TheBucket

In July 2023, we exited a 2.5-year investment in an NDIS property. The NDIS (National Disability Insurance Scheme) incentivises private real estate investors to build custom-designed homes that cater to the needs of disabled tenants. Under the scheme, each tenant contributes 50% of their disability pension toward rent, with additional government payments depending on the tenant’s needs.

Our involvement in this investment included:

• Purchasing land
• Building the property
• Registering the property for NDIS
• Appointing a property manager and leasing the property

As you may have seen in the news, the NDIS consistently spends billions more than its allocated budget each year. Since it’s a niche investment, you need to rely on a small number of specialised companies within the NDIS space. Often, these companies are linked, profiting at various stages of the process.

The Investment Breakdown:

• Land and Build Costs: X amount for a 3-bedroom house
• Projected Rental Income: If fully tenanted with high-need tenants, the expected return was 18.7% gross per year.

Concerns We Had:

1. Government Funding: Could the government pull funding from the NDIS in the future, reducing or eliminating the exceptional yields?
2. Limited Market for Resale: These homes are specifically designed for wheelchair users, meaning the pool of potential buyers is limited, restricting capital growth potential.
3. Property Management: There are very few property managers who specialise in NDIS properties, and tenants must meet specific qualifications. If the current property manager didn’t perform, finding a replacement would be challenging.
4. Limited Builders: Few builders can construct homes to the specific NDIS standards. If the property didn’t meet those standards, we wouldn’t qualify for the additional government rent contributions.
5. High Ongoing Fees:
   • 1% of the asset value as an annual management fee to the company organising the deal
   • 8% of total rent as a property management fee
   • Technology and subscription fees amounting to around $1,000 per year

Our Reasoning for Overcoming These Concerns:

Both the Australian government and the opposition had agreed to fund the NDIS for at least five years. Within that period, we expected to generate enough rental income to pay off the property.

If the NDIS were discontinued, we had several exit strategies:

1. Sell the Property to a Disabled Buyer: Given the property’s specific design, a disabled buyer could still find value in it.
2. Aging Population: As the population ages and nursing home beds become more scarce, the property could appeal to older buyers.
3. Reconditioning the Property: By converting the bathrooms and kitchen to a more traditional setup, we could market it to a broader audience.

We were introduced to a specialised NDIS Property Company that provided both a recommended builder and an NDIS property management firm. This company would then charge us an ongoing asset management fee, and their property management arm would charge PM fees. Although they didn’t disclose it, I suspected they also received a hefty referral fee from the builder. I knew these fees were outrageous, but given the high potential yields (net of around 16.2%) it would still be a great investment. I also assumed these fees would eventually decrease as NDIS investments became more common and the market matured.

Timing Was Critical

We made the investment in February 2021, just after the initial COVID wave had passed in Australia. While the Brisbane construction market was subdued at the time (due to Covid uncertainty), supply chain shortages hadn’t fully kicked in. It was an unusual time to embark on a property development project, but we saw the NDIS as a new, attractive investment class within real estate and wanted to test its viability before committing to more assets.

We tend to follow the principal “Be fearful when others are greedy and greedy when others are fearful.” This seemed like one of those moments when others were cautious, so we decided to jump in and test this asset class.

The Build

The build went largely according to plan in terms of costs and timing. The construction was delayed by about two months due to unseasonably bad weather in Brisbane, and overall project costs came in about 2% over budget. Still, the builder delivered on their promises, and the property met the NDIS specifications.

Tenanting the Property

It took around four months after completion to secure the first tenant, who was in the lowest NDIS funding tier, rather than the high-dependency tenant we were initially led to expect. This meant the rental income was far lower than the 18.7% gross yield we had anticipated.

Despite our property manager’s efforts, they couldn’t secure a second tenant, and seven months after completion, the property was still only partially occupied. My frustration grew as my calls and emails were met with little more than assurances that they were doing everything possible. Eventually, the SIL (Supported Independent Living) provider referred a tenant from another house, who was in the middle tier for government funding. While this increased the income slightly, it still fell short of the top-tier yield we were promised.

At this point, our net yield was around 7%, which, while decent, was below the level we needed to justify the investment, especially given the limited capital growth potential. Fourteen months after completion, we were still short of full occupancy. We explored other property management options but found few alternatives that looked any more capable.

Exiting the Investment

Other real estate opportunities emerged that were simpler and offered better long-term potential, so we decided to exit the NDIS investment. What we hadn’t realised when we entered the deal was that the only agents able to sell the property were the same ones who had originally sold it to us. They didn’t advertise on traditional platforms like realestate.com.au, instead focusing on reselling within their existing investor base. Despite this limitation, the property sold in about two months. We achieved 63% capital growth, with an annual Internal Rate of Return (IRR) of 27.4%.

Conclusion

While the investment ended up being excellent over the 2.5 years we held it, its future performance is questionable. The significant capital growth we experienced was largely due to the rapid increase in construction costs—around 40%—that occurred (due to Covid) shortly after our project was completed. We sold the property for roughly 10% more than what it would have cost to build a similar property at that time. For this type of an investment my thoughts are that capital growth will be tied to increase in rent to maintain a gross yield at around 11% to 12%.

In hindsight, within the real estate asset class, the simplest approach often proves the best: focus on properties in high-demand areas with limited supply and a broad potential buyer and tenant base. While these properties may be more expensive and offer lower initial yields, the long-term benefits of exceptional capital growth far outweigh the complexity and risks of niche investments like NDIS properties.