Due diligence is essential when investing in serviced apartments

Since New Zealand introduced restrictions on overseas buyers purchasing residential property (OIA), commercial properties such as offices, shops and serviced apartments have undoubtedly become popular investments. Serviced apartments, in particular, have emerged as a new favourite in the property market.

Traditionally, hotels are generally owned by a single investor or a small group of investors. However, the high risks associated with hotel investment often make it difficult for operators to finance new projects, significantly affecting their ability to expand.

To reduce holding costs, hotel operators divide hotel rooms into individual units and sell them to smaller investors. These are the “serviced apartments” discussed here. As an emerging form of property investment in recent years, they represent a new property category for investors and a new source of profit growth for developers.

Most people think serviced apartments look the same as ordinary apartments and both provide accommodation, with the main difference being the length of the property tenure.

That is not actually the case!

Serviced apartments are designed and used primarily for hotel operations. For example, greater attention is paid to the design of the lobby and reception area, while room and kitchen layouts are generally simpler than in ordinary apartments.

Owners of serviced apartments retain their legal responsibilities as property owners. These include paying taxes and property levies on time and complying with property rules.

 

Unlike ordinary rental apartments, serviced apartments are leased long term to hotel operators, who manage them on the owners' behalf.

In terms of investment returns, ordinary apartments provide rental income alone, whereas hotel operators offer owners two forms of return: fixed rental income and profit sharing.

 

Generally, new serviced apartment projects offer investors guaranteed fixed rental returns for 1–2 years, followed by profit sharing.

 

Research the management company's background and credentials, and confirm that it has the relevant capability to operate a hotel. Poor management by the hotel operator will directly affect your returns.

 

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1.      Convenient management and maintenance

With a conventional apartment on a long-term tenancy, owners must rely on tenants to act responsibly and report damage promptly.

 

Otherwise, owners may only discover problems during routine inspections. By then, the damage or losses may already be substantial, as inspections are typically carried out every three or six months. 

Serviced apartments have a high turnover of hotel guests, allowing staff to enter and inspect apartments during routine services such as cleaning and changing sheets, and promptly address any repair or maintenance issues.

 

Even with long-term guests, hotel staff can notice anything unusual during regular cleaning and arrange timely repairs to minimise losses. 

2.      Apartments under professional hotel management

Your tenant is the hotel operator and its company.

In terms of tenant quality, your tenant is a professional hotel operating company. Compared with private tenants such as students or small families renting ordinary apartments, these professionals better understand how to care for and maintain your apartment.

To maintain the quality of its own offering, the hotel will also ensure that units are properly maintained and kept clean. This differs from ordinary apartment tenancies, where private tenants' expectations of maintenance vary according to their personal living habits and standards.

Hotel guests are also generally tourists or business travellers who use and treat the unit's facilities carefully, reducing everyday wear and tear. 

3.      An easier sale

With a conventional investment apartment, when you want to put it on the market, you need to consider whether to spend money renovating it first to secure a better sale price;

 

or you may be constrained by existing tenants and unable to present it at its best when you wish to sell.

Serviced apartments avoid these problems entirely. Prospective buyers can view whenever no guests are staying, and the apartment is always clean and attractive, making it easier to appeal to buyers.

Serviced apartment operators generally sign long-term management agreements with owners, usually lasting between five and ten years and including renewal provisions.

 

Management agreements prepared by different hotel operators vary considerably in their details, making thorough due diligence essential when investing in serviced apartments. The following are some points to check:

1. Understand the body corporate levies and other charges. Some operators cover body corporate levies, while others require owners to pay them.

 

2. Understand the renewal provisions and notice periods, including how many days' notice each party must give to renew as the lease approaches its end.

 

3. Check whether early termination is permitted and what costs it would incur.

 

4. Understand who owns the unit's fittings and contents, such as appliances and furniture, and who is responsible for their maintenance and repair.

 

5. Understand the refurbishment provisions. Some hotels require owners to refurbish their units when renewing, making the details particularly important.

 

6. Understand how tax affects your returns. Serviced apartments are generally GST-registered, which affects owners' income, so consult your accountant.

 

7. Also bear in mind that serviced apartment developments initially apply for resource consent primarily for commercial activities. Some projects' resource consents therefore allow units to be used only for commercial short-term accommodation, rather than as private homes.

 

Investors considering terminating the management agreement and using the apartment as their own home therefore need to understand the project's resource consent requirements.

 

 

About the author: Franklyn Young

Franklyn graduated from the University of Auckland with a Bachelor of Property. After graduating, he worked for several large property companies, managing residential and commercial properties and bodies corporate. He is currently a Business Development and Project Manager at Crockers Property Group.