When thinking about property investing most people focus on the property first, but getting the right investment loan is the crucial first step before you can purchase an investment property.
This can be a complicated process, so here are five tips to help you find the right loan.
1. Be sure to do your research.
The terminology around investing and home loans can be quite complicated. Before you even think about applying for a loan you should learn all about concepts like negative gearing, tax concessions for property investors, equity and depreciation.
This knowledge will help you make a better choice.
2. Have an investment strategy in place.
Once you’ve done the research you need a strategy. This will determine the type of investment loan you choose. Some investors follow a “buy and hold” strategy, purchasing a property and paying it off fully over time while collecting rent. Other investors are confident their property will grow quickly in value, so they may go for a very different type of loan.
If you own your home outright (or have paid off most of it) then you could even use the equity in your property to fund the purchase of your investment. This will extend your borrowing power and means you won’t have to spend time saving up for a large deposit. You could take out a line of credit loan rather than a traditional investment home loan.
An investment strategy is just one key element of your financial plan and as the saying goes, “you don’t need to be wealthy to invest, but you need to invest to become wealthy”. When considering making an investment of any sort, it is important to ensure it fits in with your financial plan.
3. Understand the repayment type.
Whether you choose a principal and interest loan or an interest-only loan depends heavily on the strategies outlined above. If you’re purchasing a property and you’re confident it will grow quickly in value, you can make smaller interest-only repayments. This minimises your costs before you sell the property (hopefully for a large profit).
While interest-only loans cost more in the long term, it doesn’t matter if your property sees strong capital growth.
For cautious long-term investors planning to pay off their investments in full while collecting rent, a principal and interest loan will cost less in the long run. You can build equity faster this way too.
4. Selecting the best interest rate.
The interest rate of your investment loan is obviously an important factor. The lower the rate, the lower your repayments will be. Even a difference of 10 or 20 basis points can add up to tens of thousands of dollars in repayments over the life of a loan.
While most investment loans have higher rates than owner-occupier loans, it’s possible to find investment loans with rates around or even below 6%. You’ll also need to decide whether you want a fixed or variable interest rate. Variable rates can rise without warning but they can also fall.
Fixed rate loans offer a period of certainty where you know exactly how much your repayments will be. You’re protected from rate rises during the fixed period, but you won’t benefit from rate cuts.
There’s also the option of hedging your bets by splitting your loan, making a certain percentage variable and fixing the remainder.
5. Get a loan with the features you need.
Lastly, you need to look at a loan’s features. The most useful feature found in some investment loans is an offset account. An offset account functions as a bank account attached to your home loan. Any money sitting in the offset account is temporarily offset against the loan principal.
This means your repayments stay the same, but you’re paying less in interest. This can save you both time and a lot of money over the life of your loan.
This article was written in conjunction with our friend Richard Whitten, who is a member of the home loans team at finder.com.au. His role is to explain all the complexities of the home loan industry in ways that help consumers make better life decisions.