Your guide to investment property loans
There are certain things to look out for when selecting and applying for a loan for your investment property. Here we look at the main differences, the most popular loan types, and how to get the best mortgage for your situation.
Interest-only, fixed, variable, offset – finding the investment home loan that’s right for you can seem like a minefield of financial jargon and conditions.
The key to finding the right loan is to have a clear investment strategy: are you going to renovate and sell, or stay on for the long term and ride the property wave?
Fixed interest rate loan
Arranging a mortgage with a fixed interest rate gives you certainty – you’ll know up-front what you need to repay annually. This means that once you know what you are going to receive in rent you can estimate whether there will be a cash surplus or deficit and manage your cash flow accordingly.
Some lenders allow you to prepay up to 12 months’ of interest (often called an ‘interest in advance’ loan), potentially bringing any eligible tax benefit forward; speak to your tax advisor about claiming the payment as a tax deduction. The added benefit is that these types of loans are frequently sold at a discount to ‘interest in arrears’ loans.
Bear in mind that many lenders will charge you a break fee if you repay more than the fixed rate allows for. Before making any extra payments, check with your bank. And if you plan to make additional payments during the life of your loan, make sure you enter into a loan that doesn’t charge these break fees.
Variable interest rate loan
Your payments will fluctuate with a variable interest rate mortgage, but the payoff is flexibility – if the loan has a redraw option, you’ll be able to redraw funds from any extra payments you may have made.
You can also choose a split loan, with a mix of fixed and variable interest rates. Package home loans, despite often carrying an annual fee, may feature split rates, along with credit cards, and waived fees or discounts for ancillary products and services.
The name of this type of loan is a little misleading, however as the name suggests, with interest-only loans, you won’t pay anything off the principal. Why is the name of this type of loan misleading? Most modern variable ‘interest only’ loans allow you to pay more than just the interest. Regardless, these types of loans are typically popular with investors due to the fact that if the value of your property increases, you’ll have that equity even though you’ve paid nothing off the principal. The downside to such speculation is, however, if the market flattens, however, you might not have any equity.
The sweetener for investors is that, unlike principal repayments, interest payments are tax deductible. Please check with your accountant or financial planner for tax implications.
You can also choose an interest-only loan for a period of time while you renovate. Your repayments are less than if you’re paying the principal plus interest, so you’ll have cash up your sleeve to pay for your renovations.
An interest-only mortgage can commonly be arranged for between 1 to 15 years (depending on the lender you speak with).
Products such as interest offset accounts allow you to use your mortgage as a kind of savings account, offering great flexibility and with interest calculated daily.
For example, you could have your salary paid into your offset account, which is linked to your home loan. The balance of your mortgage will be reduced by your offset balance, meaning that you’ll pay less interest over the long term, and you’ll still be able to withdraw your cash when you need it.
Most offset accounts are linked to variable rate loans rather than fixed rate loans.
Line of credit
Also known as a home equity loan, a line of credit home loan allows you to use the equity in your existing property to secure your investment loan. Rather than receiving a lump sum, you can access as much or as little of the loan as you need, meaning financial discipline is key. Canny borrowers can have their salary paid into their line of credit loan account, to offset the loan.
Whichever loan you choose, seek professional advice from a credit adviser and shop around to compare competitive rates.
Investment loans have stricter eligibility restrictions, may require a larger deposit than other home loans, and often incur a slightly higher interest rate. You’ll also need to have funds to cover potential costs or loss of rental income if your property is untenanted for any length of time. The trade-off is that as a landlord you can claim associated expenses as tax deductions.
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