Many Australians aim to pay off their mortgage sooner so that they can be debt-free. However, many haven’t considered the hidden potential of equity in their home loan. Tapping into this hidden potential may allow you to purchase a second property (or other investment) which could generate an income.
In this article we cover:
Home equity is the difference between the value of your property and any debts on the property.
There are two ways of increasing home equity. Your home equity can increase when the market value of your home increases and when the amount of outstanding debts decreases.
For instance, you bought a home for $650,000 8 years ago on a $500,000 mortgage, the property value has gone up in value over that time and is now valued at $750,000, over the 8 years you have also paid $200,000 off your loan.
Most lenders work on an 80% loan to value) ratio. In this instance, 80% would be $600k meaning they have $300k in equity.
Value = $750,00
80% of value = $600,000
Remaining loan = $300,000
Available Equity= $300,000
You can also use the equity in an investment property to buy another investment property, and you may choose to keep the first property or sell at any point.
Buying a second home could be advantageous for many reasons. Firstly, it can help provide some flexibility, for example, you may decide to buy a second home in a holiday location or want to upgrade into a larger home and rent out your first home. It and can provide some added security if you ever need something to fall back on financially and don’t want to sell the house you live in. Buying a second home also offers specific tax advantages to the buyers.
The biggest advantage of buying a second home however is the impact it can have on your retirement plan. For example, if you pay both your first home and your second home off by the time you retire you will be able to use the rental income from your investment property as an income stream in retirement.
A common method to unlock the home equity in the first home and use it to buy your second home is by refinancing your existing loan. You may decide to approach your current lender or a new lender and renegotiate a loan that covers both the existing debt and the mortgage on the new property. This may also be a good time to lock in a low-interest rate as rates are at an all-time low.
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You can download a copy of our refinancing guide here.
Utilising your available home equity can be a great way to make an investment that will grow and produce income over time. However, the process can be complex and there are risks involved.
An adviser will also be able to ensure that your loan is structured correctly. They will be able to assist in keeping all deductible & non-deductible debts segregated by using separate loan splits, this will make managing taxes easier as the tax-deductible portion will be easily identifiable.
Working with a financial planner will help you to understand if this financial strategy will work for you and your goals.
If you do come to the decision that it is the right strategy for you, your adviser will help you through all the calculations of deposits, repayments and fees etc., as well as investment income forecasting. They also work in conjunction with lending advisers to find you the best loan option for your situation and will help you through the whole application process.
You may be interested in our article your home could be the greatest asset you have but not in the way you think.
With current low-interest rates making home loans more affordable, now may be a good time to make use of home equity to buy a second home.
As you would when entering into any type of investment or debt, you do need to ensure you have the stability to meet repayment responsibilities. However, if you are in a stable financial position to consider debt recycling as a means to make an investment, we suggest speaking with a financial planner to see how you can take advantage of the current climate.
For more information on the outlook of interest rates, click here.
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Debt Recycling allows you to use the equity within your home loan to make investments.
Click to download our Introductory Guide to Debt Recycling.
If you would like to discuss how you can leverage your home equity or if buying a second home is the right investment choice to you, one of our advisers will be able to assist.
Contact us today for a complimentary initial consultation.
What you need to know
This information is provided by Invest Blue Pty Ltd (ABN 91 100 874 744). The information contained in this article is of general nature only and does not take into account the objectives, financial situation or needs of any particular person. Therefore, before making any decision, you should consider the appropriateness of the advice with regards to those matters and seek personal financial, tax and/or legal advice prior to acting on this information. Read our Financial Services Guide for information about our services, including the fees and other benefits that AMP companies and their representatives may receive in relations to products and services provided to you.
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