Using equity to purchase my second property

Hi All,

Hoping someone might be able to point me to another thread (given my search failed me) or assist with my query.

I am 20 and have recently purchased my first property with the assistance of the FHOG. My property is in my name however has been purchased for my mother and step dad and they will be taking primary residence in the property. I will be living there as well however they undertake all mortgage payments / rates etc. Eventually after 6 months I plan to set this property up as an Investment Property with the understanding that I will be able to claim it as an income and receive the tax benefits.

The property was purchased at $430,000 with a $40,000 deposit (inc FHOG). The property is currently valued at ~$550,000 and we have further work planned on the property. Basically I don't plan on staying the property to much longer and would like to use the equity in the property to purchase a second property for myself to live in.

People have told me this is possible but I was hoping for some more information on how I can go about doing this?

Any help, comments, suggestion or issues you can possibly see with this would be appreciated!!

Thanks :).
 Ben

Hi Ben,

A couple of things to consider:

1. What is your current income, and what total loan amount do you think the bank will allow you for the next property? This can be determined by simply asking the banks or mortgage brokers.

2. The bank may not consider the value of the property to be the same as your estimate - Make sure you have some comparable sales for properties in the area, and provide these to the bank when you apply for the new loan. This will determine the equity you have for the next place.

3. As you presumably do not have much additional cash at the moment (because you put a fair amount into the first purchase), you will most likely need to borrow over 80% of the purchase price of the next property. Make sure you include Lenders Mortgage Insurance as a cost in your calculations when looking at the next property.

4. Unless you are on a substantial salary, the tax concessions for the property you already own may not be that significant. This means that the property you already have is likely to be negatively geared, and may make it difficult to purchase another one - Make sure you do all the calculations for the monthly costs against your current income to make sure you don't overextend yourself with your next purchase.

I don't mean to be discouraging, and I think its greated that you have purchased a property early in life, but I also think it is important to know what the potential speed bumps will be along the way.

Let us know your thoughts as you progress with the idea.

Regards,
Steve.

Regards,
YI

"Knowledge is Power"

Hi Steve,

Thanks for your response.

1. What is your current income, and what total loan amount do you think the bank will allow you for the next property? This can be determined by simply asking the banks or mortgage brokers.

Something I will defiantly be doing is organizing to speak with a mortgage broker

I am currently on an income of $50,000pa. I am looking to buy a inner city apartment for my next purchase somewhere around $280,000 - $350,000.

2. The bank may not consider the value of the property to be the same as your estimate - Make sure you have some comparable sales for properties in the area, and provide these to the bank when you apply for the new loan. This will determine the equity you have for the next place.

The property was valued by a local real estate agent and getting it valued by the bank is something we are looking to do sometime in the next few weeks. Once this is done I will have a better figure but going by the advice from our agent we are expecting ~$550,000.....other houses in the area / street are selling in the high 500,000 low 600,000s.

3. As you presumably do not have much additional cash at the moment (because you put a fair amount into the first purchase), you will most likely need to borrow over 80% of the purchase price of the next property. Make sure you include Lenders Mortgage Insurance as a cost in your calculations when looking at the next property.

Assuming I am able to obtain ~$100,000 in equity on my first property to buy a property for $350,000 would require say a 25% deposit so say $87,500. From my understanding Lenders Mortgage Insurance would not be required then as i would only be borrowing 75% (please correct me if I am wrong here)???

4. Unless you are on a substantial salary, the tax concessions for the property you already own may not be that significant. This means that the property you already have is likely to be negatively geared, and may make it difficult to purchase another one - Make sure you do all the calculations for the monthly costs against your current income to make sure you don't overextend yourself with your next purchase.

I discussed the tax benefit approach with my accountant last week and he seemed to think that it would be possible, I will have another talk with him and see that he thinks.

Are there any limitations to using the equity in a property (i.e. If i moved in today and had it valued tomorrow could i use the equity there and then or are you require to live in the property for 6 months??) Also I am getting a lease agreement drawn up for my mother for the tax purposes (as advised by my accountant)....could this be used to help obtain a loan with the bank (by showing another source of income) and if so are there any time limitations to this?

Thanks again and please forgive me if I am completely wrong in any of the above but I guess that is why I am here, to learn!

Hi mason.

I think the biggest limitation you will have will be being able to borrow the amount you require based on your total income.

Even if we assume that your mum will pay you $400 per week, this extr $20k on top of your existing $50k (all pre-tax of course), may not be sufficient for total loans of say $700k.

If you use the current affordability rate of 8.25% (most banks will use a similar rate), then you will have interest expense of $57k per annum. This is probably going to be too tight for most banks to be comfortable.

Having said all of that, the brokers and other experts around the place may have some other ideas, so I am happy to be corrected...

Regards,
YI

"Knowledge is Power"

No Steve is correct even adding back the negative gearing deduction on the interest into the equasion your income is is going to be a barrier to moving forward and purchasing again.

Whilst some lenders are using 8.25% as their serviceability rate a couple of the Big 4 are using 8.91% or thereabouts and this will dramatically reduce the amount you can borrow.

I think the exercise will be harder than you initially think and will need a little massaging from a good Broker.

There are still some lenders who take only the actual repayment and not a sensitised rate into consideration so using 2 separate lenders maybe the way to go forward.

Richard Taylor - richard@tayloredfinancialsolutions.com.au Tel: 07 3720 1888
Residential Mortgage Broker providing structured home loan advice for investors and owner occupiers all over Australia.
Thinking of buying your next investment property using a SMSF. Email me for a copy of my SMSF EBook.

Thanks guys, I will speak with my Accountant and Broker and let you know what they think / plan to do for my second property. My broker was aware that I would be looking to buy a second property since we started planning for the first and seems to think it will be possible.

