The Chronicle

Important to get your finances in order before investing


WHAT you consider essential when buying a property to live in is different to what you need to look for as an investor.

Sitting down and working out your budget is vital — the last thing you want to do is overcommit. Let’s look at some of the things you’ll need to consider.

Budgeting to buy

When putting together a budget, some of the upfront costs you need to consider include:

The deposit for your purchase

Loan applicatio­n fees

Lender’s mortgage insurance if your loan to value ratio is more than 80% Government charges, including stamp duty

Transfer fees and mortgage registrati­on Legal and conveyanci­ng costs Building inspection­s

With these considerat­ions in mind, remember to have a realistic expectatio­n of how much you can afford when choosing the location.

Budgeting for maintenanc­e

When it comes to maintainin­g properties, a good rule of thumb is to expect the unexpected.

While there may be planned expenses in, for example, insurance, rates, or natural wear and tear, always budget for unplanned maintenanc­e — especially if you’re renting out your investment property.

When weighing up your maintenanc­e budget, consider factors such as the age of your property and how it is being used.

A general formula is the 50 per cent rule: expect maintenanc­e costs to be roughly 50 per cent of any income you’re making from the property.

Another formula often cited by experts is the 1 per cent rule: expect an annual maintenanc­e cost of 1 per cent of the property’s value. So, if it is worth $500,000, budget $5000 for maintenanc­e.

Financing an investment property

There are a variety of ways to finance an investment property.

Seek independen­t financial advice before you commit to any purchase. Look at your investment goals and budget to determine which way to go.

If you’re not using your own finances, there’s a wide variety of loan types and conditions across financial institutio­ns.

Do your research to help work out the best solution for your situation.

If you’re stuck, discussing your plans with a mortgage broker is a good place to start.

What are the loan options?

There are a number of loan types you can explore to get the most out of your circumstan­ces.

If you’ve built up equity in your current property or properties, you could use this to borrow against your investment property for the full purchase, or just the deposit.

This presents the opportunit­y to refinance your loan, meaning you could save through more competitiv­e rates and conditions.

Another option is an investment property loan.

These usually come with higher interest

rates and costs, meaning you may not be able to borrow as much as for an owner-occupier loan. However, one advantage is you only have to use one property as security, compared to two if you were refinancin­g with a less expensive loan.

Most lenders will lend up to 90 per cent of the investment property’s value for this type of loan, so you will need additional funds to complete the purchase.

Another option to explore is an intereston­ly loan.

These loans provide an agreed period where you’ll only have to make interest payments and not any towards the principal.

The interest-only periods offered can vary widely, but generally are for five years.

These can be useful if you think you’ll be able to sell your property for a profit before the interest-only period expires.

Keep in mind these loans revert to principal and interest after the agreed period ends and may be more expensive than a straight principal and interest loan over the long term.

How to calculate yield

An important considerat­ion if you’re buying a property to rent out is rental yield.

This can be split into gross and net rental yield.

To calculate the gross yield, add up your annual rental income (weekly rental by 52), divide by the property value, then multiply by 100.

ie, annual rent ÷ value of the property X 100.

To calculate the net yield, take the annual rental income (weekly rental by 52), subtract annual expenses and costs, then divide by the property value and multiply by 100.

(Annual rental income – expenses and costs) ÷ value of the property X 100.

Negative gearing explained

Negative gearing is a way to reduce your taxable income through any losses you incur from investing in a property.

In other words, when the expenses of investing in a property are higher than the income you’re making from it, taxation law allows you to apply them against your taxable income.

While making a loss on a property investment is not ideal and does not suit every situation, in some cases, people are expecting to make a loss on rent while waiting for the capital growth of the property to reach the point where they can still make a profit when they sell it. The aim is to limit losses before selling.

Expenses you may be entitled to claim include advertisin­g for tenants, body corporate fees, cleaning, pest control, repairs and maintenanc­e.

Seek the advice of an accountant on what expenses you are and are not able to claim.

Capital gains explained

Capital gains is the difference between what you paid for an asset (less any expenses) and what you sold it for, again less any expenses.

Capital gains tax can apply when this results in you making a profit from this transactio­n.

This tax does not apply in all situations (such as generally when a property is your principle place of residence) but is a key considerat­ion if you’re investing in property.

It’s always advisable to speak to a financial profession­al about your situation. There are a number of exemptions and concession­s that may help reduce your capital gains tax bill.

For example, holding a property for more than 12 months or investing in affordable housing are just two ways you can reduce your capital gains tax burden.

Land tax obligation­s

As a property investor, another considerat­ion is land tax. Land tax is levied by state and territory government­s and is based on certain threshold levels of land value.

It applies to all freehold land in Australia and includes land that is yet to be developed or the land a house or unit is built on.

Main residences, primary production land and some other types of property can be exempt, but it does apply to investment properties.

The land values where the tax is triggered varies from state to state.

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