Rental Guarantees - Be Wary

Vendors offering to guarantee the rental income from property purchased for investment purposes are usually associated with residential property, however, they are also offered for commercial and industrial property as well.

The recent collapse of ‘Westwater’, a property development company that heavily promoted 10 year rental guarantees to entice property investors to buy its properties, has lead to questions being asked about the value of such guarantees.

The offer of a rental guarantee is only as good as the company giving the guarantee, its commitment to the offer, continued operation and having sufficient financial resources, including a positive cashflow, to fund rental shortfalls of property investors.

Generally, investors given guarantees by a failed company have rights if they loose money, however, these investors will have to line up alongside all the other creditors to receive their entitlements, if they are forthcoming.

Rental guarantees are attractive to property investors because they offer the promise of secure ongoing rental income from the investment property, even when the property is vacant, thereby reducing the risk of purchasing the property. The guaranteed renal enables the purchaser to service the loan used to buy the property in the first place.

The issues to be aware of and questions to ask vendors/ developers offering rental guarantees include:

1. What happens to the guarantee when the company sells all the properties and moves on, or goes into liquidation, like Westwater? 2. Who will be the company contact or manager of the rental guarantee scheme? 3. How is the rental guarantee going to be financed? 4. Is the rental guarantee amount fixed and for how long? 5. Remember rental markets change over time and rents fluctuate in line with supply and demand. 6. Ensure that the rental guarantee is not ‘built into’ the sale by comparing the sale price with similar properties being sold without rental guarantees. 7. Has the rental guarantee been used to promote an ‘inflated’ investment rental return (yield) from the property that is not likely to be achieved? 8. How long is the guarantee for and is it a ‘genuine’ offer? Are there any ‘catches’? 9. Be mindful of market conditions in relation to the offer. For example, the rental market is currently very tight, with very low vacancies, in most capital cities and regional areas, so why would the developer need to offer rental guarantees? 10. If fundamental property selection criteria are adhered too, such as, location, price, quality, services, and fitout for example, then the rental guarantee shouldn’t be needed, especially if loaded into the purchase price. 11. Is the guarantee voided if the owner/ investor refuses to accept a prospective tenant? 12. Is the guarantee voided if the owner/ investor refuses to accept a rental below perceived market rent or the yield offered at the time of sale/ promotion?

This is not advice. The article is for general information purposes only. Readers should seek independent advice before taking any action. John Maher produces the property magazine Inside Property WealthTM, is a registered practising valuer and a Fellow of the Australian Property Institute. John can be contacted through www.insideproperty.com.au.