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Why Melbourne could now be the place to invest in property

Poor growth over the past two to three years, a decline in investor activity, and limited buyer numbers has seen popular sentiment on Melbourne’s property market sour in recent times. 

Clearance rates are down, reflecting a lack of competition, and ownership costs in Victoria continue to rise. So, with all this negativity surrounding Melbourne, why would anyone consider buying property there now?

While it may seem counterintuitive, there’s a strong case to be made for Melbourne’s current value proposition. 

In fact, a closer look reveals that many of the factors contributing to its perceived weakness could actually present significant advantages for buyers in the long term. 

Let’s first explore the factors currently holding Melbourne’s property market down.

 

Land Tax Changes

One of the most significant factors impacting Melbourne’s property market is the recent change to land tax. Effective from the start of this year, the Victorian government reduced the land tax assessment threshold from $300,000 to $50,000. This means many investors who previously paid no land tax now face increased holding costs.

This change has especially impacted apartment owners. With the previous $300,000 threshold, a significant number of apartments were exempt from land tax as their land value component fell below this level. Now, with the much lower threshold, almost all apartments are subject to land tax. This has broadened the range of investors facing these additional costs.

Furthermore, the ability to apportion land tax liability between the vendor and buyer upon the sale of a property has been removed. This means investors feel the full impact of the increased land tax immediately. As a result, many investors are rushing to sell properties and settle before the end of the year, as land tax is calculated on a calendar year basis, not a financial year basis.

 

Rental Regulations

Further changes are coming for Victorian landlords. By October 30th of next year, new regulations will come into effect regarding rental properties. These regulations revolve around sealing, insulation, draft-proofing, and the installation of air conditioning.

While many of these measures are valid and beneficial for renters, they all add to the cost of property ownership. The intention behind these regulations is to improve the quality of rental properties for renters. However, landlords will likely seek to recoup these costs through increased rents, potentially offsetting the intended benefit for tenants. 

This could exacerbate rental affordability challenges, potentially undermining the government’s objective.

 

The “Airbnb Tax”

Another significant change coming into effect on January 1st next year is a 7.5 per cent levy on short-stay accommodation, often referred to as the “Airbnb tax.” This levy, combined with the power granted to local councils and owners corporations to ban or limit short-stay accommodation within their jurisdictions, aims to incentivise the conversion of these properties into long-term rentals.

The Victorian government’s objective is to increase the supply of rental properties and alleviate pressure on the rental market. While some property owners may indeed convert their short-stay accommodations to long-term rentals, the levy could also have unintended consequences.

Some short-term rental providers might simply pass the levy on to guests, increasing the cost of holidays and potentially fueling inflation. Others, facing a combination of increased land tax, new rental regulations, and the added burden of the Airbnb tax, might choose to sell their properties altogether, further reducing the availability of rental properties.

 

Decoding the data: Why Melbourne’s slide down capital city values doesn’t tell the whole story

Another important point to consider when assessing Melbourne’s property market is how we interpret the data, particularly when comparing median prices across different capital cities. We recently covered this issue in our regular column for The Australian Financial Review. 

Melbourne, in comparison to smaller capital cities like Adelaide and Perth, has a significantly higher proportion of apartments. When statistical companies report on “dwelling” prices, they include all property types – houses, units, townhouses, and apartments. This can skew the data, especially when comparing cities with different property compositions.

A prime example is the recent comparison between Melbourne and Adelaide. Adelaide’s median dwelling price has recently surpassed Melbourne’s. According to CoreLogic data, Melbourne’s median dwelling price is currently around $776,000, while Adelaide’s sits at $790,000.

However, if we delve deeper and compare median house prices, Melbourne is still comfortably ahead at $944,000 compared to Adelaide’s $830,000. Similarly, for apartments, Melbourne’s median price is $610,000, while Adelaide’s is $546,000.

This discrepancy arises because approximately 33 per cent of dwellings in Melbourne are apartments, compared to only 16 per cent in Adelaide. This higher proportion of lower-priced apartments in Melbourne pulls down the overall median dwelling price.

Comparing “apples to apples” – houses to houses, apartments to apartments – provides a more accurate picture of the market.

 

Why Melbourne is currently undervalued

Melbourne is actually a compelling long term option for property investors. It comes down to a fundamental principle articulated by Richard Wakelin, who founded Wakelin Property Advisory back in 1995: “The longer a market is held back, the greater the rise will be when it does recover.”

