Off-plan residential transactions in Dubai for the first six months of 2018 were down 20 per cent from last year during the same period, according to GCP-Reidin. On the ready property side, sales in the first six months of the year held up well, with an increase of around about 6 per cent year-on-year.
Does this mark the end of off-plan sales and a switch back to ready units? Time will tell, but what is worth talking about is at what point in the real estate cycle this change occurs. When should the savvy investor give up on off-plan and move into the secondary market?
To answer this question, let's compare the two asset classes (as I really believe they are two separate classes within real estate), by examining the pros and cons of buying off-plan versus built and what buyers need to look out for:
Off-plan is a risky asset, which is one of the reasons you get a price discount. In Abu Dhabi, the 2015 sales law stated that each off-plan offering should come with a full prospectus, similar to those shown when investors buy riskier assets to make sure they have all the facts. There is a chance your property may not be built, may be built late or not to the specifications you expect, so be aware of your risk. The better-known developers will offer you less of a discount on market price because they are less risky - you pay more for less risk. Buying built property has its own risks but the unit is there for you to see and touch.
The off-plan market is very attractive for those investors who don’t have the 25 per cent (for expats, 20 per cent for Emiratis) deposit. It is a way of paying for your property in instalments. Beware however, if you are using the off-plan purchase solely as a savings plan, developers don’t often pay you interest on your payments. Look into saving the money in a savings plan and then buying the property once it is built, particularly if the payment plan requires a lot before completion or there is not much of a price discount given. It might be cheaper earning interest on your money. For built property you will need a pretty hefty deposit, at least 25 per cent if you are an expat.
Price for off-plan is king. As mentioned above, this is a risky asset class so to take the risk you need to be paid for it. You will also expect a discount due to the opportunity cost of your funds. The developer pays you by offering you a much better price for off-plan than you can get in the market for built. If there isn’t a discount, then don’t buy off-plan.
Again a huge draw with off-plan is not only that you are buying it at a discount to current market value but also that when it is delivered it will be worth even more, and here is where the timing matters. Off-plan properties usually take three to four years from initial launch to handover, so it is a good investment closer to the bottom of the market (but doesn’t have to be at the bottom), as if you buy near the bottom of the market the project should be delivered in a market that is already recovering. Off-plan property is not a great investment in a booming property market because these are typically near the peak, so when the project is delivered prices are on a downward trend.
You can’t easily sell off-plan property these days (they are an illiquid asset) so you have little opportunity to exit at the top, you need to hold it through to completion. So it is better to invest in off-plan when the market is bad but you can see an end in sight as opposed to when it is roaring.
Built property is better to buy at or near the bottom of the market as well, but because it is quite liquid you can keep investing in it as the recovery gets older without being too worried you will get stuck with it when the market starts to fall.
Choose your unit
One of the great things about off-plan sales is that you get to choose your unit from a wide range. You can select the type, view and floor – some developers will even let you customise it as you like. The downside is that you can’t see the finished article, so what you end up with might look very different to what you thought.
With built property you may not be able to get the exact unit you want, but you do know the general quality of what you are buying.
Opportunity cost is something not enough real estate investors understand or take into account when investing. The opportunity cost of money is basically what this money would be earning if you weren’t investing it into real estate. Chartered surveyors often use a 5 per cent return as a benchmark, as if you were putting your money in a high-interest account.
As discussed, when you make a payment on off-plan property the developer doesn’t pay you interest on that cash. Now you might think it isn’t costing you anything handing that cash over, but it does, it’s an opportunity cost. You are losing the opportunity to make 5 per cent per year on that money. That is a cost a professional investor takes into account when deciding where to allocate funds, and over three years it is 15 per cent (uncompounded). Make sure the final expected value of your investment takes into account opportunity cost, and risk before taking it.
Opportunity cost is where a built product kicks off-plan out of the park. If you buy tenanted property, then your money is “put to work” realising its earning potential and generating you a return from day one.
Ben Crompton is the managing director of Crompton Partners Estate Agents