Borrowing Capacity on Rental Income

I like you thinking !!! You have articulated what's been circling in my head much better than I could - pay down loans to the point tenants are paying off an asset you can retire from without impacting your pocket & preventing your ability to actually live in the now ! saving for future gotta be balanced with actually having a life surely - what if that bus comes out of nowhere

 

The numbers for most of my properties are actually closer to 30% of the rent goes to costs. It's not hard to argue that a 20% policy is overly generous to investors.

I do tend to agree that 20% is a fair figure however. At this point there's a lot of conservatism built into lender calculators that is clearly unrealistic when applied to real world economics. I believe that most lender calculators are significantly more conservative than they need to be (at least for well educated investors).

 

Reading on the diffrent stratergies have really changed my current situation. So paying down debt is a better stratergy then paying intrest only and having money in a offset account?

 

It all depends on the circumstances. If you have no non-deductible debt this is a good strategy.

 

Well that depends on your strategy. For me I pay I/O on all my loans and save cash in my offset as my buffer. I think ATM with the low interest rates to many people have small buffers and aren't preparing for when interest rates go up even though I don't think it will anytime soon.

You can pay P&I but if you have no buffer and you lose your job or interest rates go up you could be in a world of hurt. It's all about minimising your risks not just paying off debt.

 

Well yes, but I can run my portfolio without income from employment, because of NRAS surpluses. Talk about minimising risks AND paying off debt

 

For borrowing capacity purposes - resoundingly, unambiguously yes.

Those advocating I/O with offsets and who are paying lower "actual" repayments as they build up the offset balance and it reduces the interest payable, are not reducing their loan limits at all. They are employing a flawed strategy. Might not have caused them any issues yet, but it will certainly diminish their borrowing capacity at some point. Why? because bank servicing calculators assess your limit, not your balance.

It's the same argument as credit cards... where I often hear "But I pay it every month, why is the bank treating me like I owe the full limit and preventing me borrowing more money?" "Because you can go out tomorrow and pull that 10K or 20K or 30K out if you want" is the answer. Perhaps you should reduce your card limit sir - that would assist your borrowing capacity nicely.

Same with offsets... the banks dont care how much you are paying interest on - they care how much debt you owe. And you could go out tomorrow and pull all your funds out of offset, so they assess you as though you have done just that.

 

This is true. But if you're paying off debt and you lost your job and had 10 houses let's say then how will you live and pay for your houses ? You can't just go into the banks and ask for the money you paid them back to pay the mortgages. I know that people say well my house is positive cashflow but is it when interest rates are 7 percent or 8 percent and you have no job ? Can you afford to pay your own home loan and living expenses with no job ? Or is all of your money gone into P&I and without income you can't redraw it back out in desperate times. You need to have buffers in place and an offset is one of the best ways to do this.

I understand your situation with NRAS is Different but I am talking about general portfolios.

It's important to pay down debt and build your portfolio, but it's more important to be able to hold it long term through good times and bad times.

 

I think the very simple answer here is to do both. Pay down non deductible debt on your PPOR via P&I payments and all investments on I/O.
If you hit your servicing wall then simply attack the PPOR loan more aggressively but always keep a buffer and insurances in place.

When it comes to a buffer just work out what you would be comfortable with. If it's 1 whole years interest payments then work towards that. Once that is achieved start paying down the PPOR debt.

Up until recently my view had always been IO on my PPOR due to increased cashflow and "what if it ever comes an IP" but I think in today's lending environment this is just becoming a bit more unrealistic. I think the idea of a huge offset is great in theory as well but I have to admit I think it causes my wife and I too overspend.

 

But why limit your consideration to a general portfolio? This post is about borrowing capacity and rental income and discussing those issues. NRAS is a superior solution to both, so why only consider general portfolio's, done the old /traditional way? It is precisely because NRAS is different , precisely because NRAS offers superior yields, precisely because NRAS offers superior protection against a loss of income, that it is so worth considering - especially at these ultra low rates we have reached, where extra repayments can make a HUGE impact

 

And here's one further redundancy if you are worried about a redundancy ( excuse the double up)

NRAS properties are allowed to be vacant for 91 days ( 13 weeks) per annum and you still receive 100% of the $11,048 tax free credit, allowing you to continue to pay down debt

How would your cash flow situation deal with a non NRAS being empty for 13 weeks ? That could really sting, and there's zero chance of generating a chance of getting a surplus in that situation. So you wont be able to do anything to reduce debt/ improve capacity if that occurred.

If your goal is to pay down debt in order to improve borrowing capacity and create buffers in case of emergencies...you need to make extra repayments. That is the core , fundamental fact of the matter.

In order to do so, you need to generate substantial extra income from salary, or from tighter budgeting, or from a windfalls, or from the sale of assets, or from investing in a form of extremely high yield assets and then reinvesting the surpluses towards debt reduction. ie dividend reinvesting. If property is how you intend to do it , that leaves high risk mining towns, dual occ and NRAS as ways to achieve that cash flow.

As I have been saying for a long long time. I view NRAS as a mortgage reduction , dividend reinvestment plan that will do 5 things

1. reduce taxable income.
2. increase after tax income.
3. reduce debt ( as long as you actually reinvest the surpluses rather than frittering them away)
4. build and hold a portfolio long term with enormous safety
5. All done with zero out of pocket costs.

I think anyone trying to build a portfolio today and who still has some borrowing capacity left is absolutely nuts not to deploy it towards having at least 1 of these cash cows inside a portfolio... and I think anyone with a more mature portfolio who is approaching their limits should be considering it very seriously as well ...

You are not going to magically beat the servicing calculators with equity or capital growth. This approach of achieving growth, harvesting it and going again, is plainly and simply - over for most people . It is completely disrupted by APRA and ASIC and their sensitised assessment rates and HEM's.

The new borrowing capacity rules mean that approach can now literally only get you so far, before you have to start injecting cash flow to beat the ceilings - unless of course, you are able to generate substantial extra income from salary, or from tighter budgeting, or from windfalls, or from the sale of assets. And by the time most people seem to be figuring that out, they don't have any borrowing capacity left with which they can go out and purchase NRAS or dual occ.

I am approached literally dozens of times a month via PM messages , by people who have run out of puff and only now, want to do something about it. So as I said earlier , I think anyone trying to build a portfolio today and who still has some borrowing capacity left is absolutely nuts not to deploy it towards having at least 1 of these cash cows inside a portfolio... and I think anyone with a more mature portfolio who is approaching their limits should be considering it very seriously as well ...