By William Shen, Director, TGC
It’s no secret that the Sydney commercial property market has been a stand-out performer in Australia for several years. Despite notoriously high prices, demand from both local and international investors has remained strong, driving capital growth. Tenant demand has also been strong, with low vacancy rates helping to generate high rental yields.
So why have Chinese investors dropped off?
Chinese buyers spent $4.4 billion on Australian commercial real estate in 2017, with Sydney attracting the most interest. This figure is a 22 per cent drop from 2016, but it’s in line with falling Chinese international investment trends in both the United States and Europe.
The major reason for the recent decline in Chinese investment has been regulatory changes in China. These changes are designed to limit China’s capital outflows and preserve the value of the yuan amid fears of an escalating trade war with the United States.
Changes to Australian legislation have also had an impact. In recent years, there has been a crackdown on foreign investment in Australia. Significant measures that have been introduced include:
- An additional 4% stamp duty for overseas buyers.
- 10% withholding tax on properties over $2 million
- A crackdown from the big four Australian banks on loans based on foreign income
But why are Chinese investors still interested in Australia?
First and foremost, the policy of state-owned land in China doesn’t offer much scope for local investment. All properties are lease-held. So, when a term expires, it’s often unclear what will happen regarding ownership. It will either be renewed at a high rental rate or taken back by the government without compensation to the occupants. Chinese property hunters are seeking long-term investments for financial stability.
Therefore, many Chinese people have significant wealth and nowhere to safely invest it locally. To get on the property ladder, investors must look overseas. The question is: where are the opportunities?
Close neighbours, Japan and South Korea, obviously make sense concerning proximity. But Australia isn’t too far away either.
The major reason for the recent decline in Chinese investment has been regulatory changes in China. These changes are designed to limit China’s capital outflows and preserve the value of the yuan amid fears of an escalating trade war with the United States.
Part of that is fuelled by strong Chinese migration. More Chinese-operated businesses are opening on Australian shores – leasing to tenants without a language or cultural barrier is usually preferable. But beyond that, Australia offers opportunity, both in terms of development and ROI potential.
Chinese buyers also prefer free-standing buildings with scope for redevelopment – something that Australia can offer, albeit in shorter supply these days. Interest rates remain low, and the growing population means that property demand consistently outweighs supply.
Commercial vs. residential property in Sydney
Sydney property prices are the source of ongoing local debate. The imbalance of supply and demand has priced many Australian buyers out of the market. The Australian dollar has also remained relatively weak in comparison to the Chinese yuan for several years. Both of these factors have provided strong incentives for Chinese investors.
Residential property is usually bought with a view to capital growth, whereas commercial property is more effective at generating cash flow. However, commercial property capital growth rates in Sydney have remained strong in 2018, while residential property values have experienced their biggest annual fall in 30 years (3.5 per cent).
Making commercial property even more attractive is the fact that a lower percentage of rental returns go towards things like council rates, repairs, maintenance and insurance. The tenant pays a larger portion of these fees, providing a higher yield for owners. Commercial property rental yields have remained solid at just under 5 per cent in 2018, while the average rental yield in the residential sector is just over 3.5 per cent.
Expanding infrastructure in the form of freeways, tunnels and rail links means that Western Sydney suburbs are hotting up for development. However, the CBD remains a strong performer in terms of demand and ROI.
What foreign investors should know
Foreign buyers are also limited to purchasing new property with permission from the Foreign Investment Review Board (FIRB). This means only new development projects, which are under construction, or those which have not been previously occupied. Existing commercial space can be purchased on the condition it has undergone extensive refurbishment. There are substantial penalties for failing to gain the required permission, or buying an off-limits, established property.
Claiming ignorance of these rules is not an option. There is very low tolerance for breaking foreign investment rules in Australia. It’s absolutely vital to have an experienced local agent with in-depth knowledge of the local market, property laws and regulations.
Foreign investors must pay tax on income and capital gains earned in Australia. However, expenses such as property management fees, maintenance and interest on mortgages can be deducted from the taxable income to reduce the amount owed.
The difference between Crown land and Torrens Title
Crown land in Australia is any property that is owned by a State or Territory government. In NSW, Crown land makes up more than half of the State. Bear in mind that Crown-leased land cannot be purchased for private investment. Instead, you should be looking for freehold title property.
It’s absolutely vital to have an experienced local agent with in-depth knowledge of the local market, property laws and regulations.
Torrens Title refers to a system where land ownership is transferred via registering the title, rather than the deeds. All Australian States and Territories utilise the Torrens Title system for various types of properties.
Under Torrens Title, you own both the property and the land on which it is built. This is in contrast to strata title, under which you own the interior of the property but have co-ownership of the exterior and shared space, and therefore shared responsibility.
Torrens Title saddles the property owner with greater responsibility and potential financial outlay. Typically, strata property is easier to sell.
The bottom line
Despite tightened restrictions, there’s still plenty of value to be found in the Sydney commercial property market. And commercial real estate remains a viable source of cash flow for Chinese investors.
The local Chinese community still place a high value on tangible assets, like property, that offer more security than paper assets and can be passed down from generation to generation. With the recent downturn in residential property, more and more Chinese investors will be looking for commercial opportunities, particularly in commercial offices and shops for which the market remains stable.
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