If you are one of the middle-class Singaporeans staying in an HDB flat, I will dare say that the topic of upgrading to private property has crossed your mind at least once. 

When peers around you start to move into the private property space, it will naturally be tempting to do the same. We are hardwired to want to keep up with the Joneses.

However, I have mentioned that upgrading to private property is not for everyone in my previous posts. It requires a significant financial commitment over a long period. 

It is a big-ticket investment item that needs a considerable upfront cash commitment.

I often tell my clients that if they feel perfectly happy with their HDB flat and do not wish to carry a load of private property ownership on their shoulders, they should stay in their HDB, provided that it is still appreciating. More on that later.

So should you upgrade from an HDB flat to a Private Property?

Here are some questions to start you along.

1. Do you aspire to a better standard of living?

2. Is your current property still in the appreciation stage?

3. Do you understand the risks involved?

4. Do you have another investment plan?

5. Are you putting your CPF to work in the best possible way?

6. Do you have certainty of future income?

A better standard of living

Forget about high SES and low SES!

Staying in a condominium does not make anyone a better person than someone staying in an HDB.

It is never about keeping up to the Joneses or having bragging rights simply because you stay in a condominium. 

It is a personal preference that comes with significant effort and hard work.

If this is something that you would want to provide for your family and children, it is a good goal. Anyone who disagrees has their own set of goals and aspirations, do not let it interfere with what you want.

Is your current property still in the appreciation stage?

Properties in general, except for freehold properties, usually goes through 3 stages in their lifetime.

These three stages are:

• The Growth Stage

• The Stagnation Stage

• The Decline Stage

The Growth Stage

Properties in this stage still appreciate at a very healthy pace, usually 3% to 5% per annum.

This stage usually lasts up to 15 years and could go up to 20 years for some properties.

The Stagnation Stage

This stage usually begins when the property is around 20-30 years old.

Properties in this stage are approaching a point where the appreciation of the property has slowed or plateaued. The appreciation of the property is lower than the interest cost on the mortgage.

Another factor that accelerates properties to reach this stage is CPF accrued interest. Depending on the amount of CPF used for the property, the compounded interest might exceed the annual appreciation, which will begin to eat into the property's cash proceeds, eventually resulting in a negative sale scenario.

HDB flats on HDB loan tend to reach this stage faster as the HDB interest rate is at 2.6%, much higher than the bank loan rates at the moment, coupled with the fact that most people use only their CPF savings to finance the purchase.

 However, if you are a BTO owner, this will not apply as there will be a substantial paper gain from the purchase price when you have fulfiled your MOP.

In this stage, property owners should consider exiting out of their current property and moving to another property still in its growth stage.

The Decline Stage

This stage is when the property is depreciating.

It begins at the age of 30-40 and beyond.

Unlike other forms of investments, aged properties usually does not recover from a decline as it is a physical asset that will age and wear as time goes by. 

If your property is in this stage, get out of the property immediately to prevent further losses.

Do you understand the risks involved?

Property investment for the masses only makes sense because of the amount of leverage we can use. 

We can leverage 75% of the property's price from a financial institution as long as we can fork out the first 25%. 

Not everyone can afford a $1,000,000 property, but many can at a quarter of the price. 

But this leverage comes at a price, the price of interest. 

A $1,000,000 property could cost an additional $250,000 to own at the end of a 30 year mortgage period at just a 2% mortgage interest rate. You might argue that the current interest rate is only at 1.2%. Some banks are even offering rates as low as 1.08%. 

But get this straight, with interest rate at its all-time low, the only way it can go is up. 

Fortunately, the MAS rule states that all financial institutions have to use a medium interest rate of 3.5% to calculate the loan amount to extend to an individual for residential properties. 

This rule, together with the Total Debt Servicing Ratio rule that limits only 60% of an individual's gross income to calculate mortgage loans, significantly reduces the risk of not being able to afford the mortgage in times of a sudden interest hike. 

But even with measures like this in place, many individuals could not afford the monthly payments and applied for a delay in mortgage payments when COVID-19 struck. 

38,900 applications as of Sept 2020, to be exact.

Leveraging three times your affordability requires a solid financial background and careful planning to cater for times of crisis. 

Individuals who have the holding power to sustain through challenging times will eventually see their investment turn around when they have their money in the right properties. Those who do not will suffer during difficult times.

Having a safety buffer planned into the investment, such as a fund of 2 to 3 years mortgage payments set aside, will help deal with any unexpected circumstances. 

Mortgage reducing term loans are also good insurances to consider to protect you and your family from potentially life-changing events.

Do you have another investment plan?

Your property investment should not be the only arsenal at your disposal in your overall wealth plan.

