Tips for first time investors: securing your finance

There’s no question the property market is getting harder to break into, especially in the major cities. House prices keep surging steadily upward and it’s a scramble to catch up. Meanwhile banks have made it harder for investors by tightening lending policies.

DPN’s Director of Finance gives some valuable tips for getting the capital to buy an investment property. What the banks look for are what I call the three C’s. That is: Credibility, Cashflow and Collateral. Let’s examine them:

Credibility

This is about painting the right picture and showing the banks that you’re a safe bet to lend money to. It’s demonstrating you have a good employment history; financial stability; a savings pattern; that you’ve lived in the same place for a fair amount of time. In essence you’re reassuring them that you’re low risk. So all records and documentation that help paint that picture are really important.

Cashflow

How much money will your investment make? How strong an asset is it? This is getting harder with the way the banks do their calculations. Banks do a stress test to see if you can afford repayments of principal and interest at a 7%-7.5% interest rate. The beauty of investment properties is that the banks take into consideration the expected rental income and tax deductions. This really helps make the property more affordable.

Collateral

This is how much you have as a deposit. This is where most first timers get stuck. The catch 22 for many is that they can’t save up a deposit fast enough as property prices keep rising. So if you don’t have the cash for a deposit, what do you do? There are a few options. The first is a family guarantee or family pledge loan. If parents or relatives have a house that’s nearly paid off and they’ve got equity in their property, they can allow the children to leverage against the equity. This allows the children to borrow the full purchase price and purchase costs. So they don’t need a deposit to get in. People using this strategy often avoid lenders mortgage insurance, a significant cost saving. If using a family pledge loan you avoid paying lenders mortgage insurance if you borrow less than 80% of the value of both properties combined.

Another way is looking at further afield than Sydney or Melbourne. There are around 8,800 property markets in Australia so that’s a lot to choose from. As long as you pick an area with strong capital growth, decent infrastructure and a growing population you can still be in a great position. So it may mean looking at buying in Queensland, or regional NSW or regional Victoria. If you can’t find a deposit for a house in Sydney or Melbourne then look for a more affordable market that will one day be red-hot. Remember that you don’t need to live in the property so that gives you a lot more scope.

Have A Crisis Management Plan

All the best strategies have an exit plan. So if it all goes horribly wrong you can get out unscathed. Think about what’s the very worst that can happen to your property, if, for example, you lose your job. Whether it’s having capital set aside or a contingency plan.  With rates being so low, it’s not hard to positively gear your investment; that means you’ll earn an income from the property that you can put aside for emergencies.

Smart Use of Tax Deductions

Another tip is if you’re on a PAYG system, you can get your tax deductions from your week-to-week wage with a tax variation form. Most people think they’ve got to wait for the end of the year and have to carry the cost. In fact you can get the deductions in your weekly wage. You can put this straight back into your loan. This reduces your holding costs. You can save about a third off the life of the loan just by running money the right way including through an offset account.

Take Advantage of All Possible Revenue Streams

Rather than talk about gearing, be it positive or negative, it’s better to think about the many different kinds of cash flow coming in from your investment property. There’s the rental yield. Then there’s the long term capital growth which is steadily adding value to the investment. Finally there’s the depreciation on the house, the wear and tear, which is factored in as a government tax deduction. All three provide good, healthy revenue streams. This is why the best kind of investment property is a high capital growth, positively geared, and ideally is a new build. The new builds are considered to depreciate the most, thus you get the highest tax deductions.