Which is worth more, 99 years or freehold?
This question is not easy to answer, as it is difficult to isolate individual causes of property value. For example, a unit with 70 years left on its lease, but is located in the Central Business District (CBD), will probably still be be worth more than a freehold unit on the outskirts of Punggol. Likewise, if a freehold property is situated closer to a MRT station, it can be hard to tell how much of the higher valuation is due its freehold nature, and how much is related to its accessibility.
Lease is just one of many factors affecting value, and it’s significance is hard to isolate
It should come as no surprise that, for the past two to three decades, analysts and investors have been arguing about the price effects of leasehold versus freehold. There are a few common conclusions that we can arrive at however:
1. Price differences occur at the 21 and 40 year mark
2. In theory, freehold fetches a better price during en-bloc
3. Leasehold is better for rental yields
4. The advantage of freehold is more theoretical than practical
1. Price differences occur at the 21 and 40 year mark
As a rule of thumb, a new freehold unit will be priced at about 10 per cent higher than a leasehold counterpart. However, leasehold units tend to show greater depreciation than freehold properties at 21 years of age, and then 40 years of age. Before that point, it’s even possible that some leasehold properties will depreciate slower than their freehold counterparts.
2. In theory, freehold fetches a better price during en-bloc
The en-bloc value of a freehold development should be higher, as the owners are giving up more. A leasehold unit near the end of its lease should be priced lower, since in a few decades the owners could end up getting nothing from it; or so goes the theory.
But if it worked that neatly, we could just compare the en-bloc price of a freehold unit and a leasehold unit, and declare “Development X is cheaper because it is leasehold”. In reality, that would be a misleading comparison.
En-bloc offers are affected by a range of factors, such as the state of the market, the zoning laws, and the amenities that have been built up. For example, if zoning laws dictate that a freehold development cannot be replaced by a condo of the same height (we believe this may be the case with Peace Mansions), then the en-bloc price may be lower despite the condo being freehold.
Likewise, it is nearby amenities – such as construction of train stations, malls, and schools – that developers factor into their en-bloc bid. If the amenities around a freehold condo don’t improve substantially, that can still translate to a lower en-bloc price.
3. Leasehold is better for rental yields
Leasehold units can be better for rental yields, by dint of simple mathematics: the rental yield is the annual rental income, divided by the total cost of the property. Lower cost, higher yield.
Also, bear in mind that rental income is unaffected by whether a condo is freehold or leasehold. A tenant will not pay any less just because a condo is on a 99-year lease.
For example, say you buy a leasehold condo that is $1 million, and generates $3,000 a month in rent. This is a rental yield of 3.6 percent.
Now say you buy a freehold counterpart, in the same area, and it costs 15 percent more. That’s $1,150,000. Now will your rental income increase? Unlikely, as it does not matter to the tenant whether you have a 99 year leasehold or a freehold. You will probably still get $3,000 in rental income.
The total rental yield is thus 3.1 percent, making it less attractive to a landlord.
This is one of the reasons landlords like to look for older leasehold properties, which may lead to lower capital to purchase, and higher yields.
4. The advantage of freehold is more theoretical than practical
When it comes to property as an investment, the difference between freehold and leasehold could be the equivalent of navel-gazing. It’s not a dispute that can be settled because (1) most of it is hypothetical, and (2) whatever you come up with, there are a thousand examples in the real world that will prove otherwise.
An investor would do better to focus on the key principles. That is, what are the prices of surrounding properties? What amenities do the URA master plan suggest, and what do the transaction records show? These issues take precedence over whether a unit is freehold or leasehold.
For home owners looking at long term stay, don’t assume freehold is necessary. Family structures and places change. Family members migrate, children move out, and you may want a change of scene 20 years from now.
There are situations where home buyers opt for freehold, and then end up moving out after 40 years anyway, as the children have left and they want to downgrade. In such a situation, they could have saved considerably more for retirement with a leasehold property.