket. The good thing is that ongoing expenses and loan interest payments, as well as depreciation can be claimed as normal deductions against income from an investment property.

Under current legislation, some Capital Gains Tax (CGT) issues arise when you need to sell your home that comes with a granny flat. Generally, the family home is exempt from CGT. But if you have added a granny flat that you have leased out to a third party (like a student) at commercial rates, you can lose some of your family home exemption from CGT. However, if a family member had lived in it and did not pay commercial rent, the main residence exemption still applies as the arrangement is deemed private or domestic.

Other factors that affect the determination of CGT liability:

  • Using the area of the property occupied by the granny flat – the amount of CGT liability is normally determined on the profit made on the sale of the property and the portion of the property that has been generating income. CGT will only apply to a portion of the profit made.
  • Knowing when the granny flat was built. If you had owned the property for 7 years and the granny flat was only built 2 years ago, only a portion of the increase in value since the construction of the granny flat would be subject to CGT. So, in this example, CGT will not apply for the first 5 years if the granny flat generated income straight away after it was completed.
  • If the property was held for over a year at the time of sale, 50% discount on CGT is applicable.

Here are TIPs for maximising your Granny Flat as an investment property:

  • Conduct your research – It pays to find out whether the granny flat will be a worthwhile investment and deserves an addition to your property. There are several things to consider such as the location’s requirements for rental properties, total cost of a granny flat construction, and council rules and regulations.
  • Ask for quotations– Take complete and correct quotes from your contractors so you can have a correct estimate of how much it will cost you to build the granny flat.
  • Check loan selections – You need to discuss with a professional like a seasoned mortgage broker the borrowing options you have in case you need to get a loan to invest in your granny flat property. If there’s already enough equity in your property, you may be able to extract the money you need by refinancing or increasing your loan.
  • Having a granny flat as an addition to an investment property – The more common strategy is adding a granny flat to your property, but it is also possible to build a granny flat to your investment property. Just make sure that you consider all ongoing costs of maintaining two properties, the projected rental yield plus the impact that the addition of a granny flat may possibly have on the market demand for the main house.
  • Keeping it consistent – Do you want your granny flat to add value to your property? Then, you need to ensure that it complements your present home and it doesn’t appear to be just an extra. It is also important to ensure that it’s not taking too much of your outdoor space or overshadowing your garden.

When you have adequate space and the ideal property, a granny flat seems quite a good investment. Just make sure that you exhaust all your efforts in doing your research and consider all possible risks before pursuing this kind of investment strategy.

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