A popular way to buy an investment property is to utilise the equity in your existing home, meaning you don’t have to put any physical cash towards the deposit. Before we explain how to use equity in your home to buy an investment property, let’s first clarify what equity is.
Quite simply, equity is the difference between the value of your property and the outstanding debt on your home loan. For example, if Sarah’s home is worth $500,000 and the current debt on her home loan is $320,000, then she’ll have $180,000 worth of equity in her house. A common misconception is that you can use all of your equity towards buying an investment property. In most instances, though, you can only borrow up to 80% of the value of your home.
Using the same example as above, here is how Sarah can calculate her usable equity.
In this example, Sarah has $80,000 worth of usable equity that she can put towards a deposit for an investment property as well as any other costs when buying a property, such as associated stamp duty and settlement fees.
If the usable equity isn’t enough to cover the full deposit and any stamp duty and settlement costs, Sarah will have to make a cash contribution as well.
In most instances, a 20% deposit is required to secure a home loan to buy an investment property.
Therefore, with $80,000 worth of equity that Sarah can use as a deposit, she will be able to purchase a $400,000 investment property – assuming she covers stamp duty and settlement fees with money she has saved and she meets the necessary criteria to receive the loan.
It is possible to buy an investment property with a deposit lower than 20%, however you’ll most likely have to take out Lenders Mortgage Insurance (LMI). If you do use LMI, you’re likely to have to pay an additional fee (approximately 2-3% of the loan amount) and your interest rates on the investment loan may also be higher.
For more information about your finances, usable equity and borrowing capacity, speak to a Bankwest Home Loan Specialist today.
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