Recognising the Time Value of Money

There is an important factor to consider when it comes to the selling or purchasing of property – and that’s the “time value of money”.  What does this refer to?

Simply put, it’s the fact that money available now is worth more than the same amount in the future, due to that fact that it has earning capacity.  Let’s illustrate:

If someone offers to buy your property for R 1 million with transfer in 2 months, then that would usually have a higher value to you than an identical offer from another buyer, but with transfer in 4 months.  The reason is that once you have been paid R 1 million, you can get it to work for you.  For example, you could invest the money and earn interest – in this case over R 9000 for 2 months at 5.5% interest.

Of course, not every property seller will be taking the sales proceeds and investing in a bank account.  Whatever you will be doing with the proceeds, calculate the time value of money in your particular case.  It may be that an offer you receive has more value to you than you realize.

For buyers, it’s important to realise that the converse is also true.  Take for example the situation where you purchase a property with delayed transfer.  Until transfer the funds are yours and can work for you.  To use the above example, if you were purchasing a property for cash the additional 2 months for delayed transfer would have been worth R 9000 to you.

This is especially true for development sales.  In many cases you are able to secure a property at today’s value, but only have to pay for it at a point in time in the distant future.  For example, in a development we’ve just launched called Acorn Creek, buyers are able to purchase at current market value, with transfer only expected between September and November 2017.

Let’s work the numbers out on the time value of money.  Assuming a purchase price of R 2 200 000, the fact that these funds are not paid to the developer for approximately 18 months means they continue to work for you, the purchaser.  Assuming you are paying cash, with an interest rate of 5.5%, even if you kept them in a fixed deposit, that’s over R 180 000 of value.

In addition to that, consider the escalating property value.  Based on similar properties last year the escalation was 12% per annum.  So that’s an 18% anticipated growth in the property value even before you’ve paid for it – almost R 400 000.

Now when you consider the “time value of money benefit” to you as a buyer, then that translates to almost R 580 000 of benefit by the time you actually take transfer.  I’d say that’s smart investing.  It makes sense to consider the time value of money in any investment.

 

Steve Caradoc-Davies

Principal of Harcourts Platinum, and Director of Harcourts South Africa

Email your real estate question to steve.cd@harcourts.co.za.

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