Property investment has proven to be one of the most successful vehicles for creating wealth in Australia. If you’re a first-time property investor, then it’s wise to consider how to prepare your finances to invest in property.
Many would-be investors dream of getting on the investment property ladder, only to find that they’re not in the financial position to invest.
They then waste time and energy getting their ducks in a row to invest. Maybe if they had the right information up front, they would have been able to start sooner.
So here is some of our advice for first-time investors:
Readying Your Deposit
In most circumstances, lenders require (at least) a 10% deposit on the purchase price.
At this level of deposit, Lenders Mortgage Insurance is required. This involves additional fees, which need to be factored in to your overall plan.
There will also be state government stamp duty and other costs to pay, which will vary depending on the state where you’re purchasing.
But let’s use 5% as a reasonable estimate of these costs.
That means on a $400,000 investment property, you’ll need a deposit of at least $60,000 (10% + 5%).
Here are the 5 most commons ways to save your deposit:
Deposit Strategy 1: Use Existing Home Equity
The most common deposit strategy for new investors is to use equity in your home.
Let’s say you buy your home for $500,000, with a mortgage of $400,000.
5 years later, your home is valued at $600,000, and the mortgage is only $350,000.
That’s a handy way to raise the necessary deposit… but what if you don’t already own property?
Deposit Strategy 2: Direct Savings
Then there are “boring” old direct savings.
If you save $1,000 per month at 3% p.a., it will take 4 years and 8 months to save $60,000.
(The problem is, the required deposit to purchase the same property will have gone up by the time you’re finished).
Saving $2,000 per month would get you there in 2 years 5 months.
$3,000 per month would see you reach your target in 1 years 8 months.
The direct savings method requires plenty of consistency and perseverance, but it can be done.
Deposit Strategy 3: Self Managed Super Fund
If you’ve been in the workforce for a number of years, then it is likely you will have accumulated a reasonable balance within super.
This balance can be used toward the purchase of an investment property, although the required deposit is likely to be a minimum of 20% and potentially closer to 30%.
Deposit Strategy 4: Parental Gift (or Loan)
If you’re lucky enough to be the recipient of a parental gift to help support your investment journey, then you’ll be able to accelerate your purchase date.
Deposit Strategy 5: Inheritance
Finally, an inheritance may contribute a lump sum which can be parlayed into investment.
Raising your deposit is one factor – the other factor to consider is how you’re going to service an investment loan.
And, how you’ll be able to prove to the banks you can do so.
Preparing To Borrow (And Service) An Investment Loan
Stability Is Key
Banks are looking for borrowers with stability.
This means stable employment and living arrangements, as well as stable financial habits.
Moving house or changing jobs a few times over a few years is nothing to worry about.
But many changes of address, or frequent periods of unemployment, may cause eyebrows to be raised.
So if you’re aiming to invest in the near future, hanging onto your job and your living arrangements is the way to go.
Pay All Debts On Time
As much as possible, pay all debts on time.
That Telstra bill you forgot about may come back to bite you if it ends up going on your credit file.
Paying loans off on schedule is a good indicator to banks that you’ll be a good risk on your investment loan as well.
These days, credit defaults are treated very seriously by loan assessors.
If you want to check out what your credit file currently looks like, www.mycreditfile.com.au is a useful (and free) service powered by credit reporting agency Equifax.
Avoid “Red Flag” Purchases
Lenders are increasingly reviewing borrowers’ bank statements to get an overview of their expenses and spending habits.
A $50 withdrawal at the ATM of a casino is nothing to worry about, but if it happens several times a week, the bank may suspect you have a gambling problem.
Higher than usual expenditure at liquor outlets or on cigarettes etc. may also create a red flag.
There’s no need to be too alarmed – just keep it sensible.
Keep Living Expenses In Check
Particularly in the 90-day period prior to seeking a loan, it is wise to keep your living expenses in check as much as possible.
Certainly, try to avoid major expenses that will put a dent in your serviceability.
Reduce Or Eliminate Consumer Debt
When lenders assess your overall ability to repay a loan, they look at your current income and expenses.
Certain types of debts such as credit card balances, car loans or personal loans may greatly reduce your borrowing capacity. So too will “Afterpay” style credit facilities.
Consider paying off existing “buy now, pay later” commitments before seeking investment finance.
If you have large credit card limits (even if you have a zero balance), then you may also want to consider shutting down some cards or reducing limits down to only what you need.
The Good News
If you’re stable and financially responsible, and keep your eyes on your long term goals, you’ll be in a solid position to invest.
Once you’ve got the capacity to invest, the next consideration is…
The Right Property Selection
There are several reasons why the right property selection is critical when starting out.
The first and most obvious reason is that you want to invest in a high-performing property that goes up in value, is tax-efficient to hold, and is as little hassle as possible to own.
If your first investment experience is unsuccessful, then you’ll be unlikely to keep going.
While owning your first investment property is a great goal, you should also know that most investors never own more than 1 property (the aforementioned article explains why)
A second consideration is that banks won’t lend at 80% against certain types of property that they perceive to be a bad risk.
Selecting a solid property, in a growth area, that is well suited to your financial situation and goals is the surest road to success.
Best of luck with your investment journey. When you’re ready, feel free to get in touch for a free Property Investment Strategy Session to help plan out your future portfolio.