Should you use your home equity to buy a rental?

Amy Hamilton Chadwick
Should you use your home equity to buy a rental?

When your house has risen in value and you’ve been reducing your debt every month, you can quickly find yourself with a lot of equity in your home.

It may be possible to access some of that equity to invest (bearing in mind that paying off your mortgage is the safest and lowest-risk investment you can make).

The average Kiwi property investor gets started using their home equity to purchase their first rental property. Could this work for you? Before you start browsing properties online, there are some important questions to ask yourself, says Tracy Creswell, one of Westpac’s most experienced mobile mortgage managers.

 

What’s my long-term financial plan?

Investing in property isn’t a goal in itself. It’s one way to help you achieve your money goals, and it may not even be the way best suited to your situation.

Talk to an authorised financial adviser and come up with long-term financial goals, then work backwards to think about how to achieve them. If property fits into your plan, using your equity to buy a rental might be the right choice for you.

 

What’s your appetite for risk?

Creswell says she has sometimes seen inexperienced investors buy their first rental, spend sleepless nights worrying about their tenants and their property, then bail out three years later in a panic, without making a dollar.

If you’re risk averse, a do-up in a cheap area may not be your best choice. Instead, you might prefer to pay more for a new build and employ a property manager. Or you may prefer to sidestep all the stress and stick to repaying your own mortgage.

 

Do you know how to structure your properties?

Talk to your accountant before you buy a rental; the right advice on structuring your loans and accounts can save you a lot of money and help you pay off your home loan more quickly.

 

Have you been realistic in your calculations?

Using our calculator, you can work out what the yield and cashflow would be on any rental property. Try to be realistic, warns Creswell: “The bank makes calculations assuming some vacancies and some interest rate rises. You’ll also be assessed to make sure you can pay principal and interest, not just interest only.

"We need to be responsible about it – we make sure you have a buffer so you can hold onto your investment.”

 

Are you prepared to use your home as security?

Let’s say you have a $1 million home with a $700,000 loan. Provided your income supports the larger loan, you can borrow up to 80% of the value of your home, so up to $800,000.

That means you could potentially borrow another $100,000 on your home as a deposit on an investment property.

Investment properties currently require a 30% deposit, so with $100,000 you could likely spend up to $333,000 on a rental (again, assuming both you and the property meet lending criteria).

The loan would be secured against both the rental property and your home, “so if something goes wrong and you don’t repay the loan on your rental, the bank has a hand on not only the rental, but also your home,” says Creswell.

“You need to be able to accept the risks, think long term and have a plan. It’s not a get-rich-quick scheme, but property can be a great way to secure your financial future.”

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