How to choose best ROI area for property investment in Tokyo?

There are many articles and blog posts related to reasons and advantages of property investment in Japan.

Today, we would like to discuss a less known but no less exciting topic –  which is the best risks/return balanced area for Property Investment (PI hereafter) in Tokyo?

In addition to this, we will introduce two PI patterns, which lead to different outcomes.
By sharing our knowledge, we want investors to be able to make a more informed decision.

Of course, investing in a property in Japan can be a complicated decision that involves significant funds. Hence, an investor wants to make sure that he is making a right choice based on a logical conclusion.
The following recommendation includes explanations of the logic behind each region’s elimination.


1. Property Investment Recommendations

 

1.1 Elimination Process

Our elimination process is based on avoiding the following risks:

a. Tachikawa fault line

b. Lowland area

c. Mokumitsu (wooden house) area

d. Within JR Yamanote Line – CBD

e. South of the JR Chuo Line



a. Tachikawa fault line




As you can see from the map above, we have eliminated the Tachikawa fault line area
The Tachikawa fault zone is an active fault zone that runs from Naguri Village, Iruma County in Saitama Prefecture through Ome City and Tachikawa City to Fuchu City in Metropolitan Tokyo. This fault causes large earthquakes in Sagami when it slips.
The national government has announced that the crustal movement caused by the Great East Japan Earthquake “may have increased the probability of an earthquake occurring” in the Tachikawa fault zone.
Therefore, if a person is considering a long-term property investment, it is better to exclude the Tachikawa fault line area.


b. Lowland area

 


Secondly, we have eliminated the Lowland area. 
As you can see on the map above, lowland area is located in the eastern region of Tokyo (east of Keihin Tohoku line). The damages, which can arise in this area if an earthquake occurs are a tsunami and soil liquefaction.
Unfortunately, it is well-known what a tsunami is and how it can cause significant damage.

As for soil liquefaction, which is also called earthquake liquefaction, we have discussed this topic in one of our previous articles. The phenomenon occurs in water-saturated unconsolidated soils affected by seismic S waves (secondary waves), which cause ground vibrations during earthquakes. It can cause critical damage spreading to hundreds of miles from the epicenter.

It was observed that many houses in Eastern Tokyo low shore area were affected by liquefaction. Hence, an earthquake can cause severe damage to a lowland area. Therefore, when considering PI, we recommend eliminating the eastern region of Tokyo.

c. Mokumitsu Area


 



The next area that is better to be cautious about is the 木密 – Mokumitsu area.  

An area that is built up with inflammable wooden houses is called “mokumitsu” in Japan.
We covered the topic related to mokumitsu and its potential damage in one of our previous articles.

The map above shows areas with high density of mokumitsu, which is recommended to avoid because of the potential risk of fire disaster.
The typical example of such calamity is Great Hanshin-Awaji Earthquake which occurred in 1995 in Kobe city. Many of the buildings damaged by this earthquake were built before 1971 when the new earthquake resistance standards were introduced.

As you can see on the map, the wooden houses are spread all over Tokyo. Hence, if one tries to exclude these lands from the list entirely, then he/she is left with a limited choice. There is a better way to decrease risks associated with inflammable wooden houses without eliminating the whole mokumitsu area.

Tokyo Metropolitan Government issued a list of high density/wooden house areas that they are planning to improve. We recommend using the record as a guide for areas that have a less mokumitsu risk in Tokyo. Link (in Japanese)  



d. Within the JR Yamanote Line


The central business district (CBD) of Tokyo is also better to avoid because of the high price and low expected return.
 It is the reason why we eliminated CBD located within JR Yamanote loop line. 

 


e. South of the JR Chuo Line





After eliminating part of Tokyo due to the potential risks and low return, next, by using the JR Chuo Line as an indication tool, we can divide the remaining space into North and South of the JR Chuo Line. 

The Southern area is considered to be more popular and consequently might have a lower return rate than the Northern. Therefore, at the end of elimination process, we found probably the best risk/return balance area, and it is located on the North of the JR Chuo Line.   




2. Investment Patterns

We would like to introduce two types of investment patterns for investors to be able to visualize the probable expenses and net return. Regardless of PI area, depending on available funds the Gross and Net return rate can differ significantly. 

We hope that these examples will be helpful for the investors to choose the best scenario and to have an idea about costs and revenues that particular PI type can lead to.

For example, if a person whos savings are approximately 50,000,000JPY wants to invest in Real Estate in Tokyo, the following are the investment patterns that she/re might want to consider.

PI patterns can be divided into two types:

1. Investment with full equity – this pattern does not involve any borrowed funds, and an investor has the total control over the investment. However, scale and choice would be limited due to insufficient funds. 2. Investment with borrowed funds – if you go with this option you might have a larger scale, higher return, and more choices. However, it is necessary to service the loan.


2.1 Investment with full equity

With the available 50,000,000 JPY, 48,000,000 JPY may be spent on the property, and 2,000,000 JPY may be the transaction expenses. With this amount, it is possible to purchase a block of wooden apartments, typically 22-25 years old with 6 units at 7% Gross return (3,360,000 JPY per year). The following allowance should be made to calculate estimated Net return on investment.

Potential Costs

Percentage on Gross Income

Budgeted Expense per Year

Allowance for Vacancy

5%

16.8万円

Property Management Fee

5%

16.8万円

Repair&Maintenance

10%

33.6万円

Property Tax

10%

33.6万円

Total

100.8万円



Expected Net return 23,520,000 JPY (4.7%) per year.



2.2 Investment with borrowed funds – low-leveraged.

With 100,000,000 JPY (50,000,000 JPY borrowed) 96,000,000 JPY may be spent on the property and 4,000,000 JPY may be the transaction fee. With this amount, you could purchase a block of wooden apartments, new with 6 units at 6.5% Gross return (6,240,000 JPY per year). The following allowance should be made to calculate estimated Net return on the investment.

Potential Costs

Percentage on Gross Income

Budgeted Expense per Year

Allowance for Vacancy

5%

31.2万円

Property Management Fee

5%

31.2万円

Repair&Maintenance

5%

31.2万円

Property Tax

10%

62.4万円

Interest on Loan

3%

150万円

Total

306万円


Expected net return 3,180,000 JPY (6.36%) per year.


2.3 Investment with borrowed funds – high-leveraged.

With 200,000,000 JPY (150,000,000 borrowed) 192,000,000 JPY may be spent on the property and 8,000,000 JPY may be transaction expenses.

With this amount, you could purchase a block of wooden apartments, new with 12 units at 6.5% Gross return (12,480,000 JPY per year).

The following allowance should be made to calculate estimated Net return on investment.

Potential Costs

Percentage on Gross Income

Budgeted Expense per Year

Allowance for Vacancy

5%

62.4万円

Property Management Fee

5%

62.4万円

Repair&Maintenance

5%

62.4万円

Property Tax

10%

124.8万円

Interest on Loan

3%

450万円

Total

762万円



Expected net return 4,860,000 JPY (9.72%) per year.


As you can see from the property investment patterns mentioned above, the expected Net return is based on the investment amount. However, the second and no less significant factor that affects the Net profit is the Property Vacancy Rate.

Basically, Net return rate depends on how many tenants do you have because they are the primary source of income.
Therefore, it might be better to go with the second type of investment, because new buildings are more attractive for the potential tenants and they cost less maintenance fee.

In conclusion, we want to say that this is an example of property investment patterns and they may differ depending on several factors.
Yet, we believe that this article gives an idea of the property investment area selection and which elements can influence the Net return rate.

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