How much deposit should I look to save?
With low deposit property loans available from some lenders, it’s unsurprising that many first timers, particularly those without equity from a property behind them, are looking to get onto the ladder as quickly as possible.
With Lenders Mortgage Insurance generally payable on LVRs (Loan to Value Ratio) higher than 80%, it’s worth considering how this affects you longer term.
Remember, it’s not just the deposit you need to stump up for – it’s all your other ongoing costs; building and pest inspection fees, stamp duty and conveyancing fees. Your deposit should be considered as separate from these costs.
You may also want to consider building in a “buffer” to your deposit, so that if the market does move, you aren’t left in a position where you have more debt than the property is valued at. Putting the bare minimum amount of funds into the home loan isn’t necessarily a good idea.
How much the bank will lend you, on the other hand, is a different question entirely. There are a number of serviceability calculators online, however you also need to determine what counts as prudent.
What to know about LMI
Some consider Lenders Mortgage Insurance, or LMI, a “necessary evil” to get into the property market. This insurance covers the lender, not the buyer, in case you default on your loan. Those with less than a 20% deposit are considered at higher risk of defaulting on the loan, and therefore are generally required to pay LMI.
Usually, LMI is a one off payment by purchasers borrowing more than 80% of the purchase price of a property.
However, while some consider it to be yet another cost they are required to pay, it can actually be a valuable tool that can help you achieve your goals sooner.
“Consider the comment I often hear from property investors: “Why would you want to incur an extra cost?” As a result, most try to avoid paying mortgage insurance, which they view as an impost by the lender,” explains Albertus Waldron, finance strategist and partner at Chan & Naylor.
“What some investors fail to recognise is that in some instances it can be a very valuable tool that gives them more leverage and enables them to grow their asset base faster.”
This is especially the case in a market that is moving faster than you are saving.
Waldron explains that “because the frequency of defaults can vary depending on the lender, it is also worth noting that the amount charged can vary significantly from lender to lender, even given the same loan-to-value ratio, so it can pay to shop around”.
For those with pre-existing equity
If you are a home owner purchasing your first investment property, you may find that your home has increased enough in value to be able to refinance your home loan and use the funds to purchase your investment, while keeping your home. Discuss this option with your lender to see if this would suit your personal circumstances.
Essentially, you’re using your equity in your existing property to put a deposit onto your investment purchase. For those who have owned their home for a while in a growing market, while paying down the interest and the principal, it make sense that a substantial amount of equity may be available.
Remember that some lenders require you to keep a buffer of around 20% of the equity in your home, so it’s unlikely you can use all of the equity in your property.
Using the equity may leave you cross-collateralising. Essentially, this is where the lender has a title over your home and the investment property, and depending on the equity you have in your own home you may not have to put a physical cent down anywhere. If you default on your investment property, you do run the risk of losing your home in this situation.
Lenders also have the capacity to begin dictating terms that you are not comfortable with if your situation changes.
One benefit of cross-collateralisation is that you will not necessarily have to pay LMI.
The other option is to get separate loans for each property using your equity. This fully separates your properties, may require no physical money be paid and allows you to only access the equity you need to cover the deposit and costs as a top-up loan or line of credit.
What you end up with in terms of deposits is a range of scenarios, each suited to different buyers. If you are unlikely to save anymore, then buy with what you can afford, however if you can quickly save more funds then it makes sense to go in with as much capital as possible.
For help getting started in property investment, speak with a RAMS home loan specialist and pick up your free RAMS Investor Pack.
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Disclaimer: Information in this material in general and does not take into account your objectives, financial situation or needs and you should consider whether it is appropriate for you. You should also obtain independent professional advice relevant to your financial circumstances.
The taxation positions described are general statements and should only be used as a guide. It does not constitute tax advice and is based on current tax laws and their interpretation.
RAMS Financial Group Pty Limited does not endorse or assume any responsibility for the advice, content or services provided by Property Observer or any other third party referred to in this material.
RAMS Financial Group Pty Limited ABN 30 105 207 538 AR 405465 Australian credit licence 388065. Credit provider and issuer of RAMS deposit products: Westpac Banking Corporation ABN 33 007 457 141 AFSL and Australian credit licence 233714.