Using equity to build property portfolio

Hi,

I've been a member here for a while and on Somersoft and I feel a little silly for saying this but how do you use equity to keep buying properties without saving a deposit?

I just can't get my head around how to do it - I can't make the numbers work?????

eg. If my PPOR is valued at 580,000 and the loan is $360,000 I have $104,000 equity to use to buy an IP.

I then release this equity ( $104,000 ) from PPOR and use it as a deposit on a IP priced at $500,000.

Does that then mean that I now have 3 loans - The original loan of $360,000 for PPOR
- A line of credit for $104,000
- an IP loan of $410,000 ($500,000 purchase price less $104,000 deposit = $396,000 + buying costs of around $14,000)

I understand it up to this point - I think please correct me if I'm wrong

But now if I want to go and buy IP #2 when I apply for the loan wont the bank look at my loans and see that my LVR has gone up? PPOR is still 62 %LVR but IP # 1 is 102% LVR which means there is now no equity left to redraw and move ahead to IP #2?

Do I have to do a reno/develop to increase the value and if so how long before I can have the property revalued after buying it

I know this strategy is possible because I have seen many of you doing it and doing it well but I just can't seem to understand how, I would really really appreciate any advice so that I can start moving forward

 

Yes your logic is correct.
Yes your overall LVR has risen too.

If you took you property into LMI 88% territory you could borrow an additional 46k on top of the 104k. That may partially fund the second IP purpose. It will cost you LMI, but if you are short on equity it may be useful for getting that second IP sooner.

3 ways to manufacture the balance of funds to get the 2nd IP:

1. Wait on CG
2. Save the balance
3. Renovate effectively.

 

To add to what @Greyghost has said, buying a site where you can split and sell the block is a good way to reduce LVR if you're a more conservative investor. This is a good option regardless, as servicing will inevitably get tight, so selling becomes a requirement if you want to move forward.

 

No need to feel silly.

Yep looks right so far, though you'd probably use the LOC to pay your SD and buying costs and have a slightly less expensive house.

When looking at your finances the PPOR loan and the LOC are secured against the PPOR. As far as any lender is concerned, the LOC has nothing to do with IP1.

To buy IP2, you'll likely have to save into an offset against your PPOR and wait for one or both of the properties to increase in value again, so that you can draw the next LOC.

Or you go could split the $104 into 2 LOCs ($40k deposit, $14k purchase costs) and buy 2 x $400k properties at 90% LVR (88% seems to be the optimal though).

 

Sounds like you have the idea and Grey Ghost summed it up nicely.

You need to go to higher leverages (hence paying LMI) or wait for/manufacture more equity.

This is why the first couple are the hardest (from a deposit point of view at least), if you have a few good properties in different markets then hopefully one will have grown and provide for the next deposit. At this point there are new fish in different kettles to deal with.

 

You've pretty much got it. There's equity in property #1. You release that equity as cash, then use the cash to pay a deposit and purchase costs on property #2.

In your example, the total LVR against your PPOR would become 80%.
($360k + $104) / $580k = 80%

If you're buying a $500k property, you'd have about $25k in purchase costs, so after this you'd have about $79k left. You'd need to borrow the remaining $421k which gives you an LVR over this property of 84%. Realistically you'd probably borrow 90% instead and keep the extra cash for a rainy day fund.

As time goes on, the values of both properties increases and at that point you can repeat the process.

 

Thank you all for your replies.....much appreciated !

Glad that I am on the right track

Just one more question. When I go for finance for IP # 2 do I apply for another separate LOC ? I know I would have to keep all loans and expenses separate for each property for tax purposes but if I ended up buying 10 properties would that mean I would have 10 different LOC?

 

You could have one LOC and then apportion the interest.

But you might want to incorporate all loans relating to one property into the same loan - which means you would wait for some equity to build up and then increase the main loan and refinance the LOC debt (before it is mixed)

 

See Tax Tip 36: Consolidating Loans for investment properties

 

Technically yes, you could end up with 10 different equity loans.

Over time however, it's possible to 'clean things up'...
* If IP #1 inceases in value, you can do an increase on that loan and use those funds to pay off the equity loan you used for its' purchase.
* Now that the first equity loan is fully paid off and full of cash, you can then repurpose it and use that loan for the purchase of the next IP.

Building on the previous example, after the purchase of IP #1 the figures look like this:

PPOR:
Original loan: $360k limit, $360k owing.
Equity loan #1: $104k limit, $104k owing.

IP #1:
Loan: $421k limit, $421k owing.

Over a couple of years IP #1 increases to $657k. You go back and increase the loan on this IP to 80% of that value. The loan now looks like this:

IP #1:
Loan: $525k limit, $421k owing, $104k redraw.

Transfer the money in the redraw to the PPOR Equity loan #1:
PPOR:
Original loan: $360k limit, $360k owing.
Equity loan #1: $104k limit, $0k owing, $104k redraw.

All of the money used to purchase IP #1 is now borrowed against IP #1 and you've got an equity loan ready for another IP purchase!

 

Step 1. Decide you're ready to buy the next property
Step 2. Talk to one of the expert MBs here to arrange finance and structure loans appropriately. They can organise new valuations etc and recommend the best way to go.

Valuation, New LOC then new IP loan, that's the order it works. Yes you'll have a lot of accounts to monitor if all goes well. 1st world problem

 

@Miss Monopoly - Thats ^^^^^ good advice as I gleaned from your post that you are applying to the bank yourself?

Ok if you understand exactly what you are doing. Kick my arse if Im wrong haha!

 

No, I learnt my lesson getting finance for my first IP - cross collaterised and didn't even know what that was until I stumbled across Somersoft six months later. Turns out I made every mistake in the book with the first IP so have been reading and learning from you guys before the next purchase. Thanks again for all the info....very grateful !

 

@Miss Monopoly yep I also learn a heck of a lot from the contributors on this forum.

All the best with real life monopoly