Solid property investments can grow anywhere between 3% to 5% annually. 

There are also stellar new launch projects that can make buyers a paper gain of close to 30% over a launch weekend if demands are high. But these are rare and usually only happens to new launches in the CCR and RCR region, which is out of reach of most HDB upgraders.

You would also need to hold it for at least 3 years to avoid paying for any Seller's Stamp Duty.

At 3% to 5%, it is not difficult to find another investment to beat that growth. The same money invested in the right ETFs and REITs might give you an ROI much more than this.

If you are a stock market guru, 3% to 5% will be a laughable return.

If you have the knowledge and ability to achieve better returns on your money elsewhere, then a property investment might not be such a good investment for you.

Are you putting your CPF to work in the best possible way?

Our CPF monies in our Ordinary Account and Special Account grows at an impressive 2% and 4%, respectively. 

For the first $20,000 in the OA and $40,000 in the SA, there is even an additional 1% interest!

If left untouched, our CPF monies can grow pretty handsomely just by virtue of compounding.

However, other than using it to pay for our property purchases and limited investment choices, we can only begin to retrieve this dormant stash at retirement.

Our CPF monies can help us unlock otherwise impossible doors to property ownership. But we also have to do ourselves a favour by ensuring that our CPF monies are deployed wisely on properties that grow at a better rate than if left untouched in our OA. 

Research carefully and only enter into a property with a high chance of potentially beating the CPF accrued interest rate on the amount of CPF you deploy. Otherwise, all your gains will go back into your CPF account.

Do you have certainty of future income?

There are a lot of advertisements touting the following.

"Upgrade to a private property with a $6,000 income!"

"Upgrade and have a $100,000 of rainy day funds set aside!"

"Upgrade to a private property with potential to gain $100,000 with no stress!"

"Upgrade to a private property without using any of your savings!"

All these claims do not account for the actual circumstances of the individual. 

Let's take a look at this case, for example.

John earns $6,000 gross per month but has a monthly expense of $4,500. ( $4,800 nett income after contributing to CPF ) His nett savings per month is $300. 

With clever debt structuring, he manages to secure a 75% loan on his income. After selling his property and upgrading to a 3 bedder condominium, he has a fund of $40,000 left in cash and $100,000 in CPF savings after paying for the down payment. 

The new launch condominium takes 3 years to build, so he has to rent for 3 years. He got a rental unit at the cost of $2,000 per month for his family of 3.

His fund of $40,000 lasted him for 20 months, but he still has 16 months to rent before the new launch reaches its TOP. 

He has a separate emergency savings of $24,000, which he uses to pay for the rest of the rent but still comes up 4 months short. He used up all his savings and barely made the 4 months.

His "rainy day" fund of $100,000 is all in his CPF, and he could not use it to pay for his rent.

With all his cash savings exhausted, he could not afford any renovation of the house and decides to sell it off and downgrade it back to a resale HDB.

He cannot realise his paper gain of $100,000 as he will incur a 4% Seller's Stamp Duty as it is still within his 3rd year of ownership. 

He will also have to pay the agent a fee of 2% for selling his house. 

If he sells it off and buys another resale HDB, he will need to wait months before the completion is over and, on top of that, pay another buyer stamp duty for the HDB resale flat.

As you can see, while all the statements can be true, they can result in a financial disaster. 

Does this situation sound stress-less?

Even if everything goes smoothly and John manages to somehow come up with the money for renovations and the additional building management fee of $300 that he nows have to pay monthly, his $100,000 worth of CPF savings will last him 38 months to cover for the monthly mortgage.

He would need to start paying cash for the property at $1,400 monthly after deducting payment from his CPF contributions. 

Taking the average pay raise of 4% for Singaporeans, he would have a gross salary of close to $7,600, nett $ 6,080 monthly.

Even if his monthly expenses did not increase over 6 years, it would total up to be $6,200 with the mortgage payments included. 

Of course, this is just an overly simplified example of how things could go wrong if the entire property upgrading plan did not consider future income certainty. 

Keep in mind that property investments, especially own stay properties, usually require a holding period of 8-10 years, unless you are ok with moving between renting and owning a couple of times, which can be very disruptive. 

Conclusion

This post is part 1 of a 2 part series that discusses upgrading from an HDB to private property.

If you have a positive answer to all of the questions posted above, congratulations, you are ready to upgrade to private property!

In part 2 of this 2 part series, we will talk about the different types of property investing, the pros of investing in private property and why, despite the seemingly low ROI, is it still an excellent choice to do so.

Stay tuned next week!

If You Are Curious To Know More Before Part 2 Of The Series OR You Need Some Help To Answer Some Of This Questions, Feel Free To Reach Out To Me Here.