If you’ve been making the most of the low-interest rates to pay off your owner occupier loan, you must have probably built significant equity in your home.
Many home owners leverage this equity and refinance to a lower interest rate. This allows them to take a loan for an investment property that earns them rental income.
In fact, as per ABS data, in May 2022, the value of new loan commitments (seasonally adjusted terms) for investor housing increased 0.9% to $11.2b, after a fall of 4.8% in April.
Nonetheless, before diving in, get all the relevant information and then decide if refinancing your home loan can help you reach your investment goals.
Since taking out your home loan, things may have changed, including your financial situation. If so, it may be time to refinance.
Refinancing your home loan means taking out a new mortgage to repay an existing loan. It usually involves switching lenders or institutions, but it's not a rule.
Refinancing is often seen as a pathway to improve one's financial position as you can save thousands from a lower interest rate, more accessible repayment terms, and/or better loan features.
Nonetheless, if you refinance your existing mortgage with a new lender, they will treat it as an entirely new loan, and you may need to get your property valued.
"If you're actively looking to refinance, you should ideally study the offers by different lenders and compare suitable home loans, including the comparison rate. You can easily access this information online," adds Graeme John, Head of Growth at Joust.
If you don't want to refinance an investment property, head to our how to refinance an occupier loan here.
For starters, try to put at least 20 per cent of your investment property’s value as a deposit. This will help you avoid Lenders Mortgage Insurance (LMI) and increase your bank’s confidence in offering you finance.
When you refinance your existing loan, your useable equity is typically around 80 per cent of the value of your property minus your balance debt.
For example, if your property value is $1,000,000 and you owe $350,000 on your existing home loan:
In some cases, you may be able to borrow up to 95 per cent with LMI. However, this is less common.
Most lending specialists won’t allow you to borrow the property's total value. This is a precautionary measure in case market prices drop and your loan exceeds your house value.
If you’re considering refinancing to buy an investment property, it is advisable to seek professional advice about the tax implications based on your loan structure any loan. This is because you may not qualify for tax benefits if you use your existing home as security and place both properties on the same loan.
The main drawback in refinancing without at least 20% equity is that you’ll likely have to pay for Lenders Mortgage Insurance (LMI). Depending on the loan size, this could be many thousands or tens of thousands of dollars and outweigh the benefits of refinancing.
For instance, if you’ve built up $100,000 in equity on a home worth $700,000 (i.e. 85.71% LVR), your LMI premium could cost around $6,600 if you’re an owner occupier.
Nonetheless, study the difference between your old home loan interest rate and refinanced interest vis-a-vis the capital gains on the property. It can help you decide whether to refinance with lesser than 20% equity.
If you're still keen to explore this route, read everything you need to know about LMI to be more confident when taking out a loan exceeding 80% of your property's value.
Also, note that if you have paid LMI on your original home loan, it’s unlikely to be transferred to the new loan. However, depending on your lender, you may be able to secure a rebate on your LMI if your home loan is over two years old.
If you want to buy an investment property while leveraging usable equity in your owner occupier home, refinancing can be a way to access suitable investment loans.
The process would typically include the following components:
In a scenario of rising interest rates, when you refinance your home loan, you could opt to lock in low interest rates.
Refinancing to a fixed rate will also help you manage budgets more effectively and steadily build your investment property equity, regardless of the interest rate movement.
Many Australian home owners view refinancing as an excellent way to purchase investment property because of the following advantages:
Even if you don't buy an investment property, refinancing from variable to fixed is a great way to insulate yourself from potential future rate hikes for your specific fixed term. Likewise, by consolidating debts into a new lower-rate home loan, you can reduce your monthly repayment expenses overall.
Refinancing to invest in property can be an excellent opportunity to meet your financial objectives. Nonetheless, it's not without its share of risks. Here are some points worth pondering over before advancing with your plans:
In sum, if you're unsure how to proceed, seeking professional financial advice will help you plan more confidently.
We put together some critical considerations before refinancing for an investment property. Here's a quick look:
If you're not in favour of refinancing, you could finance your second home purchase in other ways. These include:
Where you've built good equity in your own home, you could use a line of credit loan for a substantial chunk or all of your deposit. You'll have to pay only the interest portion of the loan until you reach your credit limit.
You can utilise your credit limit per your wishes and pay interest only on the amount you use. The interest-only repayments help in maximising your tax-deductible debt.
On the other hand, the interest rates may be higher, and you'll be using your own home as security against an investment property, thus increasing your risks.
Moreover, you could end up repaying multiple loans, including your home loan, the line of credit and your investment loan. In addition, as interest accrues to your line of credit limit, you'll eventually pay more interest over time.
You could also use the money in your offset account to finance your second property purchase.
While paying off your home loan, you may also be putting money into the offset account attached to your home loan. This account may now have accumulated substantial savings. You can use these funds towards the deposit and, if possible, stamp duty on your second home.
Buying an investment property is a milestone event for every home buyer. Refinancing, if done right, can get you closer to achieving your long term property goals.
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