How Can I Use Equity To Buy An Investment Property?

This is an email questions from Doug in Mount Lawley. I have a current home with plenty of equity, how can I use that equity to buy an investment property?

The first thing we will look at is, what is equity. Equity is the value of your property compared to the value of the mortgage that you owe on it. For example, if you have a property worth $500,000 and your home loan is $150,000, you have $350,000 in equity.

In Doug’s question, he has plenty of equity, as seen in the example above. He has a house worth $500,000 and a home loan of $150,000. He wants to buy an investment property in Melbourne, even though his home is in Perth. This is ok with most banks and lenders, as generally they will lend against any Australian property. He wants to buy a property for around $300,000 and also wants to borrow the associated fees, like transfer stamp duty and settlement agents fees, which will be around $17,000.

Doug has enough income to support the new loan, plus most banks and lenders will look at the proposed rental income to help support the new loan application.

As far as property value, Doug’s property was valued at $500,000 by a bank valuer. The new property purchase price was $300,000. The banks will look at the combined property value, which in this case is $500,000 plus $300,000, which equals $800,000. The banks will lend up to 80% of the combined property value without mortgage insurance. 80% of $800,000 is $640,000, so Doug can borrow up to $640,000 without mortgage insurance. Most banks and lenders will lend up to 95% of the property value for an investment property, but any loan to property value above 80% will be subject to Lenders Mortgage Insurance.

In the example above, Doug has a current mortgage of $150,000, plus wanted to borrow $317,000 to purchase the investment property (which includes borrowing the fees to purchase the property). Total loan value (in our example $467,000) against the property value ($800,000) was around 58%, so Doug wasn’t subject to mortgage insurance.

It is important to seek advice from an accountant or financial planner before you purchase an investment property. It important to get the correct structure when buying the new home, and most tax effective beneficial ways for your personal financial situation, before you purchase the property.

By structure I mean how you are going to buy the investment property. Some things to consider may include –

1/ Will you buy the investment property in joint names, with your partner, or is it more financially beneficial and tax effective to purchase the property in only one name, as one partner may not earn as much money, or maybe staying at home or working part time looking after children.

2/ You could buy the property in a trust name, non trading company name, or maybe even buy the property for your self managed super fund (some banks will lend against a property in a self managed super fund, but the interest rates are generally more expensive)

3/ Will you go interest only repayments on the investment home loan? Generally speaking, the interest on an investment home loan will become tax deductible, so your accountant may recommend interest only repayments.

It is important to get the structure correct before you purchase the investment property. Advice from your accountant or financial planner is highly recommended before you purchase the investment property, to maximize the financial benefits for your personal financial situation.

If you would like some more personal mortgage advice, to see what you can borrow, or to compare your current home loan, please contact me anytime. If you have any comments, please leave below.