The pros and cons of investing in defence housing

Long-term leases and reliable rental income versus high property management fees and low capital growth. These are just some of the pros and cons of defence housing.

Defence housing is a residential property investment offered by Defence Housing Australia (DHA), the federal government service that provides homes to members of the Australian Defence Force.

Most (about 70%) of defence housing is owned by property investors who enter long-term leases and property care arrangements with DHA. As at July 28, there were 12,600 homes owned by private investors and about 3700 owned by DHA.

How to invest

There are three ways to make an investment in defence housing:

- Buy a property built by DHA and lease it back to them (for six, nine or 12 years). Before buying you must register with DHA and supply evidence of a loan pre-approval from your bank or mortgage broker, or provide evidence that you have enough money to buy the property. Some DHA properties are sold by a ballot and you will be notified if this is the case.

- Lease a property to DHA (for three to six years). Again you'll have to register and provide specifics of your property location and its features. DHA says the nature and number of properties required change from time to time, so it's worth checking with them regularly (see table below).

- Buy a property from another investor that is already leased to DHA. It's important to note you will pick up the lease that's in place and be subject to its existing terms and conditions.

DHA says you can invest in more than one property and most of its investors are not defence personnel. You can also invest through your self-managed super fund (SMSF).

While the investment options are set in stone for now, DHA told Money that it's investigating "new and innovative ways to source suitable properties" and in the not-too-distant future there could be opportunities to invest in larger-scale developments.

"One approach we are beginning to explore is 'Property as a Service', says a DHA spokesperson. "Property as a Service might see DHA access housing via multi-year contracts with an organisation (for example, builders, banks, super funds, fractional investors, real estate agency, or consortia) to supply a number of properties in various locations. It encompasses full maintenance arrangements, under which the property supplier is responsible for maintaining them to required standards over the term of the contract."

Know what you're in for

Defence housing often polarises property professionals so it's important to balance the white noise against the merits of such an investment.

The main sticking point with defence housing and the professional investors is the age-old argument between yield and capital growth. Defence housing is seen as more of a higher-yield strategy while regular residential property investments are aligned with capital growth.

Jarrod McCabe, director at Wakelin Property Advisory, says high-yielding property assets tend to have a lot more value in the improvements, while high-capital-growth assets tend to have strong land values as well as points of difference from neighbouring properties.

He says he is typically more focused on growth. For example, it could be a period style of property - whether it's a single-fronted cottage or terrace house within a five- to 10-kilometre radius of a city's CBD - or an older-style boutique-type block that might have 10 to 20 apartments inside a complex with no lift, pool or gym.

"Another type of asset class is a villa unit that's got a pretty strong underlying land value in a middle-ring-type suburb, but again there might be two to eight units on the site and they've got a significant land holding to other properties," says McCabe.

If you're thinking of investing in defence housing, as with any investment it's important to choose wisely and seek financial advice. McCabe says if you are going to buy defence housing, you need to find somewhere with an ongoing likelihood of strong rental demand.

"At some point in time the lease with DHA will expire. They might choose to take up another lease or they might say they're finished," he says.

That last point should form part of your considerations when it comes to an exit strategy from defence housing. If you're prepared to hold onto the home as an investment, it would good to have demand other than the defence force, says McCabe.

"You want a property that has multi-faceted demand, both from a rental perspective and from a resale point of view. Choosing the location and choosing the type of property that's going to meet that brief is really important."

He adds that you must also understand the true cost of the investment. This is particularly the case when you weigh up the defence housing management fee (16.5%), but also the opportunity costs you may be forgoing by focusing on a yield.

As an owner you don't have to worry about some of the repairs and make good after each tenant, because that's what defence housing does for you. It eliminates some of the headaches you'd have if you self-managed the property.

"That's what the 16.5% covers," says McCabe.

He also warns about selling if you've got a DHA tenant in place.

If you're mid-way or towards the end of the lease, it may not be all that attractive for people interested in DHA properties because it might not provide the security they want. Then if the lease has a long way to go, people might say, "Well, let's just buy a new one."

"If there's a fixed-term lease in place, you're ruling out potential owner-occupiers that you could sell the property to once the DHA lease has concluded. Try to allow the lease to expire so there's a degree of flexibility in the sale process," he says.

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