How To Finance An Investment Property (Ep180)
>When buying an investment property, chances are very high that you’re going to need some sort of finance. Here’s how to finance an investment property.
I’m going to look at 3 different aspects of financing an investment property and we’re going to look at:
- how to finance the deposit for your investment property
- how to finance the rest of the money that you need to pay for your investment property
- different finance structures.
How To Finance Your Deposit
So let’s start by looking at the deposit. The majority of the Australian population are going to finance the deposit for their first investment property in one of two ways, either through saving for that deposit or through leveraging against the equity in their principle place of residence (aka their home.)
In order to save for the deposit well you’ve got to scrimp and you’ve got to save in order to save enough money to buy a property. Generally that is going to be between 5 to 20% of the value of the property.
Other ways to finance your deposit would be through gifts from family or friends. It could potentially be through a loan from someone you know but in that circumstance the bank is going to recognise that it’s a loan and may not give you financing for the rest of the property.
In most cases you won’t actually be able to borrow money for your deposit on the property. In most circumstances now you actually have to prove savings to the bank, that you’ve been saving this deposit overtime in order for them to supply you with a loan. That is more the case if your deposit is under the 20% mark, if it’s over the 20% mark, most often banks will waive that.
Alright, so we’ve gotten the deposit which is somewhere between 5 to 20% plus we need money for the costs like stamp duty and things like that. Now, where do we get the rest of the money to finance our investment property?
How To Finance The Rest Of The Money
Well the best way to do it, I think is to go to a mortgage broker who has access to somewhere between 20 and 30 different lenders. A home loan is the most common way of financing the rest of the property and the home loan that you choose is completely up to you but obviously a mortgage broker can help you find that. If you want my mortgage broker to get in contact with you fill out your details here.
There are other ways that you can finance the rest of the value of the property rather than going through the traditional lender. The most common of these abstract ways of doing that is through what’s called ‘owner finance’.
Owner finance is extremely common in America and in many other countries and this is where the vendor or the person who is selling the property actually provides the finance to you, the person buying the property. So rather than going to a lender, getting the cash from them and then you now owe the lender money, and you give that cash to the person that owns the house.
The person who owns the house says “you give me the deposit and then you will owe me a certain amount and I’ll charge you interest on that and you can pay me back instead of paying the bank”. Owner finance is legal in most states in Australia but always check with your solicitor in your particular state.
So we’ve looked at how to finance an investment property from the deposit and for the rest of the money. What are some different finance structures and considerations that you need to take into account?
Finance Structures To Consider
First I want to look at interest only vs principal and interest.
Interest only is exactly what it sounds like – you simply pay the interest that the mortgage generates. This means that you’re not paying down the mortgage overtime but it also means that your interests or payments are not going down which can maximize how much you can claim against your tax returns but it also maximizes cash flow because you don’t have to put that money onto the loan as well.
And then you’ve got principal and interest which is where you pay the interest and you also pay down the loan as well. And that has the advantage that obviously your loan goes down in value overtime and eventually seizes to exist but it has the disadvantage of the fact that it sucks cash flow in the early days when you need it most and it’s not always necessarily the best tax decision. But I cannot give tax advice so always speak to a professional tax accountant before doing anything tax related.
You will also need to look at buying a property in your own name verses using a different entity or different corporate structure.
A lot of people will invest in property using family trust structures or using unit trust structures and in a lot of circumstances they’ll also set up a company which acts as the trustee and then you are a beneficiary of that trust, so profits can funnel down to you but liability remains with the trustee which is the company.
That’s one way to minimise your liability but again I can’t advise that you should or shouldn’t do that or really go into any more detail than the basics of that sort of thing. Speak to your solicitor, find a good property lawyer and they’ll be able to help you decide what to do for yourself.
When I tried to do my first property deal which actually fell through and cost me thousands of dollars, I set up a full trust structure and a company and all the accountants were saying to me at the time, “Ryan you are 21, you have absolutely nothing to your name, what are you doing spending the money doing this when you could just purchase it in your own name?” In hindsight maybe it would have been a good idea to just try and do it in my own name first and then if I actually built up the assets, then look at ways to protect them but at the time I made that decision so you need to decide what is going to be best for you.
There you have some different ideas on how to finance an investment property and also some things to think about as to how you want to structure your finance as well.