FAQ on Rental properties in Pakistan / Passive income in real estate

FAQ – Rental Properties in Pakistan / Passive Income

Earning passive income through rental properties in Pakistan is by far the safest and surest way to get rich. This FAQ will answer some of the basic questions you may have in your mind.

Q-1 Rental properties depreciate and therefore do not offer high returns?

Ans- The problem of depreciation only exists in houses, especially as they offer only 3 to 4% rental yield per annum. Commercials and shops can be as good as new after little renovations and some apartments offer up to 10% rental income to offset any depreciation impact. As a general rule of thumb, rental properties should give you an average of 15% gains per annum. In some asset classes, rental income may be more than the capital gains and vice versa but it is good as far as you are getting 15% gains overall. In addition, the profits you are getting on your rental income will be a value addition over this 15% or will make up for any deficiencies.

At the end of the day, you have to be careful to find a rental property that gives you a handsome return. This is exactly why you need an expert who can analyze and forecast capital gains and expected rents for at least the next 5 to 6 years.

Q-2 Rental properties take time to build and therefore cannot offer returns as shown?

Ans- When you buy rental properties in Pakistan, you have to look at both the aspects of earnings that are capital gains and rental income. Usually, an already built-up property will offer 6% rental income yearly. However, if you plan to construct one or buy which is still being developed what you lose in rents during the time period it is being constructed, you get in capital gains. Those that take time to build such as high rise are usually much cheaper while they are under construction.

On average a good high-rise project will add 60 to 80% at least in capital gains during the construction period which lasts 3 to 4 years. This capital gain is usually more than 20% thus making up for the lack of rental income during this period.

Q-3 In rental properties, issues can arise such as lower tenancy which can decrease your ROI?

Ans- Like all investments, even rental property returns may change under certain circumstances. However, this change may be negative or may as well be positive. For research and analysis purpose conditions have to be ideal for both rental property investment and speculative trading investment. As the chances of speculative traders going wrong are far more than the rental investor losing a few months of the tenancy. Therefore,  keeping the situation ideal for both types of investors is important and is actually more in favor of the speculative trader.

Q-4 Houses or commercials give more capital gains than apartments?

Ans- Houses, commercials, and apartments are three different asset classes and will not follow similar cycles. Gain in houses over a period of time is due to gain in plots, which subsides after the area matures, similarly apartments will also slow down after the building maturity. Thereafter, a lot of other factors will come into play to decide if that property will grow further or not. Similarly, commercials have their own cycle to follow with their own risks as a very large number of commercials do not show much appreciation.

As long as you understand the different dynamics and act accordingly all these will give very good capital gains. Therefore, capital gains will depend on a lot of other factors than just the asset class.

Q-5 Which is the best rental property amongst houses, apartments, commercials, and shops?

Ans- Houses are not good for rentals, however, as for the other three, every property has to be judged separately to identify which will give you optimum rental returns. It will be wrong to give any preference depending on the asset class as such.

In the end, it all comes down to your selection of the individual property rather than its asset class. A good apartment project can outclass an average commercial in capital gains and vice versa a good commercial property can beat an average apartment project easily.

Luxury serviced apartments in Gulberg Lahore for Air BnB type rentals are a safe and secure bet than other types of properties for rental purposes.

Q-5 ROI on Rental income is slow, whereas plots may double their price in a very short time period?

Ans- You must have heard the old saying ” slow and steady wins the race“. Rental properties are that turtle that seems slow but never stops, thus giving you steadier consistent income over the period.

The unpredictability in speculative trading is its biggest enemy. Although speculative trading does give an illusion of higher returns, the high failure rate balances it out. In addition, speculative trading is not suitable if you are an expat or a busy person who will not have time to watch the real estate markets continuously.

Our study has proven that both rental returns and successful speculative trading can make almost equal amounts of money in the long run. So rental property takes the lead being the safest and surest way of reaching your financial freedom goals.

Q-6 Rental properties usually just give 3 to 4% rental income yearly?

