Something that I do all the time is gear people up, and get them ready to buy their first investment property. The job doesn’t just stop there, because our goal is to show people how to start a multi-property portfolio, not just buy a single property.
There are 3 ways to start on that journey, Equity, Cash and Love Money. I’m going to explain all three.
Equity
This is by far the most common approach to get started in an investment property portfolio, and is particularly relevant to people who already own an owner-occupied property. The recent booms in Sydney and Melbourne, as well as many regional areas and other capitals (to a lesser extent in some cases, but still materially) help create opportunities for home owners to leverage to invest.
How does that work?
Well, let’s say you bought your home for $500,000 with a 20% deposit – so your loan is $400,000. After recent increases in house prices, your house might be worth $750,000 now. (The numbers in Sydney are much bigger, but apply them in the same proportion and you’ll get my meaning).
That increase has created equity for you to leverage, as long as you can service the loan.
If you took your debt level up to 80% again, that would be a total loan facility of $600,000 (shared between owner-occupied and investment debt now) – and effectively releasing $200k for investment.
The logistics of this are a slightly more complex story (and different for various types of borrowers) – so contact us to discuss your own situation – but in essence $200k would readily allow you to invest in at least another property of about the same value (without paying any mortgage insurance).
If you wanted a higher level of leverage and pay mortgage insurance as well, this could easily be enough to start your way in with a couple of properties rather than just one, and still leave something in reserve for contingencies.
That’s just an example, but you get my drift, yeah?
Cash
This is very straightforward.
If you don’t have equity from an existing property – you have to start somewhere and that is often just applying the old-fashioned notion of saving money.
Cash is king. Save money, inherit money – even a windfall gain (let’s say you win the lottery, for example).
Looking at the example I used above, it might take a long time to save $200 thousand. However, to get yourself started on the property ladder, you should ideally have a minimum of 10% of the purchase price to apply to deposit + stamp duty and other costs.
If you dropped down to say a $375k townhouse, you would be able to do that with a $40k savings, and possibly with less, depending in the lender – so getting started on a property portfolio is not out of your reach – it might just start at a different level, but it’s somewhere to start.
My first house was an old 2 bedroom cottage on a tiny block in Parramatta (that was almost 25 years ago). Without any real boom in prices, it went up 50% in 6 years and we had equity to use in our next purchase.
Getting started is the key.
A great way to get started is to apply the principles of The Richest Man in Babylon – Pay Yourself First.
Save 10% of all you earn to invest and live off the rest. Save 20% or more if you can – but start the ball rolling and it will soon start to accumulate.
Love Money
Love Money comes from, yes, you guessed it – people who love you.
It could be parents, grand-parents, siblings, cousins or friends – but it is people who are willing to back you because they want to either give you a leg-up, or see you succeed or both.
Some of the ways this “love money” can be manifested are:
- Interest-free loans
- Gifts
- Pledging security
Interest-free loans and gifts are pretty self-explanatory. Someone (usually a relative) gives you money or lends it to you without expectation of interest (and perhaps even ultimate repayment).
Security pledges are a different animal altogether. Different lenders call them different things “Family Pledge” and “Security Guarantee” are a couple of terms – but what it amounts to, typically, is that Mum & Dad put up a slice of their home to support their children buying either a home or investment property. Back in the day, everyone would call it “going guarantor”.
Let’s run an example. John & Mary want to help their son and daughter in law, Michael & Patrice, to buy a property. They don’t have cash to give them but they own a big chunk of their family home. It’s worth $800,000 and they only owe $200,000 on it now, so there is plenty of equity available.
Michael and Patrice have their eyes on a place worth $600,000.
The bank will generally structure a loan by taking a loan of $480k against the property being purchased (80%) and the remainder ($120k + stamp duty & legal fees of $25k) secured against John & Mary’s home (in this case, maybe as a 2nd mortgage). All the loans are in Michael & Patrice’s names – John & Mary are only providing a security boost, and are not expected to service the loan repayments.
In the event of Michael & Patrice defaulting on their loan, the banks would sell their property first, and hopefully net enough to pay back both the loans. There is a call against John & Mary’s house if there is not enough to cover the debt but that amount is limited to $145k, which reduces their risk in the transaction, and it should only be exercise if the primary security does not realise enough to repay the full debt.
In the past, this was often just restricted to home loans, but some lenders also allow the same for investment properties, so that allows people to enter the investment market using this type of arrangement as well as buying a home.
This is 100% leverage – and about the only “no money down” arrangement available in mainstream lending in Australia.
So – these are the 3 ways to get started on the property investment ladder
- Have equity
- Save money
- Have Mum & Dad put up security.
If you can do one of these 3 things, YOU can get started with an investment portfolio.