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The risks of owning a foreign home

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The risks of owning a foreign home

Illustration: Sam Bennett

Ben Hurley

Be on your guard, warn Geoff Webster and his partner, Andrea Dunn, who thought they had a bargain when Geoff signed a contract for a three-bedroom home in Houston. Photo: Glenn Hunt

There is a certain romantic appeal about buying property overseas and, if you’re so inclined, a quick search of the internet yields myriad companies that promise to help. Some claim prodigious returns with minimal outlay if you throw your weighty Australian dollars into America’s destitute housing market.

But many who try discover that it’s not quite so simple.

Opening your wallet to the world creates a whole new set of unknowns. There is the juggling of exchange rates, getting your head around a different tax system, and the logistical challenges of managing a home from the other side of the planet. There are plenty of shonky dealers who prey on newcomers. And there are plenty of horror stories from Australians who bought homes in the US and had them repeatedly trashed or faced massive tax bills.

And if you think there is a big difference between Perth and Sydney, try the disparities of the United States.

Matthew Montagu-Pollock, publisher of the web-based Global Property Guide and a supporter of well-considered investment overseas, says the numbers alone point to great buying in Eastern Europe. In Budapest, Hungary, rental yields average 9 per cent.

But there are other considerations.

“Hungary has a semi-fascist government which is very xenophobic and worrying,” Montagu-Pollock says. “You are buying property with great rental yields but in a very uncertain political environment.”

Despite the risks, some have made it work. There is logic in the argument that by limiting yourself to one country, you’re limiting your options. Diversification can be a good thing, particularly when the rest of the world seems to think Australia has a property bubble. For contrarian investors willing to put in the time, parts of the US and Europe may be ailing now but have good future prospects. The Australian dollar is strong.

If you’ve thought of buying a sumptuous overseas escape, there are some big discounts around. Sotheby’s International Realty is marketing a 4.5 hectare ocean-front property on the island of Tilloo Cay in the Bahamas. Completed in 2004, it has six bedrooms across three villas, with two docks and unobstructed views out to the Sea of Abaco. It will cost you $US3.35 million, almost half its initial $US6.4 million price tag in 2009, and even better with the strong Australian dollar.

Others looking for high-yielding investments are travelling to the US. A common way for Australians to get into the foreclosure market there is to buy properties from a local who has bought from the bank, renovated and “flipped” for a profit. While you’re not getting as good a deal as the flipper, some say the returns are still acceptable.

Geoff Webster, a lecturer in international business at TAFE in Brisbane, quickly discovered you need to be on your guard. He thought he had a bargain when he signed a contract for a three-bedroom home in Houston. His Gold Coast-based broker promised a 12 per cent rental return, and charged a $US10,000 service fee on top of the $US74,000 price tag.

But after signing the contract, Webster went online and found the home advertised in a local paper for $US64,000. “It was the old two-tier marketing ploy that was once being used on the Gold Coast,” he says.

Fortunately, his contract had a 10-day cooling-off period and he got out just in time. He and partner Andrea Dunn spent six months doing research and touring the US before their next buy. They eventually bought four homes in the town of Sherman, Texas, between 2009 and 2010, the first two through a broker targeting Australians and the last two via their own contacts.

The latter two involved buying land and building houses aimed at students from Austin College, two blocks away. Each cost $US85,000 for the land and the buildings. They paid a 30 per cent deposit with 6.5 per cent interest fixed for three years.

Webster says they rent for $US1050 a month. He pays $US580 in loan repayments and $US95 in property management a month, giving him an immediate income. The only hitch was mistiming their completion.

“For us it’s been straightforward,” he says. “The only hassle we had was a matter of timing with students because their university year is different to ours. We had to cover the costs for three months, but we’ve got people in and everything is running smoothly now.”

So that’s a $US25,500 deposit, earning a net $US4500 a year, which is a 17.6 per cent return. There isn’t much in Australia that compares.

But if deals look too good, they probably are. The Australian Securities and Investments Commission warns: “If you’ve been ‘invited’ to invest in a supposedly ‘cheap’ overseas property, ask yourself why they need someone in Australia to invest? Why aren’t savvy locals investing? Chances are it’s a dud investment.”

AMP chief economist Shane Oliver says if you look at the broad numbers, investing in the US looks pretty good. The property market has slumped by 30 per cent, rental yields are generally about 8 or 9 per cent, and a dearth of construction has whittled away the oversupply of housing. Houses there cost two or three times the average annual household income, while in Australia it’s at least six times, he says.

