investment properties

Buying investment properties is still Australia’s favorite investment strategy. And rightfully so…if done right it outperforms superannuation and offers numerous advantages such as leverage and tax advantages including depreciation.

There are many factors to consider and many rules and regulations to know and even the most seasoned property investor knows, that rules, regulations and laws change from time to time and having a team of specialists who know the ins and outs  of the business is worth its weight in gold.

Why am I telling you all of this?

I am a property investor and developer and I also became a finance broker several years ago to see how the finance industry worked.

Most people do not understand how investment properties work or have not had them explained properly. Not only that if you do not understand how most investment properties come to the market or the necessity for good research into the properties to ensure that they will be a good long- term investment then you may be buying the wrong properties or buying them for more than you have to.

 

 

Number crunching…. How does it work.

The easiest to learn and most common scenario is just to use equity in your own home for a deposit and then get a separate loan for the investment property.  

 

Below is an example to illustrate how the numbers work.

 

Current house Value                                  $450,000

Current mortgage outstanding                  $270,000

If we refinance the house and get a LOC (line of credit) up to an 80% LVR (loan to value ratio. loan amount /value of property) we do not pay LMI (lenders mortgage insurance). We can however go to a higher lvr to access more equity but would have to pay lmi. There is nothing wrong with paying the lmi as it is tax deductible for this purpose.

$450,000 X 80%= $360,000

Comprising

Mortgage                                                      $270,000

LOC (Line of credit)                                    $90,000

The line of credit is important as it separates the debt so that your accountant can claim the interest payments on the line of credit against the investment property.

You have $90,000 available for an investment property deposit, legal fees and stamp duty costs.

You purchase an investment property for $320,000 with a loan at 80%lvr.

20% deposit is                         $64,000

Stamp duty varies from state to state but let’s use Victoria as an example.

Stamp duty on $320,000        $14270

Legal fees                                $2000

Subtotal                                    $78270

Left over buffer                        $11730

So, from the above example you can see how it is possible to buy an investment property easily.

How do these properties come to market?

Developers have to have huge amounts of money to build developments and most have to borrow money to do it. Lenders will want them to have so many pre-sales to give the bank some security that they will get their money back. The developers give real estate marketing companies normally about 8 weeks to sell as many as they can before losing the exclusive rights to sell them. These marketing companies reach out to all their affiliates such as accountants, other real estate agents, solicitors and finance brokers to see if they have clients who are looking to buy something. They pay them a commission for this which comes out of the money that they get for selling them. Personally, I only deal with the companies that have excellent research data and pay small commissions so that I know that my clients are getting a good property that is not overpriced. I still make ok money from it and I can sleep at night.

Because these properties are all available in a development quite often the best ones are sold at this stage. After this initial offering the remaining properties are put on the open market.

 

 

 Now let’s look at paying it off and how it will grow your wealth.

The easiest way to show this on paper is your money incoming and outgoing now and what it will look like after you add the investment property.

 

INCOMING per month. note income is after tax.

NOW                                                   WITH INVESTMENT PROPERTY

 

Income 1                        $3600                             $3600

Income 2                        $3400                             $3400

Rent                                                                        $1213

Depreciation                                                          $400

Subtotal                          $7000                             $8613

 

 

 

OUTGOING per month

NOW                                                   WITH INVESTMENT PROPERTY

Mortgage on house      $1000                             $1000

Payment on LOC                                                  $360

Mortgage on IP                                                     $1024

Rates on IP                                                            $90   

Landlord insurance IP                                          $50   

Real estate agents fees                                       $80

Subtotal                          $1000                             $2604

 

 

 

Incoming minus outgoing

NOW                                                   WITH INVESTMENT PROPERTY

$7000-$1000= $6000                       $8613-$2604=$6009

As the above example shows it is affordable and you do not have to be left out of pocket.

The reason we go to all this trouble in the first place is to have the Investment property for its capital growth. I will use an extremely conservative 4% as yearly growth to show how you are growing your wealth.

Year

1                  $332800

2                  $346112

3                  $359956

4                  $374354

5                  $389328

6                  $404902

7                  $421098

8                  $437942

9                  $455459

10                $473678

 

You can see the growth of the investment property value. Now normally after two to four years there will be enough capital growth in your home and the investment property to be able to redo the loans and pull enough equity out to get another investment property. This is the way to grow a nest egg for your retirement without having to work harder for it. Make your money work for you.

You can also do this in a self-managed super fund. Lenders interest rates are higher and you have to pay to set up the fund and the depreciation benefits are not there but when you sell a property out of a self-managed super fund there is no tax to pay.

The other important thing which a lot of people are unaware of is cross-collateralisation. In most bank contracts they have an “all monies clause” and if you deal with banks directly you may be caught out.

If you are cross-collateralised and you have an unexpected event such as injury or job loss and you are unable to pay your mortgage then the bank can sell whichever property it wants. Instead of you having any control and selling the investment property the bank can force you to sell the family home. I would always recommend a buffer of money to avoid this situation or income protection. The funny thing is that in most circumstances the investment property is paying its own way.

Basically, it is the way you structure your loans to avoid this that gives you extra protection and is easy to do. Remember the banks are there to protect their investors not you.

your individual circumstances will have a large affect on which courses of action are most viable for you, but the best course of action is not to try doing it all on your own with poor results, instead, talk to a team of specialists who can make investment properties easy, enjoyable and profitable.