Ans- That is not correct, only houses give 3% and we already consider them as a lame rental property. Besides this, some commercial properties do offer only 4% rental yield but that is usually because they are not fully mature yet and offer much more in terms of capital gains. So investors are happy with them considering that the combined gains are usually 15% or more.

(Posted by a user in the discussion forum on Rental properties in Pakistan)

Q-7  (Part 1) Let’s assume I invest 13 million in 562 Sq.Ft apartment. After 13 years I will get back my capital amount in terms of 10% rent?

For Exmaple:

Hotel Apartment Sq.Ft: 562
Rate(Sq.Ft): 23000
Total Price: 12,926,000
10% Annual Rent: 1,292,600
Annual Service Charges(Sq.Ft): 30 Rs * 562 = 202,320
Property Tax: 50,000
Rental Income Tax: 60,000
Annual in Hand rent: 980,280

Ans- The calculations we provide do not cater to any taxes or liabilities no matter you are investing in speculative property trading or rental properties in Pakistan. The impact of these taxes will be felt on both sides and will certainly affect ROI but is the bare minimum. For example, the service charges are not as high as 30 PKR and in some cases, they won’t have to be paid by you but by the developer or tenant. In addition, after a year or two, a 10 to 20% increase in rentals will cover any liabilities without putting a major dent in your rentals.

Secondly, if the purpose of the question is to compare plots or files with rental properties then the similar liabilities are applicable on trading plots as under:

a. Instead of annual service charges you pay a nonconstruction penalty on plots and even sometimes development charges.

b. Property tax will be paid even if you hold a plot as well so it is not only applicable to the rental property.

c. You will pay capital gains tax instead of rental income tax as during trading you will be selling plots mostly in under 4 years time period.

Q-8 (Part 2) If rent increases in between it may recover my capital amount in 11 to 12 years?

Ans- The mistake most investors make in reaching this calculation is that they do not calculate the profit on rental income. In reality, It will take 5 to 6 years at max for the payback of capital investment, If you reinvest your rental income at 10% per annum. This could even be speedier if you invest with imlaak 1 crore challenge where we can get you up to 20% per annum returns.

Have a look at the calculations below, based on a conservative analysis of the apartment in question. During the construction process, we expect an 80% growth, thereafter 12% for three years, and 10% after that for capital gains. Similarly, the reinvestment of rental capital is only calculated at a conservative 10% per annum instead of 20%. You can clearly see it will only take 6 years for the return of your capital after possession.

Even if we calculate capital gains at 5% after 3rd year the value of your asset will still be near 4 crores. However, one can say that the rental income capital should be growing at 15 to 20% rather than 10% so realistic performance may vary and the calculations below are just merely for understanding the concept of rental income investments and compounding effect.

Q-9 (Part 3) During this period If I want to sell my apartment to invest in some other area. I will be stuck in the apartment.

Liquidate Asset (apartment) will be more difficult. You may be stuck for a longer period than plot Liquidation. Because Average Liquidate Asset (plot/house) takes 6-12 months in normal days.

Serviced Apartments are good for rental purposes. But for money rotation, we may be stuck for a longer period. Because people prefer to book new apartments in installments not 5-10 years old apartments on full payment?

Ans- Selling a rental built-up property will take a bit more time than a plot or file. However rental property keeps giving you liquid cash every year, unlike plot or file which are actually a liability as you will be paying the nonconstruction penalty and other society charges as well as development charges in case of some plots and files.

So it all comes down to how you define liquidity? a property which will sell out quickly or a property that pays you back 10% in cash every year and will pay back 100% capital in 5 to 6 years.

Lastly, like any other property, how quickly your apartment will sell out depends on the quality of the project rather than the asset class. Not all projects will be equal and resales will vary depending on your selection today. Money rotation is also much better in terms of rental property as you will have complete capital in 6 years, which can be invested again in other places.

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Captain (Retd) Shahnawaz Yaqub Bhatti

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