Using Equity to Buy Investment Property
Are you looking to increase your property portfolio but don’t have the funds in your account? Utilising home equity can be a great solution for this, providing money that you wouldn’t otherwise have access to for real practical purposes. Read more about how you can use equity to buy your next investment property here.
How can I use my equity to buy investment property?
Simply put, the answer to this is to cover your deposit. It can be difficult to afford a lump sum at the start of your home loan, particularly if you’re already paying off an existing home loan. That’s where your home equity comes into play. Electing to make use of your usable equity as a deposit can give you a clear idea of what kind of budget you’ll be looking at for your investment property. Property investors find this to be an incredibly useful and effective means of funding property deposits when their money is tied up elsewhere, with rental income then assisting them in the repayment of their home loan/s.
How does equity work for buying investment property?
Equity is calculated using the following simple equation:
property value – amount owed = equity
An example of this might be:
- Property value: $550,000
- Amount owed: $300,000
- $550,000 – $300,000 = $250,000 (equity)
When it comes to the amount you’re able to access, lenders will generally only allow you to borrow equity equal to 80% of your property’s value or less. Therefore, the equation to work out usable equity is:
(property value x maximum equity %) – amount owed = usable equity
- $440,000 – $300,000 = $140,000 (usable equity)
The 20% deposit being multiplied by four rather than five is done for a specific purpose. This is referred to as “the rule of four” and it covers the approximately cost of extra charges like stamp duty and other upfront fees which ultimately amount to around 5% of the property’s value.
The pros and cons of using equity to buy investment property
Lender’s Mortgage Insurance (LMI) is a costly charge that borrowers will usually have to pay with LVRs above 80%, but utilising the equity in your current property can help you avoid this.
Making use of cash now
Accessing equity unlocks your ability to pay for a property here and now, which you might not have otherwise been able to afford.
Improving your terms
If you’re looking to refinance your home loan to buy a second property, switching to a different option can save you a significant amount over both loan periods if you find the right one.
Your properties become linked
Because the equity being used to finance your new property comes from your old one, meaning that your decisions on one property may now affect the other in some way.
Taking out a lump sum in equity will also add a lump back onto your existing debts, expanding the amount you’ll have to pay back for each instalment. However, this will be at least partially offset by rental income to alleviate financial pressure.