Appreciate your comments and suggestions!!

Regards,
Ben

servicebility is the most important...
and never trust about realestate agent valuation...

Hi Guys,

Im 21 and new to this thread/site and property investing. I have about $1650 in loan repayments monthly. I have an IP that is currently negatively geared at around $400 p/m. I purchased the prop to subdivide and build in the backyard. I'm not 100% sure how much it will cost to build a townhouse or unit (hopefully someone can help me with a price range - not a mansion - not a shed). Gaining the extra title in the backyard should give me between $120-$140k in equity. Can I use $100k in equity and obviously another $100k as a mortgage to construct the dwelling which would then become cashflow positive? Obviously it depends on finance and my salary. The loan would probably only be around $600p/m for $100k (guestimate).

Salary = $46000
Negatively geared prop = $400p/m approx.
Construction = $200k : Equity $100k + Loan $100k.
No other expenses.

I dont know if thats enough info. Any advice or help would be very much appreciated.

Thankyou.

Sasha

Firstly if you work on around $1200 / square metre for a simple townhouse you wont be a million miles away.

I understand what you are saying about your equity but it doesnt work that way.

Assume it costs $200K to build you will still need to borrow and show serviceability of $200K irrespective of the equity derived from building the new dwelling.

Depending on the numbers you might find things are a wee bit tight.

Richard Taylor - richard@tayloredfinancialsolutions.com.au Tel: 07 3720 1888
Residential Mortgage Broker providing structured home loan advice for investors and owner occupiers all over Australia.
Thinking of buying your next investment property using a SMSF. Email me for a copy of my SMSF EBook.

Richard,

I have been reading your posts in other threads - they are very helpful and provide great info. So basically your saying that even with equity gained, i still have to be able to service the full $200k loan? I cant use equity gained as a deposit therefore only needing to borrow less?

Im a little confused as i have read some of the other threads about equity being used to purchase second IP. Is this totally different if your constructing as I wouldnt be receiving a rental income?

Thanks for your time

Yes i think you have misunderstood the whole concept of equity.

Sure you can borrow against but still need to show sufficient income to cover both the new and old loans.

Richard Taylor - richard@tayloredfinancialsolutions.com.au Tel: 07 3720 1888
Residential Mortgage Broker providing structured home loan advice for investors and owner occupiers all over Australia.
Thinking of buying your next investment property using a SMSF. Email me for a copy of my SMSF EBook.

Re what Richard is telling you - using equity is not a free deposit.  Think of it as a second loan which will attract interest and have to be repaid.

http://wiki.answers.com/Q/How_do_you_repay_borrowed_home_equity

Even if it would then be cashflow positive after completion?

Would it be possible to build a 3 bed 2 bath unit in a backyard if a prop was negatively geared $400p/m on a 46k salary + overtime work every week $600-800 p/m (payslips to prove)?
 
How then can you use equity to purchase second properties or build in backyards?

Sorry to sound like an absolute noob but i'm really confused.

Thanks

Sasha

No problem at all it is difficult to get to grasp with but once you do it will seem obvious.

The security is neither here nor there it is the total loan that you need to consider.

If you borrow $200K for investment and the security offered is a motor bike then the interest would still be deductible due to the purpose of the loan. Whilst you would have no borrowing on the new property and if fact would have $200K + equity you would still have a loan of $200K elsewhere.

Remember the property will be new and you will be able to claim both Capital Allowance and Depreciation both of which are non cash deduction at your marginal tax rate.

Secondly you are getting the land for free so have inbuilt equity from day 1.

Also 200K sounds very expensive for a freestanding Townhouse.

Richard Taylor - richard@tayloredfinancialsolutions.com.au Tel: 07 3720 1888
Residential Mortgage Broker providing structured home loan advice for investors and owner occupiers all over Australia.
Thinking of buying your next investment property using a SMSF. Email me for a copy of my SMSF EBook.

I may start this as another post but affordability rates are quite high at the moment.  Are they likely to come down anytime soon? 

If you have a crystal ball, we'd love to know the answer to that too!

A quote you will read in many books is that it is time in the market that matters, not timing.  In other words, buy as soon as you possibly can, and hang on to your properties.

Jac I think you may have got confused or I did not pose my post correctly.  I meant Banks Affordability Rates \ Calculations.

True, though the same rule applies really

Richard,

Ok so I understand i would have to service the new loan for whatever amount. And may or may not be possible with my current salaray.

Im still not sure how gaining the extra land in the backyard can be used to my  advantage. So your saying that the equity gained cant be used as cash. I still have to prove and be able to service the new loan aswell as the existing.

What im trying to get at is: do you think it would be possible to be able to fund such a project based on my figures- and if any equity gained can somehow help??

Thanks again. How long did it take you to get to where you - over 30 cashflow positive properties? And you can live off the positive cashflow?

sasha

Yes hate to say you do need to service the new loan.

Started purchasing here in Brisbane circa 1994/95 and took about  5-7 years for some and around10-12 years for other  to get them all +cash flow although i did start with a decent deposit coming from the UK when the pound was strong.

Yes I could live very very well off the rent as i have a very low lvr.

Richard Taylor - richard@tayloredfinancialsolutions.com.au Tel: 07 3720 1888
Residential Mortgage Broker providing structured home loan advice for investors and owner occupiers all over Australia.
Thinking of buying your next investment property using a SMSF. Email me for a copy of my SMSF EBook.

Richard,

Sounds pretty good. Would you say $160-$170k is a reasonable amount to construct a unit/townhouse in Melbourne. Hopefully I could service that.

Still dont understand when equity can be used to help with additional properties.