Interest rates and increases in property values
House prices can be quite substantial; so many people seeking to acquire properties, borrow funds and subsequently pay interest. Hence it is important to consider interest rates in property decisions.
Assume you or your family owned a house whose price in 2016 was $1 million and the increase in that house price to 2017 was 10%.
What would be the value of the house price in 2017? It would be $1,100,000.
But, does this mean that you have $100,000 more in your pocket than you had last year?
How much interest would you have paid if you had an $800,000 borrowing on the $1 million house if you or your family were required to pay 5% interest on the borrowed funds?
In short, you borrowed $800,000 at 5% interest: 5% of $800,000 is $40,000.
So, after paying your interest costs on the borrowings, your capital gain has been reduced: $100,000 - $40,000 = $60,000.
Are there any other costs in actually “realising” the $100,000?
Yes! There are several other costs associated with buying and selling properties, such as buying costs (eg stamp duty) or selling costs (eg paying the real estate agent).
Reflect on the following:
How much might an Estate Agent charge for selling a property in your country? What is the typical range of interest rates for house loans in your country? How much would you or your family’s wealth/ capital gain have increased for a one million dollar property by assuming these interest costs and Estate Agents costs?
On the other hand, explain what would have happened if house prices had actually fallen by 10% in nominal terms?
Is your personal glossary progressing? Are there any terms that you are finding difficult to understand? Remember a good starting point to understand terms is the Georgia Appraiser, or ask your fellow students here.
Share your experiences in the Comments area. Remember to also read what others have posted. Use the “Like” and “Follow” links to let other students know that you agree with their comments.
© Deakin University