When Investing in a Second-Hand Property
Points to look out for when investing in a 2nd hand property.
Demerits when comparing to a Brand New property
According to data taken in 2013 from Japan`s MLIT, the 2nd hand real estate market was only 14.7% of Japan`s entire property market. With the 2nd hand real estate market being smaller than the brand new property market a 3 reasons explained below may be the cause. However if one could counter these demerits then it would be possible to acquire and manage high yield properties.
▷ Difficult to acquire a mortgage loan
2nd hand property is more difficult to get a loan compared to brand new property, and even if one gets a loan it may only be for a short term in most cases. Although the loan terms differ with each bank, a standard “Investment Loan” is calculated with the value of the property. 2nd hand property has the disadvantage when compared with new property that ideally has the higher value due to building age, new equipment and better facilities. However since the loan amount also differs depending on the applicants` salary and assets, a doctor or high net worth individual for instance can acquire a loan that does not solely depend on the property`s valuation.
The loan period is also connected with the Statutory Legal Property Life Span. For instance an RC (reinforced concrete) property that is 40 years old can only get a loan period of 7 years. The same loan period would apply to a wooden structure that is already 15 years old. A short loan period could pose great damage to the initially estimated cash flow.
▷ Risk of repair or hidden costs
The older the property, the high percent that there could be “hidden” costs or repair work needed. For example even if the property looks good on the outside, there may be a risk of termites, or the structure within the walls could be rusted and deteriorated. It is hard to fully re-inspect a property and you will have to accept it “as is” which may pose a risk for further repair costs in the future.
If a defect arises after purchase you may be able to terminate the contract, or claim compensation for damages, which is the warranty or responsibility of seller against such defects. According to the “Housing Quality Assurance Act ※”, new property is usually warranted for 10 years after purchase. With new property this warranty differs with each property and can be changed per contract, also can be dismissed. Most sellers of 2nd hand property are individuals so even if you claim compensation for such cased, there is no guarantee that the seller can pay the compensation. This is a reason why the 2nd hand property would have more “hidden” costs compared to a brand new property.
However, the higher the repair cost risk is, is usually why the property price is cheap. If one wants to focus on the profitability or perhaps can do the repair work by themselves then this kind of property could be a choice. In addition it is rare for the monthly rental amount of a 2nd hand property to decrease, meaning it would be easier to maintain a high yield.
When compared to brand new property, it is harder to determine flaws and hidden defects of a 2nd hand property just by looking at it, and another downfall is the short period that you could claim compensation for defects to the seller. On the other side though prices are cheap and yields are much higher.
※Housing Quality Assurance Act: is an act to up-hold the quality of real estate and at the same time ensure a safe purchase for real estate buyers. Reference in English:
▷ Usually no Tax benefits
2 main taxes when investing in Japan are Property Acquisition Tax (不動産取得税) that you pay one time after handover of property, and Property Tax（固定資産税） which is a combination of Property Tax（固定資産税）and City Planning Tax（都市計画税）that an owner pays once a year.
Property Acquisition Tax is billed to the owner within 6 months of the property handover date and is only paid 1 time per acquisition. The tax amount is a flat tax rate (3% if purchase before March 31, 2018) that is calculated with the Property Tax Value. With brand new property, if you purchase a property with intention to lease out that is more than 40 sqm (430 sqft), you can deduct JPY 2,000,000 from the property`s value amount. In the best case scenario your Property Acquisition Tax may be 0.
Although Property Tax and City Planning Tax differs with each city/prefecture, it usually 1.4% for the Property Tax and 0 ~0.3% for the City Planning Tax. With brand new property the tax amount is deducted in half for 3 ~ 5 years (depending on structure).
With 2nd hand property there are some tax deductions such as Earthquake Resistant construction, renovating the property to be “barrier-free”, and etc, but with new property you could receive tax benefits just from the size of the property.
Tax is an expense when looking at the cash flow so there is nothing wrong with gaining as much tax benefits as possible. A tax benefit that 2nd hand property could provide an investor is filing high Depreciation Costs in a short term and lowering taxes. Let`s take an RC condo that costs JPY 100,000,000 for example. If it is brand new then the depreciation on the first year would be about JPY 2,130,000 ( when the Statutory Real Estate Life Span is calculated at 47 years), however if the same property is 30 years old then it would be about JPY 5,000,000 ( calculated with 20 years remaining from the Statutory Real Estate Life Span).
※Tax laws may change in the future and this information is based on current tax rates. It is best to talk to a tax specialist or accountant to maximize your cash flow/ tax relief before your property purchase.
△ There are merits for second-hand property
Asset valuations for 2nd hand property are usually lower than brand new property which makes loan evaluations more difficult. In addition there may be risks of “hidden” costs. However on the other side of the equation, if you can override these risks you can acquire and own a high yield property. Brand new property may have tax benefits regarding Property Acquisition and Property Tax, but 2nd hand property has the benefit of lowering taxes with depreciation costs in a short term, which in turn maximizes your net yield. These factors may help you to understand investing in Japanese property on a higher level.
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