Loan structure and Investment Strategy

Hi all

I bought my PPOR last year and I have been talking with my friends recently about the prospect of buying an investment property in 4-5 years. We talk about a lot of things but the one that comes up regularly is loan structure, P/I or interest only. One of my friends has done well with property and he is set on P/I is the only way to go so I believed him. But after listening to the property couch I’m not so sure.


Here’s my argument- Interest only with an offset account attached would be better for me buying my second property because it would make the property almost certain to be positively geared. Rather than struggling to make ends meet with a P/I loan I would have excess cash to dump in the offset account saving on interest and then creating a savings for future investments or whatever it’s needed for. The argument against interest only is that you don’t pay off any debt but I think that’s irrelevant in the scheme of things and here’s why; I am in the early stages of my property journey so I am buying for the long term. I want to hold my property’s for as long as possible to create that capital growth and also create equity. So if the loan term is 30, 35 or 36 years it does not matter. If I buy a property today for 250 k in a good location, chances are in 30 years it’s going to be 400-450 k. Also after 5-6 years or whatever the interest only period is rent will go up so when I switch back to P/I what was previously negatively geared will now be positively geared or at the very least neutral. If I go P/I to start I may struggle to make ends meet and possibly have to sell the property unless my income increases. So is that extra 5-6 years of an interest only period really that bad? No. Obviously I know I have to get the fundamentals right and buy in the right area for what I can afford. Houses outperform units and closer to the CBD with that owner occupier appeal.


Am I making sense? Am on the money, any advice? Thanks

 

Basically you have summarised the options and yes there are still plenty of investors using that theory. Add to it the concept of inflation, there is a case for paying off loans in tomorrows inflated dollars that are easier on the future wallet than todays hard earned ones. Imagine you bought a place 30 yrs ago for $40k. Now it is worth say $250k, even if you serviced interest the entire time, now to pay it off with your own savings is much easier than it would have been back then. There are of course reasons to do the opposite and pay it off fast, ie the total repayments are much smaller. Disclaimer, I am not a financial planner, and also remember over the last few yrs it has become much harder to get multiple interest only loans but this may change again in the future. One or 2 may still be fine depending on your servicability.

 

I don't earn big money only 60 k a year so increasing that is my priority, having a negative geared property now would make it difficult to make ends meet for me. So interest only. I won't have equity for 5 years though so who knows

 

The key question with this is - 'WILL' you dump the money in the offset?

Too many people aren't purposeful about this which is a double edged sword - no equity AND no savings.

If you're going the IO wiht Offset route, you HAVE to either be saving into your offset or paying down an OO loan, or other consumer debt. If you are undisciplined, it's not a good idea.

 

Yeah i’m very disciplined, I would treat any cash flow like I don’t have it. Goes straight in the off set no questions. Only touch in an emergency if necessary. What is an OO loan?

 

That seems like a dud investment to me.
250k in 30 years, after inflation (assuming a constant 1.9%) would come to $442k. Meaning you've realistically gained nothing. Your house 'worth' in 30 years is essentially the same as it is in today's money.
Sell it and pay CGT and you're behind (not taking into account rental income, interest payments etc. that come with it all).
You'd want your $250k to be A LOT more than $442k in 30 years.

 

Good points, was just estimating hopefully a lot more