We are seeing an increase in the number of bankrupts who list shortfalls on property investments amongst their debts in their statement of affairs. In many cases the loss on the property was not the cause of the bankruptcy. That was caused by something else which in turn led to the sale of the property and the realisation of the shortfall. The investment property just added to the bankrupt’s financial woes.

We all have read about the stock market tumble during the GFC and the problems suffered by investors who relied too heavily on borrowed money – particularly margin loans – to invest. This fall was more obvious as the falling prices were easy to see, being displayed daily on a variety of news mediums. Everywhere you looked there was a story about the falling share market and suffering investors.

What was not so obvious was the same issue occurring in the investment property market. It happened slower, but the effects were there and in many cases they lead to the same results.

The property market is made up of investors, many of who borrowed significant amounts of money to purchase properties, and many who had to support that borrowing from their other income. This approach may be fine as long as the other income continues to be available to provide the support needed and, in the long term, the value of the property increases sufficiently to make it a worthwhile investment.

However a number of investors bought properties with small deposits and in some cases 100% funded by borrowings. The rentals did not cover the interest and other costs – and never would – so those investors absolutely had to rely on their other income to support the debts. The lenders knew that their debts were secured only if the value of the property stayed as it was or increased.

But over the last year or so, many areas of the property market have seen values decrease, and some lenders started to become nervous.

We are currently seeing the aftermath of this. The housing market is (by most reports) flat at best and has seen values reduce at worst. Property investments have never been very liquid but are now less liquid than before. The values have fallen over the past years so some lenders have ‘encouraged’ investors to sell. Selling in a depressed illiquid market is never optimal, and the shortfalls are evidence of this.

This is not always obvious however as there is no public market like the stock market and prices are usually not reported in the same manner or with the same frequency.

What we are seeing is the financial positions of people, who may have been able to withstand the cash outflow of supporting their ‘investments’, having to sell and realise a shortfall that they cannot meet by any other means.

Of the bankruptcy cases that we have seen, there were usually other factors that led to bankruptcy; a loss of income in the household, losses on other investments, but sometimes it was the lenders who ‘demanded’ immediate payment of the shortfalls.