How to grow a multi-million dollar portfolio on an average income in the new lending environment

This debate was over, more than 6 months ago. It's fruitless torturing yourselves over whether you are somehow immune or exempt from the changes, or whether APRA will suddenly remove its boot from the throats of the banks and the "good ol' days " of credit expansion will be back.....

Here are the cold, hard facts - the regulators ( APRA and ASIC) are for the moment non negotiable and in the opinion of every broker on these forums they will remain fairly non negotiable for the medium - long term. In other words, we are not going to see a return to "actuals" and a sudden reduction in HEM's... APRA and ASIC have their teeth into this now, and they arent going to let go.

Better yet- there are more changes coming. BASEL IV will roll through in 2018 and will require that banks move their RMBS out of short term facilities to medium and long term facilities. This will cost 30+ basis points or more. So expect rate rises in late 17/early 18. On the upside, it will make non banks and 2nd tiers more competitive and the era of the Big 4 will become the era of the Big 8 or 10. Expect lenders like Suncorp, BOQ, Macquarie, ING, AMP etc to take large shares of business from the Big 4 in the coming 4-5 years. This will be good news for O/occupiers with P&I debt, especially. There will be lots of competition for P&I business.

For most investors, capacity is 30-40% less than 6 months ago. That's it. End of story. It will take most investors 7-8 years to recover that capacity

Owner occupiers will replace some of the Investors who are forced to stop buying for a few years, but they wont replace them quick enough for the momentum to keep going. So for the next 7-8 years you should expect flatish markets , and if you are smart, debt reduction is the single smartest thing you can focus on during that period..... because eventually rents and salaries will recover the "losses" of the regulators and the cycle will start up again.... but you will want to be deleveraged sufficiently to take good advantage of it ...

 

In this current environment is better to pay of debt to help with paying the debt to help with the ability to borrow or to keep debt interests only.

 

You can leave deductible debt I/O to keep the monthly repayments minimised, but there should be a focus on paying down any P&I non deductible debt as fast as possible, and then reviewing borrowing capacity.

 

Been doing some research and for me I am soon at that stage to find ways to improve my serviceability. Not expecting a massive pay rise anytime soon, so that's one thing out of the equation. Guess I can find ways in being able to build a granny flat or two on existing properties, pay down/off my HECS/HELP debt and not sure if I can tighten my budget anymore! I only pay around $120 for my electricity per quarter!

Be bad for the magazines because the number of young people being able to make massive gains in a short matter of time is going to be limited I guess.

 

one easy way to reduce debt is to review your portfolio and sell down, improve serviceability, finance is not getting any easier.

Also look at options/lenders, there are still some lo doc products which are excellent, RAMS competitive rates, fees comparable to the big4, however conditions do apply, easier than full doc and a stop gap measure if necessary.

 

Is it possible to have a positive cashflow property under a trust/company and use that income to service another property outside of that entity without taking on any of the debt associated? I own a couple of positive cashflow properties and what to use their income in the trust to help service another property in my own name (PPOR)

 

If it's in your tax return over a couple of years.

 

Interesting we are back here 5-6 years after the conversation commenced...... As I said at the beginning of the rate cuts pre covid, and then multiple times since, while those artificial settings saved many investors from a hard P&I landing , SPARTA never went away and this issue was deferred not resolved . The issue now is that a 2nd category of borrowers have been added to the risk mix for a potential hard P&I re-set - high LVR FHB's who purchased under TFF conditions .

I keep reading nonsense about low LVR's being some sort of safety net against repayment shock. LVR's don't reduce the monthly mortgage repayment. An investor with 750K INV debt secured against a property that has increased in value to 1.5 Mil due to the artificial settings of the past couple of years may may feel like a 50% LVR provides additional security compared to the 80 or 90% of 2 years ago, but if it's yielding 4% gross they are still going to feel the 5.5% or 6% P&I ( or worse) when their 2%'er rolls off next year or 2024. Holding power is going to determine their ongoing relationship with that property , not their LVR.

