A lot of my friends wonder how I got started in property investmenting. They know I don’t have a ton of cash lying around, but all of sudden I have 3 rental properties. They get even more incredulous when I tell them I didn’t have a deposit for any of them. So let me tell you how I did it. Selling drugs, the mark up on meth is amazing!!! No actually, not drugs….two words – home equity.
Let me break it down into 5 steps.
Step 1) Own most of my own home. Easy right!? Now undoubtably this is actually the hardest step. In saying that about 64% of New Zealanders own their own home, not too shabby. Having your own house will provide a lot of security when you retire, but not much in the way of income. Sure it will save you heaps of having to paying for accommodation in your old age but its not going to pay your bills. That capital tied up in your home can be put to work!
Step 2) I built up equity in that house as fast as possible. (When I say fast, this took us ten years). Increasing equity means paying down the mortgage or increasing the value of the house. i.e.get in a flatmate, work overtime, make extra repayments, paint the house add a room whatever it take to get the loan to value ratio of your house down. We upped our payments as soon as the mortgage started and I’ve been inching the amount upward whenever we could afford it. When interest rates dropped we kept our repayments the same paying back more principle than ever before, so far we have shaved 13 years off a standard kiwi 30 year mortgage . The house is due for renovation and by spending wisely we could gain more equity. However I’ve put that on hold for now. The house is perfectly liveable as it is and we need to put our money to work in better ways at the moment. But if you live in a real run down house and you can improve the value by 25% I reckon go for it!
Step 3) I talked to the bank manager about a revolving line of credit. When we moved our mortgage to Kiwibank we got a great interest rate, but because we didn’t have much of a loan (compared to everyone else I guess) they suggested we take out a line of credit/revolving mortgage as part of the deal. We wouldn’t have to spend it or use it at all but it would add to our total borrowing allowing us to qualify for a cash back offer. I didn’t let them link the revolving credit to any of our eftpos cards or accounts and so it sat, safely out of reach.
This line of credit can be used to pay the deposit on the investment property you want to buy. I mentioned that I was going to do this to bank manager and he said that idea was ok. You can also work with a mortgage broker to arrange this kind of thing for you. I did the first one myself but since then I’ve used Megin from the Loan Market to make sure I’m getting the best interest rates and cash back deals.
Now revolving mortgages/lines of credit usually have slightly higher interest rates than fixed or floating mortgages but don’t worry I’m only using the revolving credit for a short amount of time. (Less than a month usually).
Step 4) I found a house and got the banks approval to borrow 100% the value of the investment property. We have plenty of equity in our own home so the bank was willing to lend 100% of the purchase price $222,400 in this case. How much you can borrow depends on how much of your house you own i.e your equity. Currently the bank wants you to retain at least 20% equity, more if you are an investor in Auckland. This is a good thing, retaining a decent amount of equity will help protect you of there is a downturn in the market and property values fall.
With the lending sorted I went unconditional and paid the deposit using the revolving credit facility.
Step 5) I paid back the revolving line of credit. The drawn down loan is split between paying the remainder of the purchase price to the vendors lawyer and paying back the revolving line of credit. The mortgage is at a lower interest rate than the revolving credit so it makes sense to pay back the line of credit asap.
I’m not sure if its the best way or the “right way” and its certainly not the only way…..
And thats how I bought an investment property. I’m not sure if its the best way or the “right way” and its certainly not the only way but its how I made it happen. If you have equity in your home you have a lot of options, talk you bank, broker, accountant for advice! Personally I just tend to jump right into things and sometimes that backfires horribly, so make sure you always check with professionals about finances!
For me the downsides to this method is that properties are used as cross securities against one another (Including my main home! Risky! I’m working on doing something about this, talking to accountant about structures) and not having a deposit makes the cashflow situation a little tighter actually for two of my properties the cashflow is negative. Tauranga is down about -$20 a week and the Auckland apartment is losing about $30 a week. Argh, I should have talked to an accountant about setting up a company. It’s terrifying that I’ve leveraged my home to buy more homes, keep following this blog if you want to see if it all implodes down the line…or if the risk pays off and I can retire in ten years…
The positive side was ease of getting finance and accessing the money we’d worked hard to put into the mortgage instead of having to save a new deposit each time. Also being able to act quickly during a property boom was a huge advantage. We’ve made capital gains of well over $100,000 in one year. The revolving credit facility is still in place and we could use it to finance renovations, repairs etc if needed.