Are you considering making an investment purchase?
If you are in a position where you are thinking about purchasing an investment property to start building your portfolio or are you looking to add to it? It is likely you will need to obtain finance with a bank/lender and proceed with a home loan application after some initial assessing of your current situation.
It is important you understand what criteria needs to be met and what things lenders look for when they consider lending you a large sum of money. Lenders are always assessing their risk when they are looking to approve a home loan application whether it be for an owner occupied loan or an investment loan, however the criteria for investment lending is much more strict. In saying that the lower the risk, the more comfortable they are about handing out the loan secured by the property purchased.
It is important that should you be in a position where you are considering making an investment purchase that you talk to an experienced mortgage broker.
What do lenders look for?
Some of the things a lender will look for when assessing your ability to borrow funds, especially with respect to investment lending is they will want to see:
- How much is the property currently renting for or if the property is not currently rented how much the property has the ability to rent for – backed up by a rental appraisal from a licensed real estate agent.
- The final value of the property usually backed up by an independent valuation report or a computer valuation ordered on behalf of the specific lender.
- The location of the property, if the property is in a rural area there is generally postcode restrictions where lenders will support a lower LVR.
- Your total LVR for the proposed home loan as this can have a part to play as you need to consider and pay LMI, and in other cases will indicate the final interest rate offered to you by the lender.
- Savings history and acceptable good conduct with money will need to be proven as the lenders want to feel comfortable in knowing you can make the repayments after settlement takes place without the fear of needing to potentially repossess your home – this is actually a costly and time consuming process for a lender to undergo.
- Your borrowing capacity, this is demonstrated by proof of your income as they rather you always be in a position to keep making repayments.
- They will stress test the income for the loan repayment at a higher interest rate after taking into consideration your other financial commitments (if any) and take into consideration monthly living expenses. At the end of the day if it falls within their risk profile, and the application is clean cut they will approve the application.
P&I vs IO
With the way of investment lending and the land of banks in which we live in today it is actually becoming far more favourable to you as the client if you take on an investment loan with Principal and Interest repayments. Traditionally when it came to making an investment purchase it was seen as the most effective way to choose an Interest Only repayment loan.
With the way of changes taking affect daily most of the lenders are offering rates to investors with some aggressive discounts on offer providing the P&I option is chosen, while there is still the option for IO repayments not all lenders allow this for all loan products and situations and not to mention the rates offered are far from being a cost effective option.
An interest only home loan is a type of home loan where you only have to make payments of the interest on the loan for a set period of time. During this time, you do not have to repay the principal on the loan like you do in a Principal and Interest loan. Interest only loans typically have a maximum period of 5 years, after which the loan reverts to principal and interest repayments based on the remaining amount over a 25 year loan term not a 30 year term. This means the monthly repayment amount will be higher.
An offset account is very much seen as a transaction account that is linked to your home loan account. Providing the balance of your account is at a positive amount, the account is offset daily against the money you owe on your home loan. This in turn reduces the amount of interest payable on the desired home loan. For example, if your loan is $400,000 and you have $100,000 in savings, using an offset account will mean you only pay interest on the outstanding home loan balance of $300,000, this action executed correctly can shave many years off your final home loan term.
Many offset accounts will need a minimum of $1000 in the account to be able to take affect and work in the manner desired, but in reality if you are able to keep a balance of at least $3,000 in the offset it will make a difference in the long term working in your benefit. To see the full potential of this, it will require you to have good discipline with your finances to ensure you don’t have the temptation to use the cash funds readily available for use should you decide to.
Some offset account tips and tricks:
- Check to see if it is a 100% offset account or partial offset account, knowing what you are agreeing to have in place will make sure you are achieving the full benefit on any money you keep in the account.
- Make sure the offset account is actually linked to your home loan in order to work at the maximum potential for you – there have been some cases where the account was set up but it was not linked to the home loan account.
- Make sure you know the fees for making use of an offset account – with many lenders it will be a monthly account fee payable or it will be included in the annual fee.
- An offset account is a cost effective option rather than keeping your cash funds in a savings account when it comes to tax time. With the funds in offset you are saving on the amount of interest payable on your home loan saving you each month however if you have a savings account in place earning interest, over the financial year will mean you may have to pay tax on the amount earned
Using an offset account can be a great strategy to reduce your home loan amount and loan term however you need to have financial discipline to make it work for you. Without financial discipline in place this will outweigh the effectiveness of the exercise.
If you are interested in an offset account and unsure whether your home loan has the ability to support this it is best to talk your mortgage broker Gerry to find out more.