Owning your first property is a huge financial achievement. Once you have done it, you may want to buy your second property.
You could buy a second house to turn it into an investment property and grow your wealth, or you could turn your first home into a rental property, so you can buy a larger home for your growing family.
Whatever your reason, consider these issues when buying a second house. These points will help you determine if you’re ready to take on an investment property loan or second mortgage.
Knowing how long to wait to buy a second home can be a tricky topic. Usually a big factor is waiting until you’ve built up enough equity in your current home and using that as a guide.
However there are some questions you’ll need to ask yourself, and some topics to tackle before you apply for a new home loan.
If you’re thinking about buying your next home, you should ask yourself if you can reasonably afford to right now. Have you built up enough equity in your current home? Are you prepared to increase your budget to afford the home you want?
Home equity can be a powerful tool in the home-buying journey for anyone looking to purchase an investment property. Equity is the portion you own in your property, and is simply the value of your home, minus what you still owe on the home loan.
Let’s say that the current value of your home is $400,000, and you owe $200,000 to your lender. This means you have equity of $200,000 which you can use to purchase your second house while using your current home as collateral.
Equity can be a useful tool when buying an investment property, as you are essentially using that as your ‘deposit’. Depending on how much your home is worth, and how much you’ve paid into the loan, you might not be required to put any additional money down.
If you’re considering of going down this route, it is an advantage if you’ve maintained your property or done home renovations and improvements that could increase its value. This way when your lender revalues your property, you may have accrued enough equity for a deposit on your second property.
Other ways to access equity in your current home
There are several other ways to utilise the equity in your home, whether that’s for buying a second home, renovating or for other expenses.
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Line of Credit Loan: A line of credit loan is a flexible type of loan that uses your property as security against the loan. Compared to a personal loan they are generally more flexible, meaning there are no fixed terms. However, interest rates on these types of loans could be higher.
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Reverse Mortgage: Also called ‘home equity release’, this type of loan lets you access equity in your home as security for the loan, while continuing to live in it. Be sure to check the terms and interest rates, and know that these are most often reserved only for senior Australians.
Not everyone can afford two mortgages at the same time. Even if you’ve used your equity to cover the deposit on your second house, at the end of the day you’re still paying two home loans. And if you don’t have a tenant in yet, the mortgage payments could start to add up.
In addition, there are still expenses and fees you need to pay for such as repairs and maintenance, conveyancing fees, stamp duty, and much more. Having a good amount of savings can provide you with the assurance that you can afford to take care of two mortgages despite any storm you may go through.
Are you still paying off your first mortgage? If so, this could reduce your borrowing capacity.
With rising house prices comes bigger mortgages, and with interest rates likely to begin rising again in the near future, there are fears that buyers are taking on bigger mortgages than they can afford. While interest rates are at record lows right now, they will inevitably begin rising again.
Just because you can afford a mortgage at an interest rate of 2-3% will you still be able to afford repayments if interest rate were to double? Lenders will factor in your ability to repay the loan at a higher interest rate when calculating your ability to repay the loan, but you should still take the time to think about this from your end.
Your lender will also determine your borrowing capacity using information such as your credit card debts and any car loans or personal loans. Make sure that you don’t have too much debt so you can maintain your borrowing capacity.
The suitable loan product for your second home will depend on your current financial standing. There are many things to consider when it comes to choosing a home loan product such as the type of interest rate, payment frequency, loan features, and deposit. You can use our mortgage calculator to see if you can afford to take out a second loan.
Mortgage calculator
If you’re buying and selling in the same market, you should think about what your plan is. The catch-22 of whether to buy a home or sell first isn’t a new dilemma but sellers have been caught out by the rapidly booming property market and are debating whether to sell first and take advantage of strong demand and rising prices, or buy first then sell out of fear they may not be able to buy back into the market.
As mentioned earlier, there can be significant expenses associated with investment properties. For maintenance and repairs, a general rule of thumb is allocating 1% of the purchase price per year on maintenance. Another significant expense can be property management and actually setting up the investment property before tenants move in.
Once you’re an investor, too, there are generally not many stamp duty exemptions or legs up like there are for owner occupiers.
In addition, you’ll be subject to capital gains tax on any gain you make on the property. If your expenses outweigh your revenue, you can utilise what’s called negative gearing, where you can write off the expenses against your income, and reduce your tax payable.
The upfront expenses of buying an investment property often make such an investment a long-term game. It can be very difficult to ‘get rich quick’ using property.
As an investment, ideally you’d want to make some money. If your second home is to be your investment - and not to live in - this is where it’s important to do research. It’s not just about where YOU would like to live, but where is likely to generate good rental returns, and capital growth.
Free property reports can go a long way into assessing the individual property. You might also like to research the suburb, its amenities, proximity to public transport, shops and schools, and other attractions.
If you’re buying an apartment, it’s also useful looking at body corporate minutes, the sinking fund and other items to find out what you’re getting into.
Often the purchase price is just one half of the equation - body corporate fees can be a significant extra expense per year, and you’ll want to make sure the apartment building is in good working order.
Can you buy a second home with no deposit?
While you don’t technically need a deposit to purchase a second home, you’ll likely need at least 20% equity in your current home, to refinance and later unlock that equity to purchase the second home. Equity is the value of your home, minus what you still owe on the home loan, and can be thought of as your ‘deposit’.
Do I need a special loan product to release my equity?
Many different lenders offer different, or ‘specific’ loan products for equity releases, and sometimes at a higher interest rate compared with a normal home loan. However, here at loans.com.au, we have a wide range of home loan products suitable for an equity release.
If you’re ready to start your investment property journey, speak with one of our lending specialists today to talk about getting pre-approved for a home loan.
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