- ErikHMember@erikhJoin Date: 2007Post Count: 118
Hi everybody, so far I've been done more reading than posting on this forum but I would like to pick your collective thoughts and wisdom:
After years of expat work we expect to be in a position in about 5 years where we will own a portfolio of 15 or 16 properties with a market value of around $8mln and an LVR between 55% to 60% plus enough cash to either buy a family home or fund living expenses for 8 years and then finance a home with equity. My forecasts show the portfolio being cash flow neutral at the point we 'retire' and then steadily becoming more and more cash flow positive over the years. We need to fund 25yrs of living expenses until I get my pension (from overseas and I'm not sure I can access it earlier, but working on it) and we would still have school going kids (with possible future uni expenses).
So the main question is, what is the best way to access the equity to fund our living costs over those 25 yrs:
(1) sell up, all or partially, to increase to positive cash flow
(2) refinance, i.e. live off equity
I've given this quite a bit of thinking but still haven't landed it yet …
I don't like (1) as we reduce further growth, reduce our ability to weather future inflation and will incur lots of tax both on selling and on our ongoing income. But please, try to convince me otherwise!
I have done quite a bit of reading on (2) but can find very few people who actually make "living of equity" work in real life – and I mean living of equity without havin to work to generate enough income to qualify lor loans. I might consider doing some property development but I'm not sure that would really help much with a bank's view on loan servicibility.
When I run my numbers I feel it should work in almost any situation as after 5 yrs the LVR would be down to 50% and even in yrs where I need to withdraw significantly (plan is to do it in big chunks) the LVR would remain at that or below. Should be no problem … as long as I can convince the banks to refinance.
I personally don't have a problem with the concept of running up bigger loans as long as my equity moves up significantly faster – my forecasts show my annual equity withdrawal to be around 25% (capitalizing property expenses) and up to about 80% in the yrs we withdraw to fund living expenses (only 2 occurences in the 25 yrs) – that means on average an equity withdrawal of 33% with ever decreasing LVRs…
Thoughts? Comments? Advice?
If anybody knows a good financial planner who has experience in developping forecasts in this kind of scenario's I would really like to get their details – as my taxation assumptions are pretty simplistic and my model is not terribly flexible.
ErikducksterParticipant@ducksterJoin Date: 2004Post Count: 1,674
The tax implication of living on the equity is that the interest paid on the increased borrowings is not tax deductible as it is not being used for the purposes of producing income. This was covered in Australian Property Investor Magazine.
Option 1 – If you sell some of the properties with the most equity and cop the CGT tax you can pay down the other loans that are reducing your cashflow. Say you have a house worth $500,000 on a $100,000 loan and you sell it you make $400,000 profit and use the 50% cgt discount for holding the asset for >12 months . So you have $200,000 taxable Capital gain. Your marginal tax rate is probably say worst case 45% so you pay $90,000 in tax. You now have $310,000 to pay down some of your other loans to get them to a positive position.
So you pay tax on the positive income at your marginal tax rate that is probably would be 30%. (you can check the tax rates at (http://www.ato.gov.au/individuals/content.asp?doc=/Content/12333.htm). As an example say you lose $10,000 a year in negative gearing so you can only claim the marginal tax rate of say 30%. So you get your 30% or $3000 but you lose $7000 a year. Now take the scenario of being positive by $10,000 a year. Oh no you have to pay tax so $10,000 * 30% = $3000.
You have a $7000 loss with negative gearing or a $3000 loss with positive gearing. I haven't factored in the land tax you would incur if you own a lot of properties in the one state. When I say own you really only control the properties in a negatively geared situation the bank really owns them you just get to pay the land tax for the properties.
You may have less growth but the point is with negative geared you are solely relying on achieving capital growth where as if you pay down loans you become in a better financial position to be able to purchase future properties and have the passive cash flow to pay for any new loans without hampering your lifestyle.
Think about this
How many properties can you own that are positively geared?
How many can you afford to own that are negatively geared as you can only negative gear on your taxable income over $34,000 to $80,000 at 30% or $80,000 to $180,000 at 40% and at 45% for over $180,000 ? Don't forget the land tax costs !TerrywParticipant@terrywJoin Date: 2001Post Count: 16,213
I am fond of the idea of living off equity.
Whether it is better to sell or borrow would depend on your view of the future of the market i think. If you think it will be flat, then it may be better to sell. If you feel that growth will be great than the extra interest incurred, then it may be better to keep.
No Docs and even Low Doc loans are getting fewer and harder to qualify for these days which makes it hard. But will increasing rents you may be able to qualify for normal loans – many lenders allow interest etc to be added back to serviceability calculators. You may even have to get a job for a few months to qualify for a loan – and then quit. Maybe you have a family business which could assist.
Increasing loans will mean more interest, but I am sure with some creative thinking you may be able to make this tax deductible, all of it or most of it. eg. you could capitalise certain loans, borrow from a LOC to pay interest on other loans and borrow for expenses leaving more of your rental available to live on.
it would help if you had multiple structures owning the properties as it is easy for one to borrow from the other etc.
You will need a good accountant who understands tax – not many do.25NorthParticipant@25northJoin Date: 2004Post Count: 19
( From another expat )
Well done, looks like you have built a nice future for yourself and the family.
We too have been debating the cashflow versus LOE. Having built a predominently commercial property portfolio we are now 5 years away from our planned retirement date and in a quandry. Pay down the commercials and pay the tax man his 30% pa but a comfortable income ( all be it with the slightly higher risk associated with comm ) or concentrate all efforts for the next 5 years building good located residential side for capital growth and LOE.
I would like to say however that we are at present getting a LOC extension for increased equity in the residentials and the banks and their valuers are far from as accomodating as they have been in the past, well dragging their feet. Sure it will proceed but at a reduced level than we had anticipated and taking considerably longer to finalise.
NOT sure I would enjoy these periods during retirement. And I really think we are a little blessed with a healthy economy and this really is just a soft patch, thankfully I am not trying to find some retirement funds in the UK or USA.
CheersBanjoSmythParticipant@banjosmythJoin Date: 2007Post Count: 44
Congratulations a a great effort. Its most peoples dream to won a property portfolio and you have actually achieved it!!
From reading your post it seems like you answered your own question. Hold on to as many as possible and start searching for the best way to refinance. With a little outside the square thinking I'm sure you will be able to set up the loan structure that you desire.
Best of luck