Purchasing a home to live in is a little bit different to purchasing an investment property. When you’re looking at home loans, you’ll quickly see differences in the products offered.
On the latest Dollars With Sense TV Show (Airing Mondays at 6:30 Channel 31, Facebook and Youtube) we interviewed Finance Specialist Tabatha Lee to find out more.
Home Deposits and Equity:
Lee explains that for people buying a home, most lenders look for evidence of genuine savings of around 3-5%. This means if you are looking at buying a $500,000 home , the bank is looking for genuine saving of $15-25,000.
Genuine savings is a way for the lender to verify the character of the proposed borrower. A borrower who has committed to saving is a much better bet than someone who hasn’t at all.
For an investment property however, lenders look for you to have 10% Equity. They aren’t looking so much for your genuine savings but for equity that can be used as a deposit.
Equity is what’s available, whether it’s money in the bank, an offset account where they have equity. Equity is basically any liquidity that the bank can use. Equity can come from shares as well, but much of the time this equity will come from an existing property.
Simply, if you have an owner occupier house valued at $500,000 and you have $300,000 remaining on the loan, then you actually have $200,000 worth of equity.
This $200,000 that can be used to meet this 10% equity criteria for an investment property purchase.
The rates are different.
Home loans vary greatly depending on the purpose of your purchase: Are you buying a home to live in or purchasing an investment property so that you can have a financially stress-free retirement?
In days gone by the differences between owner-occupier (home) and investment property rates were little, with lenders regarding a home loan and investment loan as both as having the same risk.
These days however, APRA has had a 10% cap on new investor lending since 2014. Meaning only 1 in 10 new home loans can be for investment purposes.
As a way of reducing the percentage of home loans going to investors, lenders (banks etc) have increased the interest rates of investment property loans, resulting in a significant gap between to two.
An example to illustrate
For example, the Bank of Sydney currently have a Basic Home Loan product with a 3.3% variable rate.
Whereas a similar investment product with Citibank in their Basic Mortgage Investment product has a 3.64% variable rate.
This difference of 0.34% really adds up over the course of your loan.
You’ll actually end up paying : $34,094 more over the course of the 30 year term.
So, investment loans have higher repayments. However, this example assumes that the investment purchases chooses a Principal and Interest type loan which may not be the case. Keen investors will often decide on an Interest Only loan to gain attractive negative gearing advantages.
If the 3.64% Citibank product was interest-only this would reduce payments by: $767.81 per month compared to the Principal & Interest Product
The advantage of interest-only loans
In our interview, Lee explained to viewers that property may be thought of as an income producing asset, meaning that any income (rental income) is taxed by the Australian Tax Office (ATO). This means that any expenses incurred while generating this income are tax deductible. This is very attractive for many investors.
Over time, your taxable property income will begin exceeding tax deductions as the markets fluctuate. Until then, you will benefit from huge tax savings. Here’s how it works:
Let’s assume you have a property renting for A$380 weekly with tenants all year round, which means you have an annual profit of A$19,760. However, your overall expenses are at $30,000, giving you a total net rental loss of A$10,240.
Now, if you have a net taxable income of A$75,000 for that property, your rental loss might be A$10,240 multiplied by 0.30 – or 30%. That’s A$3,072 that will contribute towards all your expenses. Remember, you can claim any expense related to your property.
Anyone can borrow money to buy a property and benefit from negative gearing. If you’re planning to buy a property and use rent income to pay for its maintenance, it pays to know about the pros and cons of negative gearing.
At Dollars With Sense we can take the guesswork out of investing.
Research and having the right people to help you are the keys when investing in property
It definitely pays to do your homework on the property market before you dive in, and we’re thrilled to be on board to help you when it comes to financing your decision. Recent share market slides, tight rental markets in most capital cities and a whiff of increase in property prices are seeing many mum and dad investors retreat to bricks and mortar.
Generally, property in Australia is still considered to be a sound investment due to steady and consistent increases over time.
But it’s not a quick win. Property usually has a seven to ten year cycle, with highs, lows and steady stints in between.
Fortunately, an ongoing housing shortage in Australia and a tax system that allows negative gearing on property (where any investment losses can be claimed as tax deductions) continue to favour housing as a solid, long-term investment.
But credit has tightened in the wake of the Global Financial Crisis so lenders are more cautious about who borrows and for what. We are here to help find the right lender and loan for your circumstances in this new environment. We can also wade through the many investment loan options on offer, leaving you more time to find the ideal property.