Similarly, a FHB couple with a chunky monkey mortgage on their shiny new build in the outer SYD or MEL burbs may find it easy at 1.9 or 2% P&I, but lets see what 5 or 6% P&I looks like 3-6 months after they roll out to variable. Lots of possible issues over the next 12-24 months simply because of the TFF .... and holding power will be far more important than LVR

 

Very interesting.
Very very high level though, for an investor profile, a low ltv portfolio = holding power.
If you’re sitting on a 40-50% ltv, yes the cost of debt has risen, but it’s very likely that the rental rise has outstripped the mortgage cost. Eg on a 2m portfolio at 40%, 800k debt costs have gone from 20k to 45-50k. Yes a 25-30k rise + more potentially.
But rents are up 20-40% inside a couple years too. On a $2m portfolio that rented at 4% in 2020 it’s 80k in income. Add 30% to that and you have your entire mortgage cost covered.
high ltv portfolios do not work that way as the total debt to equity ratio is high and the cost of debt has skyrocketed.

so 100% holding power is key, but ltvs are correlated closely to this.

this sums up 2023 too - holding power is key.

low lvrs though should equate to holding power though. It’s probably the ‘safest’ of ways to achieve holding power too. Concepts like buy cashflow positive properties backed by debt are considerably riskier in comparison to a low ltv wealthy portfolio type. Eg buying a 9% serviced apartment or the like with 6% debt carry is risky business.

 

I have to disagree....

800K @ 5.5% - 6% Interest Only may mean repayments increase from 20K to 44-48K.... and there is an argument that can possibly be made that maybe some or most of a 24-28K gap can be filled with rental increases, although I think that's extremely ambitious thinking .

BUT....

800K @ 5.5% - 6% P&I hasn't gone from 20K to 44-48K . It will look more like 59K - 62K

And the additional 15K or so will be P, so it will be pure loss as its completely non deductible

Unless that $2Million property with 800K of debt is generating an additional 40K per annum of rental income ( $800 per week) it won't hold up at any LVR . OR

Unless that investor has the necessary borrowing capacity to get a new 30 year term with 5 more years of IO so they can continue to kick the can down the road to minimise the pain... it wont hold up at any LVR

Worse....at 6.5 - 7% P&I the repayments roll out to 65K - 68K, a gap of more than 45K that needs to bridged by rental increases.

Worse still ....at 7.5 - 8% P&I the repayments roll out to 71K - 74K, a gap of more than 51K that needs to be bridged by rental increases

I am surprised by your take on this. There will be some exceptions obviously , but most investors wont see their LVR save them from serious pain if they migrate to P&I with a 6 or 7 in front of it - we know this already from the lessons of 2016-2018 under the first round of 7%P&I assessment - plenty of equity rich investors here on these forums who couldnt hold . We are well past those assessment levels now

#SPARTA.can.catch.anyone.at.any.LVR if they aren't careful.....

 

Oh I agree when you change repayment type - that’s not occurring though in macro lending data. So those numbers are stating something that occurred in 2018, not now.

The % stock of investor loans on IO will INCREASE not decrease in the year ahead. This is fairly common debt management (financial stability) tool and part of the reason to bring it down bigtime was to allow for periods like 2023 (and offer these type of solutions for those in cash flow need).

Ie there is NO P&I migration occurring now, in fact, it’s a bit of the opposite direction.

In general though, you’re less likely to be concerned on 40% ltvs looking at the 2022 dynamic vs high ltv portfolios (stating something pretty obvious though). It’s entirely possible they’ll have a BOOST to their cash flow from events occurring. Ie doubling cost of credit, the fastest rise in rents in multi decades.

Those at 80 though…

They have a cash flow squeeze.

The bigger the portfolio size, the bigger the squeeze.

