More than 90 per cent of property investors own two properties or less – usually for lack of further borrowing capacity.
Recent statistics released by the ATO show there are an impressive 1.8 million property investors in Australia. What is more interesting is the number of investment properties held by each. Of these investors, 73 per cent own one investment property and a further 18 per cent own two, so more than 90 per cent own two properties or less.
As attractive as an investment vehicle property is for providing for your retirement, you will likely need more than one to two properties to achieve your retirement income requirements, even with superannuation included. The most common reason for people not owning more properties is they are unable to raise finance for further purchases.
However, in many cases this problem can be avoided with a bit of smart planning upfront.
For some reason we tend to treat our investment property purchases as almost a hobby, whereas it should be thought of as a business for us. Like any business you will be more successful if you are clear on your objectives and use these as a basis for a business plan.
For property investment, your objectives should be based on how much income you want to be generating from your portfolio at a period of time in the future.
Having an objective of “10 properties in 10 years” is meaningless and takes no account of debt levels, quality of properties, or how much income is left for you.
An example of a more meaningful objective would be to replace 50 per cent of your current income in seven years and 100 per cent in 15 years. From there you can work out what is required in property asset value after debt and start to formulate a property accumulation and debt plan around this. Where most investors get stuck is buying one to two properties and then finding they have used all their borrowing capacity and can’t get another mortgage until the existing facilities have been paid down.
The reason for this is usually not that their earnings or investments are not adequate. It is because the mortgages have been structured incorrectly. The main reason for this is lack of upfront business planning and allowing your bank or broker to take a “one mortgage at a time” approach. When you allow this you will soon paint yourself into a finance corner. This happens because the bank is invariably going to ask you to 'cross-collateralise' your loan.
Cross-collateralisation is when two or more properties are used together to secure one or more loans with the same lender. This might sound reasonable as the bank is using all your properties as security for the total loan, but it can be very restrictive when you want to use capital growth equity to finance a deposit on your next purchase. When building a portfolio of properties, the capital growth in your existing properties is the key to funding your growth by providing the deposit on the next property. This provides the opportunity to expand your portfolio and it is therefore important to maximize this opportunity.
The constraint with cross-collateralising is you are effectively bundling your portfolio. So when you want to have a property revalued to free up equity the bank will insist on having the whole portfolio revalued as it is one collateral arrangement. If you have recently purchased a property or it is in an area that hasn’t performed it will drag the valuation down, thereby restricting how much equity you can use for your next deposit.
A better way to do this is to arrange one loan attached to each property so each stands alone. If your bank refuses this then you can go to another lender for that mortgage – there is no need to stick with one lender. When you are ready to make your next purchase you can choose which property to free up equity from based on its valuation relative to the one mortgage.
You will find this a much more flexible approach and enable you to significantly boost your borrowing capacity and therefore investment portfolio.
Tim Boyle from Finalytics Financial is a chartered accountant, mortgage credit adviser, and active property investor. He has over 20 years’ experience in finance, accounting, and consulting and has worked in corporate life in multiple countries. He now has his own thriving consulting business specialising in property finance. He prides himself on bringing his vast financial skills together with his belief in property to empower those wanting to buy their own first property or improve their life choices through property investing. Tim is based in Melbourne.