Our mortgage brokers specialise in helping Perth area property investors build wealth through property, but homeowners can learn a lot from the recommendations we give our clients. In addition, our investment clients finance their homes through us as well because they know we can help integrate their home loans into their investment programs.
For most Australians, buying a home is going to be the biggest investment they ever make. It almost always involves a huge debt. Luckily, housing debt is seen as “good debt” because real estate appreciates and builds value over time. However, you can’t just buy a home, put your head in the sand and expect everything to turn out fine in the end. You need to pay attention and manage your debt.
Recently, the Reserve Bank of Australia (RBA) commissioned CoreLogic RP Data to compile the current ratio of home debt to disposable income. It is now at 140.3%, a record high. Debt has been high since 2005, but this is the highest it has ever been.
This is mitigated somewhat by a 28% ratio of housing debts to assets. In other words, the average Australian could sell off assets to get out of debt if they had to. The trick is never having to. The way to accomplish that is to hold property for the long term. This requires the ability to manage debt.
Here are five techniques that we recommend to help our clients manage their mortgage debt.
Have a Buffer for Interest Rate Hikes
When interest rates are at record lows, as they are now, the tendency is to think they are going to stay that way forever. Trust us: they won’t. They are going to rise back to 6-8% sometime during the term of your home loan or loans. Today, you may be able to lock in a very low rate over the next five years, but over 25-30 years, there are going to be five year periods where the rates are high.
To combat this, you must have a “buffer” built into your budget. Figure out what your payments would be at 8% and make sure you have a way of repaying the loan during that period.
You must have access to emergency funds in case of unforeseen difficulties. This can be a smaller amount of money, but it has to be there. If you are investing, you can put this money in redraw to cover periods when you don’t have a tenant or to pay for major repairs to your home. Insurance products to protect your income are important, too. Make sure you are covered if you get sick or injured and can’t work for a period of time.
Home loans should always be principal and interest. As you pay off the principal, you are building equity in your home. This is in addition to the capital gains that you will receive from the property increasing in value. You should always pay home loans off first because the interest is not tax deductible. Your home loan is the debt that needs to be paid off the fastest.
Until you have paid off your home, investment property loans should be interest only. Often, investors pay off their homes and use the equity to purchase investment property. When you are paying off interest only, the repayment is lower. This allows you to rent out your investment property with a neutral or positive cash flow.
Since interest on investment loans is tax-deductible, it is most important to spend your extra money to pay off your home loan first. Once you have paid off your home loan, you can re-examine your investment goals.
Fixed Rate or Variable Rate?
Fixed rates give you consistency and a budget you can plan, but tend to be inflexible. If you plan on terminating the loan early, the fees can negate any profit you make on your fixed rate and eat into the profit from the sale. Variable rate loans usually allow more flexibility.
Call Purely Finance Today
Everyone’s financial situation is different. For a free consult to help you maximise your investments, call us today: (08) 9453 8888