“The risk is if the property market falls further, your equity could be wiped out,” Oliver says. “But after property prices have already fallen 30 per cent and with price-to-income ratios so low, it’s hard to see further sharp falls in price.”

He’s less confident about Europe, where he says prices could fall further and investors would have to take a 10- or 20-year view.

Some, like global real estate firm Savills, argue Europe’s woes are less relevant to a global financial centre like London, which has relaxed foreign investment laws and where demand for property comes from around the world. Savills predicts London property prices will rise 33 per cent in the next five years.

But there aren’t many Australians buying. Last year, Frasers Property Australia chairman Stanley Quek was surprised at the tepid response he received when marketing his London apartment development, Riverside Quarter, to Australian investors. Here was a project by a familiar developer, with views over the Thames. The strong dollar and weak pound made them 20 per cent cheaper than his popular Central Park development on the edge of the Sydney CBD.

“It was difficult to persuade Aussies to buy into London – I cannot understand why,” Quek says. “All the fundamentals for a good investment are in place but they are not coming in hordes, unlike Europeans and Asians.”

Emerging markets bring a new set of challenges. Through much of Asia, foreign property buyers need to use complex ownership structures or find local partners. Some discover a somewhat different way of doing business where relationships with government officials can matter more than they do here. But while risky, the returns can be spectacular.

Australian Rory Hunter, chief executive of Brocon Group, made his money on French colonial villas in Cambodia. Between 2005 and 2009, he bought 27 neglected buildings in Phnom Penh, renovated them and divided the larger ones into apartments. The labour was cheap. He then leased them to expatriates and sold them to international investors, offering them yields of about 10 per cent.

“We would buy between $10,000 and $20,000 and sell them for $100,000-$200,000,” says Hunter. He’s now building and selling luxury villas on the Song Saa luxury island resort, and says the window has closed for flipping homes in the Cambodian capital.

“That model doesn’t exist any more, because the purchase price has increased so much,” he says. “It was a moment in time when the numbers made sense.”

One minefield every investor in overseas property will have to negotiate is tax, difficult enough even for buyers in Australia. Most investors will need an accountant in the country in which they invest. Under tax treaties, other nations will usually tax first, then Australia. Australia will give you tax credits or offsets against the tax you pay over there, but might ask for a bit extra.

“With that comes a degree of complexity and cost in managing those tax affairs in two countries and not one,” says Paul Brassil, partner at PwC.

In Australia you get a capital gains tax discount if you have held a home for more than 12 months before selling it, and the Australian government also takes this view of overseas properties. You can also make use of tax breaks for negatively geared properties.

Australian tax laws allow you a tax deduction on money lost due to foreign currency movements, which leads to some interesting scenarios.

Say you borrowed in the US to buy a house, then sold it more than a year later. If the Australian dollar went down, you would make a capital gain on the asset and would get a 50 per cent discount on your capital gains tax. At the same time you would make a loss on the remaining loan liability, because it would become more expensive in Australian dollar terms, and this foreign currency loss would be fully deductible.

On the other hand, if the Aussie dollar went up, the asset would be worth less so you make a capital loss, for which you cannot claim a deduction. That loss is quarantined to be made only against other capital gains, if any. You would also be fully taxed on the foreign currency gain you have made on your loan.

And we haven’t even talked yet about real capital gains in the value of that house. In theory, you could make a capital gain in the US and a capital loss in Australia.

“Murphy’s law says it will go bad for you,” Brassil says. “You can take out currency hedges, they are derivatives of different kinds, but they have their own incredibly complex tax rules.”

There are dangers in buying first and learning about tax later. In the US, some tax liabilities stay with the property, not the owner, and you could find yourself liable for them if you buy it. One way to protect against this is taking out “title insurance” which covers against unpaid liabilities such as unpaid contractors’ fees.

Webster and Dunn had to travel to Dallas to file their first tax return, as the authorities refused to accept it from their accountant. But they were able to claim for travel expenses.

All things considered, investing overseas seems risky, even to those in the know. Andrew Donnelly runs Whiterock Capital, a project marketing firm that helps developers sell their housing overseas, particularly to Asia. But when it comes to buying overseas himself, he baulks at any country other than Australia, where he lives, or Britain, where he grew up.

“I know what the pricing is, I know what the suburbs are, and I know what a good deal looks like,” he says.

The Australian Financial Review

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People Stanley Quek, Shane Oliver
Topics Personal Investment, Economy /Foreign Investment , Property - Residential