Sitting at 40% ltvs for many is a bit like holding cash in portfolio strategy. It’s protection for times like these. That protection is providing holding power. Those holding cash are seeing income rises. Those holding property with little debt/low ltvs are seeing income rises. Those that have high ltv loans are experiencing cash flow crunches.

OO this is less of a consideration - they’ll have to fund their repayment rise and that can be tricky!

 

This reinforces what many are saying……property prices will continue to fall and we will see more stock on the market in 2023 as investors will need to sell. Rents are not increasing enough to cover I&P loans.

 

Rental rise is well consumed by the raising costs of holding. I think people will be on the edge, especially with overall values going down. There's been substantial cost increases with insurances, labour, land tax, and X by a few IPs.

 

Yes high ltv IP owners will be hurt a lot in 23 cash flow and BC wise. Holding on will be key strategy for those in these positions for short term. I suspect there will be some sell of to compensate for significantly larger costs, but this will be skewed to investors vs owner occupiers who will do more to hold on (in a strong jobs market supporting incomes to support living expenses).

 

I would argue that's because 2018-21 allowed the 5 year can kick while assessment rates plunged to 5 ish... and there was a 1 year free kick where reassessment of IO was abandoned during covid . 2023 will see the first tranche of 5 year can kickers ( from 2018) face a dramatically different serviceability test .. and there will be 3 or 4 years of it to follow... The trend you mention is temporary and while assessments sit at 8-9% P&I I don't see anything but a hard reversal of the trend and further P&I migration - unless SPARTA or the cash rate changes dramatically.

 

Hmm timing is a bit off.

2018 may be the LOWEST IO write for mortgages in a decade +. The share of IO loans written dramatically fell. It was a time when very few were getting IO loans and they were also difficult to obtain then vs now. It was a time where everyone was converting OUT of their IO positions and to P&I positions. Those that didn't maintained their IO arrangement, not extended it.

This 'cliff' is very much in the rear view mirror. The issue is the actual repayment rises hitting in 2023 from fixed rate borrowers. Not a payment change. Post 2019 the STOCK OF IO credit fell to sub 20%. Its stabilised there. It may creep UP a bit next year, but its not going to have a big macro change downwards.

Also at a micro level, for specific borrowers, the regulators aren't going to instruct banks to force hardship for investors, that can lead to a sale. They'll provide scope for the opposite.

Applying a macro-prudential financial stability 'regulator' lens to it, the whole point behind the scenes of an IO policy target is to use it to dial up and dial down. During covid, it was a DIAL UP. An extreme one. No interest either! During 2023, the same approaches will be taken to smoothen borrowers from damage.

I.e. the regulators want to throw punches to slow things down and make cash flow tighten, but they don't want people knocked out. They need them to come back for the next round!

 

I don't think the challenge facing borrowers is fixed rates reverting to variable. Certainly this will cause some pain, but the assessment rates plus other conservative elements in borrowing calculations generally account for this.

What none of the calculators have factored in is the inflation on the cost of living that is driving the rate increases. Three years ago nobody saw that desel would be $2.30/lt and the follow-on from that. Calculators consider the cost of living and this is constantly reviewed, but they don't consider that these will increase at the rate they have in the last year.

Overall I don't believe there will be bloodbaths in the market. Long experience tells me that people can find a way to adapt to adverse circumstances. Some will get into trouble, but most will get by and get through it.

 

Tricky one to unpack - i haven't explored it too deeply. Updated HEMs would have accounted for this by having an inflation rate higher than usual? HEMs themselves are like up 3 X for many household types, 4-5 X for high incomes vs 2018 too.

I think this is one of those 'real life' issues that may not translate to calculators as much given the big changes occured in 2018-2019. People are feeling it day to day though.

 

Can you give specifics on HEM numbers 2018 vs now to illustrate the impact.

 

Couples 2-3k.
Now 6k?+ potentially as it scales with income.

Very rough.

There was a ~10%+ drop in BC's during 2017-2018 from expense changes