Interest only the best way?

Hello all!

I recently purchased a PPOR in Werribee for $500k.

My broker recommended interest only loan (with offset) at 4.6% as he said when I purchase my first IP it would be better not to have paid off any of the loan, so the cost base is higher for tax purposes.
If I'm looking at buying my first IP in the next year or two, should I be sticking to IO or should I revert to P+I to take advantage of the lower interest rate?

Thanks!!

 

Hi @Marcus_walters

Are you looking to convert Werribee into an IP down the track as well? Perhaps that is one of the reasons IO has been recommended to you - as you refer to 'tax purposes'.

Alternatively, it may be that you do not service for your next IP with the bank lenders, and service with the non-bank lenders. Non bank lenders tend to take actual repayments for existing loans into account (IO would be less than P&I from a cashflow perspective). If this is the case, then IO for your PPOR may help your borrowing capacity down the track.

Lastly, it may be so you maintain the control of savings now and build up in the offset account, until you are ready to purchase IP, and then restructure your loan.

Have you requested to clarify the reasons with them?

 

You probably should be switching the main residence loan to PI to save almost 1% in interest rate - the repayments will be almost the same.

 

Couple of issues at play here.

That rate is very high for an owner occ - I personally wouldn’t preserve the principal if the rate for IO is significantly higher.

Second issue is that most lenders aren’t keen on IO against an owner occ these days.

Cheers

Jamie

 

Not a tax expert *disclaimer, see your accountant* although why wouldn't you want to pay down your non-deductible debt?
Ultimately getting IO lending for a PPOR is extremely hard with all lenders, especially given the royal commission and very surprised you got this one through, usually you'd need a damn good reason. Ultimately I'd question why the broker has recommended this for you as it is likely to increase the amount of interest you'll pay over the life of the loan with minimal/no upside i.e. no tax deduction.

I'd go back and ask some serious questions why you were recommended this product/option by your broker

 

Interest only is not always the best way, but it does have its advantages, such as preserving Principle, better borrowing for next Ip ( with 3rd tier lenders)

it also depends on the rate difference.

maybe draw a comparison: differences between IO vs PI, repayments.

and the impacts on future borrowing.

then make a informed decision.

 

It will revert to P&I at some point (sooner than likely given the way the banking Royal Commission and lending is headed). P&I means you will over time own the house and have an asset.

I would be talking to my tax advisor about possible benefit re: IO

 

Getting an interest only loan approved on your PPOR is incredibly difficult these days. There's potentially reasons to do it, but they need to be really good reasons, just to get the loan approved.

More questions for specifically why this recommendation is being made need to be asked.

 

Did you ask how many investment properties your broker has and why his strategy suits you?
You need to get out your excel spreadsheet to work out the cost. Dont assume brokers have the best advise.

Lets assume an 80% lvr. So loan is $400,000.
IO repayments are $400000 x 4.6% = $18,400 pa in payments.

You should be on 3.75% wih Owner occ rate. Approx repayment is $24,612 pa.
Savings is $6,212pa if stayin on io.

Heres the real questions you have to figure out.
What are you going to do with the $6,212 that you are saving by not being on PI repayments?
Are you going to stash it in an account to use later? Or are you like 90% of homeowners who spend all their cash and save none?

This is probably 5 years Io so PI repayments will cost you around $26,952 pa from the 6th year.

So in 5 years time its going to cost you $2000 more than if you were on PI now. And the loan will still be as big.

The very fact that you have an IO loan on your own home makes me wonder if the loan was put through as an investment property.
So now you need to do a budget to work out if you can afford PI repayments. Factor in 2% costs for maintainance and $4000 pa for rates and insurance.. minimum.

If you cant afford PI repayments in your budget, then you cant afford to live there cause in 5 years time your repayments will be bigger than they are now.

Lets assume the budget is good and you have a good income. If you lost your income, you have 3 months living expenses stashed somewhere.

Then go ahead and save 25% deposit and closing costs for the next property. Put the money into offset account or the loan itself.
You can redraw off the loan if u intend staying in your home.
I have 3 investment properties and they have lost over $100,000 each over the last 4 years. Rents have dropped $100 pw.
Whats the plan if you properties head south or increases in value.

The best investors i have seen coming out of the tough times in wa and qld are those that had low debt.. so they paid pi off their investment loans to reduce debt.

Having io on property loans is last decade and not necessarily the best way to set up loans today.

You need to consider the whole strategy you are using to invest.

You could ring up your bank and see whats the best pi rate they can do for you and then make your decision.

Thats my 2 cents.
Good luck

 

Hi Eric.im fairly new on here and learning as much as I can.could you please explain when you say Io loans "preserve principal".how does that work?how does paying io preserve principle and also how does it differ in terms of if you were paying P.I ?Iif you are paying P.I the principal isn' preserved?sorry I know I may be looking quite silly but I am just curious
.I've learnt alot on here but how loans work is the part I'm just starting on.hope to hear from you.thankyou

 

Voice to type?

 

To confirm:
Are you sure the broker didn't ask you if THIS property may become an IP in the future when you want to upgrade?
That makes more sense, but at that LVR level and the IR savings, I still would have done it P&I for the interim..

 

hi Ross, no silly questions there at all, better to prevent it than fixing it.

re "preserving principle", if the property is one's forever home ( not moving out and turn it into an investment), it then won't matter. the difference is that when one moves out from this property and turns it into an investment, one could only claim tax deduction on the remaining principle. while managing a portfolio ( large or small), maximising tax benefit ( legally) is favourable I guess. if one pays down lots of principle while living in it, and then turns it into investment with much less principle on the property, it may not be a best choice. ( I am not an accountant, just my understanding, there are good accountants on PC, they could shed good light on this). and maybe do a search on the forum, lots of good advice will pop up.

 

Okay..got it.thanks alot for your reply Eric.very helpful.appreciate it mate.cheers.