Jumping onto the "buy a shoebox unit for rental income" bandwagon...

By The Folks @PropTalk - January 19, 2011 9 Comments

With some free time in our hands this morning and encouraged by the good response at Spottiswoode 18, the wife and I decided to run our sums on a "shoebox" unit for investment (rental) purpose.

Our assumptions are based on:
1. The smallest available unit in Spottiswoode 18, i.e. 387sqft
2. A purchase price of $735,000 (= $1,900psf)
3. A loan quantum of 60% (=$441,000)
4. A loan period of 25 years
5. An interest rate of 1.5% p.a. on monthly rest

Loan Repayment Table

Based on the loan repayment table that we have complied (above), the monthly loan repayment for the purchase comes to $1,764. So this is the minimum amount of rental that we will need to cover the loan (actually we will probably need about $2,000 if we do not wish to be out of pocket on the monthly maintenance/sinking fund).

And given the bargain-basement loan rates that the banks are offering at the moment (below 1.2%), the sums still make sense. For a 3% rental return, we are looking at a rental of just $1,837/month to cover ou rmortgage.

But what if interest rates climb back to the pre-2008 levels of 3.5% over the next 2 - 3years? The monthly loan repayment at 3.5% will jump to $2,209, which needs a minimum rental yeild of 3.61% to cover our mortgage cost.

And if by some freak of nature the mortgage rates skyrocket to 5.5% (don't laugh, it can happen), we are now looking at a monthly repayment of $2,708, which will require a rental yield of at least 4.43%

So the question becomes:
1. Will our 387sqft apartment in Spottiswoode 18 be able to fetch at least $2,000/month in rental (i.e. to cover our mortgage and maintenance/sinking fund)?
Given the excellent location of the project, it should not be too difficult to get $2,000 even if our unit is less than 400sqft and the fact that there will be hundreds of such "shoebox" units in the market by then, right??

2. Is it realistic for us to expect a 4 - 5% rental yield return (i.e. $2,450 - $3,062/month) on our "shoebox" unit, especially if interest rates start climbing?
Then again, interest rates are so low now and it probably won't go up much over the next few years... or will it??

We will leave you to form your own judgements...



9 comments to ''Jumping onto the "buy a shoebox unit for rental income" bandwagon..."

  1. Good to see you doing the maths for a studio. But just out of curiousity, why don't you do one for the "normal size" apartment at spottiewoods. I am quite convince that you will find that while getting a studio will be of some risk base on the cashflow, you will also find that the problem doesn't simply exist for the studio size apartment but also for normal size apartment as well.

    My point is that as long as you are maximising ur leverage to the fullest, you will be in some sort of potential risky situation. An investor who has pay perhaps 40% of the quantam for a mickymouse apartment will find his situation relatively more comfortable than one who has paid 20% for his "normal size" apartment.

    By simply pointing out the potential risk that mickeymouse apartment carries, you are somewhat creating a "bias" that mickeymouse apartment are risky. I don't disagree that many agent try to utilise the smaller quantam to entice investors to purchase such property while in reality it may not be that easy to fetch the return that was initally expected. But the truth is any property, if you pay only 20% of the fee upfront will struggle to ''break even'' on a monthly basis including bigger apartments.

    I am NOT a property agent or an investor, simply a young guy interested in this area. I personally feel that instead of focusing on talking about how mickeymouse property are potentially risky if actual return doesn't equal expected return, you should instead stress that includes for ALL property. I see alot of 1+ million property being purchased out there and I believed that they will have an even harder time trying to break even.

    PS: Enjoy and have read reading your blog for quite sometime, don't get me wrong, more often than not I agree with you :)

  2. The Folks @PropTalkJanuary 24, 2011 at 12:07 PM

    Hi Jansenboy:
    Firstly, many thanks for supporting our blog.
    As for your request, we do not really see the value in doing the comparison as it will not be "apple to apple".
    Our sums on the "shoebox for rental" is based on our belief that
    1. "Shoebox" mainly caters to a very small/niche group of buyers, aka investors.
    2. If the property market will to turn south, "shoebox" owners will be harder hit compared to other property owners, given the niche market that their units cater to. And once all the new "shoeboxes" hit the market, the situation will be even worse.
    3. It is unwise to buy into a property solely because of its low quantum. The much higher psf that is usually associated with "shoeboxes" should be a big cause for concern, esp. if one is looking at such for investment.
    ANYWAY, the wife and I are glad that we have agreed to disagree on this subject. And time will tell.... in the next 2 -3 years when most of these "shoebox" apartments currently under construction are available for occupancy, and if you, us and this blog are still around... we can revisit this discussion and come to a conclusion on whose right. :-)

  3. No worries :) I guess since none of us here are property agents, it will be somewhat difficult for either to do a price comparision without doing quite a bit of research on price which frankly it's not worth our time since neither of us are getting paid to do so!

    All your 3 points make sense to me and are definitely factors that should be considered. I don't disagree. Perhaps my point is simply that I firmly believe anyone individual who over-leverage are in danger and not just ''shoe-box'' owners. If an investor have money to either pay 50% for a 800k property or 20-30% (under previous measure) for a bigger apartment, I would say the latter is actually taking the bigger risk. I hope you can see where I am coming from.

    Of course, if an investor sees a shoebox unit and have pay only 20%(again previous rule) expecting to be able to generate positive cashflow upon top, they should be prepared to be disappointed. At the end of the day, maybe what equally crucial as well is to invest within ur means and not take excessive risk according to one own individal profile.

    Perhaps in 2-3 years....we might just realize that actually both of us were more on the same side of the river than we actually thought with regards of our views in investment!

  4. Hi everyone,

    I feel that to invest in a shoebox apartment is really great. I am one such example. I bought a unit at Airstream for slightly over 600k, paid in full and TOP is really near now and I am looking at an almost risk free investment for my 600k. Just collect rental for as long as I like and if there are no tenants, I just need to pay the 10% property tax and management fees. So, I feel that with a small quantum for shoebox apartment, it allows people like myself to invest without feeling too much of a risk.

  5. the alternative investment will be a listed REIT at say 7% yield which will be have higher yield, no property tax, more liquid than the shoebox...wouldnt that be a more attractive investment?

  6. Hi,

    REIT is different from physical property... You don't own a property deed and you can stay as and when you like.


  7. Good day to all!

    I invested both in REITs and physical properties.

    For REITs, it is more liquid (easy to liquidate and you get your money back in a week) and it increases the yield on my overall portfolio. While physical properties can only probably yield 3-5%, REITs can easily provide 6-9%.

    I go for physical properties mainly for capital returns, making use of leverage. I look for min yield of 4% (in current interest rate environment), mainly to cover the inflation rate and buffer for rise in interest rates.

    To me, shoebox units are a bit like 'penny stocks' in a stock market, where everyone can afford to invest/trade on it. Also, on the fact that such units are purchased mainly for investments, I find it to be more speculative and I deem such units to be riskier. I prefer at least a 2br as it cater to a wider pool of buyers which could be buying for own stay.


  8. Hi,

    Came across this forum and would like to get some feedback. Just across the road, Spottiswoode Residences will TOP soon. Based on today's market, how much rental do you think a 600sqft 1-bedder can command per month?


  9. Hi,

    Came across this forum and would like to get some feedback. Just across the road, Spottiswoode Residences will TOP soon. Based on today's market, how much rental do you think a 600sqft 1-bedder can command per month?