Over capitalisation is used in property field to indicate when a property’s total capital costs plus land exceeds the market value it can achieve.
But what does this really mean, and what are the implications on the different parties involved in property transaction by this. The following short explanation is almost relevant on any kind of property.
In layman’s words over capitalisation is when a property owner spends excessive capital on the property including the land cost, and in the process exceeds market value by far.
Reason for capital loss is not due to poor performing markets, but the large capital spend on the property in an area that does not justify this.
Over capitalised properties are normally marketed at too high prices due to emotional connection and hence take forever to be sold at a much lower than anticipated price. The owner therefore makes a loss on his capital investment.
Buying an over capitalised property has its own risks as you are never really sure when the market will catch up with this and you might end up also not making any future profit on your investment.
This comes back to the old saying: “rather buy the smallest house in an established affluent neighbourhood, compared to buying the biggest house in an inferior neighbourhood”.