Best loan Structure for Investment Property
When it comes to selecting a loan structure for an investment property, there are several factors to consider. Here are a few options to consider:
- Fixed-rate mortgage: With a fixed-rate mortgage, the interest rate stays the same throughout the term of the loan, providing predictable monthly payments. This type of loan may be a good option if you want to lock in a low interest rate and have stable monthly payments.
- Adjustable-rate mortgage: With an adjustable-rate mortgage (ARM), the interest rate may fluctuate over time, based on market conditions. This type of loan may be a good option if you expect interest rates to decrease in the future, or if you plan to sell the property within a few years.
- Interest-only loan: With an interest-only loan, you only pay the interest on the loan for a certain period of time (typically 5-10 years), before beginning to pay down the principal. This type of loan may be a good option if you want to maximize cash flow in the short term, or if you plan to sell the property before the principal payments begin.
- Balloon loan: With a balloon loan, you make lower monthly payments for a set period of time, before making a larger final payment (the “balloon payment”) to pay off the remaining balance. This type of loan may be a good option if you expect to receive a large sum of money at a later date (e.g. from the sale of another property) that you can use to make the balloon payment.
Ultimately, the best loan structure for an investment property will depend on your specific goals, financial situation, and risk tolerance. It’s always a good idea to consult with a financial advisor or mortgage professional to help you make an informed decision.
Loan Investment Structure:-
Many property investors understand that taking on debt is a normal part of owning investment properties. However, experienced investors who want to maximize their returns often seek to learn more about finance and loan structuring. They work with professionals to create a sensible borrowing strategy that can help them accelerate their potential investment returns. By doing so, they can get the best investment loan structure for their needs.
Why is structure important?
- Loan structure.
- Tax structure; and
What’s the best loan structure for an investment property?
When buying an investment property, it’s often recommended to borrow the maximum amount possible, usually up to 80% of the property’s value. This is because the interest on the debt is tax-deductible, which can help reduce your taxable income. As a general rule of thumb, accessing the maximum debt against investment properties is a good strategy to consider.
Which bank account to choose: Offset Account vs Redraw Account
Offset accounts and redraw accounts work similarly in that you make extra repayments on your loan, which you can access in the future if needed. However, when it comes to investment properties, an offset account is a better choice than a redraw account.
The reason for this is because the purpose of the debt matters. If you pay off your investment property loan and then redraw the money later for a non-investment purpose, such as a holiday, that amount is no longer tax-deductible.
An offset account, on the other hand, works differently. Extra repayments made into an offset account still offset the interest on the loan. If you withdraw some funds from the offset account for a non-investment purpose, the loan remains tax-deductible. This is because the repayment into the offset account is not considered a repayment of the loan itself, so the original loan amount remains the same.
How to secure your loan
If you own multiple properties, a lender may want to cross-secure them, which means using both properties as collateral for two separate loans. While this can make it easier to obtain a loan, it’s best to avoid cross-securing if possible.
Cross-securing two properties can make it difficult to refinance or sell one of the properties in the future. If both properties are used as collateral, any decision made on one property can have an impact on the other. This lack of flexibility can be problematic if you want to make changes to your investment portfolio later on.
How to make repayments: Principal and interest, or interest-only?
Investment property is a type of debt that generates income for you. It’s best to pay down your owner-occupied home loan first before paying down the loan on your investment property. This is because the debt on your primary residence isn’t tax-deductible, whereas the debt on your investment property is.
To minimize non-tax-deductible debt, we suggest focusing on paying the principal and interest on your home loan and making only interest payments on your investment property loan. This way, you can reduce your non-tax-deductible debt and leave the tax-deductible debt on your investment property.
In some cases, you may plan to convert your current home into an investment property in the future. In these situations, it may also make sense to structure the loan as interest-only and make extra repayments into an offset account. However, it’s always advisable to consult with a financial specialist before making any decisions.
The Deposit:-
When you apply for an investment property loan, most lenders require a minimum deposit of 10%. The size of your deposit can affect your interest rate and monthly payments.
It’s essential to calculate your income and expenses to determine how much you can afford to put down as a deposit. To make these calculations, you’ll need to research the rental market to estimate how much rent you can expect to receive from the property. This information will help you determine if the property will generate enough income to cover your expenses and provide a positive cash flow.
Flexibility:-
Choosing a loan that offers flexibility is important for future options. Look for features such as no penalties for early payments, payment options via phone or direct debit, and the ability to re-fix interest rates in the future. Consider choosing a loan that allows you to split it to suit your circumstances and future plans.
Your Tolerance for Risk:-
When choosing a loan structure, it’s important to consider your personal level of risk tolerance. If you’re a first-time property investor, it’s advisable to minimize risk as much as possible. Opting for a fixed interest rate, making larger deposits, avoiding prepayment penalties, and taking out smaller loans are all less risky loan structure attributes. However, more experienced or financially secure property investors may be able to tolerate riskier loan structures, such as interest-only loans, if the circumstances call for it. But it’s crucial to fully understand the risks involved before making a decision.
The following loan structure attributes are less risky:
- Absence of Prepayment Penalties
- Smaller Loans
- Fixed Interest Rates
- Larger Deposits
Experienced property investors or those with greater financial resources may opt for riskier loan structures, such as interest-only loans, under certain circumstances. These structures may be appropriate if you need a larger cash flow at the beginning of your loan term, but it’s important to fully understand the risks involved.
Variable Structures:-
if you opt for a variable interest rate loan, the interest rate you pay will vary with the market. This means that if interest rates drop, you will benefit from lower mortgage payments and potentially pay off your loan faster. However, as the market is unpredictable, variable-rate loans come with more risk compared to fixed-rate loans.
Customer Service:-
As a property investor, having a lender who prioritizes customer satisfaction can be crucial for your success. When looking for new investment properties, it’s important to communicate with your lender to discuss your options and find the best loan structure for your needs.
To ensure you’re working with a trustworthy lender, seek out one that is transparent and provides clear information. Don’t assume that application fees are necessary, as many competitive lenders now offer loans without them. Be sure to ask about any additional fees associated with investment property loans, including settlement fees, legal fees, or valuation fees. Avoid hidden fees by asking for a complete list upfront.
Expert Advice:-
As you have seen, the way you structure your loan can greatly impact the performance of your investment property in the future. That’s why it’s crucial to seek advice from an expert on investment properties and investing. Look for someone with extensive experience and credentials and discuss your long-term goals and immediate plans for investing in real estate.
By considering these factors, you can choose the best loan for your investment. If you want more information about our lending services, please contact Altus Financial. We are here to help you achieve your goals.
Disclaimer:
Please be aware that the information presented in this guide is intended to be accurate and informative. However, it should be noted that this guide is not a comprehensive source of information and is only intended to provide general information for property buyers and investors.
This guide should not be relied upon as legal, tax, or investment advice. If you have any legal, tax, or investment concerns or questions, it is recommended that you seek your own independent professional advice.