When purchasing a house, your motivation for the purchase determines whether you’ll need an investment loan or a home loan. If the house is going to be owner-occupied, you’ll need an owner-occupier mortgage. If the property is to be used as an investment, you’ll need an investment loan.
Do I need an investment loan or a home loan?
When it comes to borrowing to buy a property, the first thing the lender will need to know is whether you are going to be living in the house or if you’ll be using it as an investment. If you are choosing to live in the home, you will need an owner-occupier loan. If you are going to rent the house out or do it up to sell for a capital gain, you will need an investment loan. It’s important to differentiate between the two types of loans as they are treated differently when it comes to tax and lending criteria. The different criteria and product style between investment loan vs home loan means that there is generally a price disparity between the two options; owner-occupied loans generally have a lower interest rate and less fees than an investment loan. But this doesn’t mean you can simply choose a home loan to purchase an investment property because the interest rate might be less. A loan relevant to the purchase type is necessary.
Don’t be tempted to try to get an owner-occupier loan for an investment property just because it’s cheaper. Lenders are always on the lookout for occupancy fraud and the consequences aren’t worth the risk. Investment loans generally have a higher interest rate purely because investments are seen to have a higher risk of default. The lender needs to be compensated for taking on this perceived level of additional risk.
What are the differences between an owner-occupier mortgage and an investment loan?
Due to stricter lending criteria for investments, some lenders may only offer a Loan to Value Ratio (LVR) of 80%. This means you would need to come up with a 20% deposit either through savings or existing equity to be considered for an investment loan. However, this is not always the case; you may be able to find a specialist lender who will offer an LVR of up to 95% — which is what many lenders offer for owner-occupier home loans. A higher LVR however does come with a higher rate usually, but if the investment makes sense after paying a higher interest rate then the higher rate can be irrelevant.
An investment property is an income producing asset, so it makes sense that you can claim a tax deduction for the interest expense. You are unable to claim a tax deduction for interest expenses incurred due to repaying a home loan, as you aren’t generating any income from your home — you’re simply living in it. Selling a property is also taxed differently depending on whether it’s your family home or an investment. Any gain made through the sale of an investment property will be subject to Capital Gains Tax (CGT), whereas any capital gain from sale of the family home does not incur CGT. At face value, an investment loan may seem more expensive, but once you take into consideration the tax deductions available, it quite possibly could end up cheaper than an owner-occupied mortgage depending on your taxable income.
An uncertain economy has seen lending criteria tighten up for investors. This has not only made it more difficult to get an Investment Loan, but also more expensive when it comes to interest rates and fees. But don’t let that deter you from investing. Investing in property can be a great way to generate a high return — the tighter rules and higher cost doesn’t mean your investment won’t be profitable!
Things to think about before applying for an investment loan
If you are not planning on managing your investment property and tenants yourself, you will need to use a Real Estate Agent. You will need to consider this cost when deciding if an investment property is right for you.
Lenders look favourably upon applicants who have stable employment. However, if you happen to be self-employed or don’t have the required documentation, there are other products available for you. When looking at your borrowing power, you’ll need to take into account your income and expenses to determine if you can afford an investment loan. Our calculator can help you crunch the numbers.
When looking for an investment property it’s important to consider whether the property value is going to grow at an acceptable rate. If the lender is concerned about the property retaining its value, your application may be declined. Another thing to think about is how much rental income you can expect to receive from the property. This amount is taken into consideration when assessing your borrowing capacity, but some lenders may not count 100% of the expected income. It’s a good idea to look at vacancy rates and house price history while you’re researching properties.
Some lenders will not allow a LVR of above 80%. This means that you’ll need to have a deposit or equity equal to 20% of the value of the property. If you find a lender who will allow an LVR above 80%, you’ll need to pay lenders mortgage insurance. This is an additional expense for all home loans when borrowing above 80%.
If you have an existing mortgage on your home, you could bundle it with the investment loan to get a better deal and more tax advantages. A pivot loan works to combine the two products so that more of your payment goes toward the investment loan which can then be used as a tax deduction to lower your taxable income.