While Melbourne hasn’t experienced a significant downturn, its growth has been subdued compared to other capital cities. This suggests a potential for strong growth when the market eventually rebounds.

Consider the property market in the 1990s. Following the recession of the early 90s, the market remained relatively stagnant until 1997. Then it experienced a decade of sustained and robust growth, lasting until the Global Financial Crisis in 2008.

In the past four years, Melbourne’s property values have increased by approximately 17 per cent. While respectable, this pales in comparison to Sydney’s 36 per cent growth and the even more impressive 73-74 per cent growth observed in Brisbane, Adelaide, and Perth. Notably, 14 per cent of Melbourne’s 17 per cent growth occurred in the first 12 months of the pandemic, driven by a desire for improved housing and limited renovation opportunities during lockdowns. Since then, Melbourne’s growth has been negligible.

This period of relative stagnation, coupled with Melbourne’s strong fundamentals as a global city with economic and lifestyle advantages, points to significant opportunities for future growth. The city’s inherent appeal and the potential for pent-up demand to be unleashed suggest a promising outlook for property investors.

 

A Buyer’s Market: Limited Competition and Increased Supply

Another factor contributing to Melbourne’s attractiveness for buyers is the current lack of competition. This is evident in the declining clearance rates at auctions.

Earlier this year, clearance rates were strong, hovering around 70 per cent. However, they have since fallen to the low 60 per cent range. As we move deeper into Spring, with increased supply typically entering the market, clearance rates are expected to decline further, potentially dropping into the 50s. This presents a significant opportunity for buyers to negotiate favourable prices.

Furthermore, the supply level is currently high compared to the same period last year. In some cases, weekly averages are up by 17 per cent to 35 per cent year-on-year. This abundance of choice provides buyers with a wider range of options.

However, it’s important to note that increased supply doesn’t always equate to increased quality. Buyers should remain discerning and not compromise on their criteria simply because more properties are available.

Overall, the combination of limited competition and increased supply creates a favourable environment for buyers in the Melbourne market.

 

A Resilient Rental Market

Another compelling reason to consider investing in Melbourne is the strength of its rental market. Despite some predictions of a slowdown, Melbourne’s rental market remains robust.

Median rents for houses have increased by 19 per cent since January 2023, while unit rents have risen by 17 per cent. Vacancy rates are currently around 1.5 per cent, indicating strong demand for rental properties. Historically, the rental market peaks between late January and the end of March, with vacancy rates dipping below 1 per cent. This trend is expected to continue in 2025, presenting an opportunity for investors to secure premium rents.

While some anticipate a cooling in rental markets across Australia due to increased investor lending (up approximately 35 per cent year-on-year nationally), Melbourne bucks this trend. Investors are currently favouring other capital cities, increasing rental supply in those markets. Conversely, in Melbourne, investor activity is declining due to factors like increased land tax and ownership costs. This exodus of investors is reducing the supply of rental properties, putting upward pressure on rental values.

This dynamic suggests that Melbourne’s rental market has strong potential for continued growth throughout the remainder of this year.

 

The Interest Rate Factor

Finally, let’s consider the impact of interest rates. While I’m no economist, most experts believe we are either at or very near the peak of the current interest rate cycle. With recent reductions in the US, there is a general expectation that interest rates in Australia will begin to decline sometime next year, if not sooner.

This anticipated easing of interest rate pressure could stimulate the property market. Lower interest rates generally make borrowing more affordable, encouraging buyers to enter the market and potentially driving price growth.

For investors, this presents an opportunity to enter the market before any significant upswing occurs. While a sudden surge in the market is unlikely, history has shown that once a market turns, it can quickly gain momentum. Catching up to a rapidly appreciating market can be challenging for investors, as it often involves paying premiums to secure properties.

Therefore, positioning oneself in the market before interest rates decline and the market gains momentum could be a strategic move for investors.

 

Take home message 

Melbourne’s property market is navigating a complex landscape. Policy shifts and economic uncertainty have undoubtedly dampened its recent performance. 

Yet, for those with a long-term perspective, this period may present a unique opportunity. Melbourne’s underlying fundamentals – its diverse economy, strong population growth, and enviable lifestyle – remain undeniably attractive. 

For those willing to get out in front, the current downturn presents a strong opportunity for astute investors to enter the market before the inevitable rebound. 

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