Getting the right finance strategy ensures you can continue expanding your portfolio safely. Your Investment Property asked Michael Lee how to get the best finance deal for your investment property.
If you have ever been to any kind of seminar, you are likely to be familiar with the saying, “You get out of it what you put into it." When it comes to porperty financing, the same seminar principle applies.
If you don’t understand exactly what you need from your mortgage, or you don’t take the time to shop your deal well, or you avoid getting impartial professional help, then you’ll probably wind up getting an ordinary mortgage with an ordinary lender that’s overpriced… and you could be talking about paying up to 10% more than you need to in interest and fees. Now that’s a big deal, because as an investor, the deal you get on your mortgage hits your bottom line regardless of whether you are a yield or capital gain-based investor.
1. Fix your exposure
As an investor, you are subject to all sorts of management of a portfolio a little challenging while you wait for capital gain (if that’s your primary focus).
Vacancy, tenant issues and market competition affect your income, while council rates, managing agent fees, insurance, maintenance and interest costs all affect your expenses. All of this affects your bottom line. Among these factors, your interest bill is the only one you can readily influence and stabilise, which reduces the cash-flow volatility of your investment.
As an investor, it's prudent to consider taking a fixed rate on your investment loans taking care to make sure:
- Your fixed term doesn't exceed the period you expect to hold the property;
- There is enough capacity within the fixed-rate loan to accept extra payments you anticipate without penalty(assuming you don’t have any personal debt where that money could be put to better use);
- You do not deposit extra payments you may need to access during the fixed-rate period.
If you don't have personal debt and you will make extra payments against your loan that you also want to access, work out how much those extra payments are likely to tally during share of your loan.
And when it comes to making comparisons between different deals, base them on the rate type for the larger split. For example, if you work out that 80% of your loan should be fixed rate term as this will most likely have the greatest cost impact over
2. Shop the market
Buying a home is like buying a loan – except if you borrow more than 75% of the property value, you will probably wind up spending more on your loan in interest and fees than you paid for the house.
The relationship between real estate agents and property vendors is pretty similar to the relationship between conventional mortgage brokers and lenders.
Investors sometimes forget vendors and lenders have something to sell and real estate agents and mortgage brokers sell that “something” in exchange for commission from the vendor and the lender. The more money the vendors and lenders stand to make in a transaction, the more commission they pay their real estate agents and brokers – even when that winds up costing you more, too.
The smart approach is to shop your mortgage taking basically the same approach you did to shop for the property.
- Work out what you need from the business that arranges your loan (eg face-to-face or online service)
- What you need from your actual loan
- Get some prices from a range of sources, but don’t get preapproval from all of them as this will affect your credit rating
It's a good idea to choose a few brokers rather than just one as different brokers favour different lenders so one broker may be able to get a bigger discount from the same lender on the same loan than a broker up the road can arrange.
You should also choose some lenders on and off the broker’s panel, because brokers might promote a panel of 15-plus lenders, but research shows that 62% mainly use four lenders or less. If you really want to test how many lenders a broker compares, ask them to produce a printout of Total Individual Costs (TICs), including loan feature comparisons for the best loans from 10 lenders that you pick from their panel. The broker should also add the three or four they think are best if they’re not already on your list.
Investors sometimes forget vendors and lenders have something to sell and real estate agents and mortgage brokers sell that something in exchange for commission
If you don’t have time, or you are worried you don’t have the skill to do it, consider hiring an accountant or independent adviser to do it for you, after all that fee is probably tax deductible for investment advice, and a better deal on your finance means more money for you out of every investment. The key is to make sure whoever does your number crunching is professionally competent and fully independent, which means they don’t have a lender alliance or associate mortgage broker.
3. Keep them guessing
If you want the best mortgage deals today, tomorrow and in the years after that, then never show the deal you get from one competitor to another when shopping your mortgage. The reason is simple and many borrowers mess it up by trying to be too clever by half.
The fact is that lenders and brokers do what they do to make money and I'm yet to find one that will work for free. Fair enough, of course, but the bottom line for all business people (like you and your investment portfolio) is they want to make as much money with as little effort as possible.
That means when it comes to discounting, both lenders and brokers only want to give away “just enough” to win your business. If you get a sharp deal from one provider and show it to another, then you’ll probably wind up with one of two responses.
- The first is sorry, no can do.
- The second is to shave a little here and shave a little there. Sometimes it might even seem like they’re shaving a lot, so make sure you TIC it before you take it. If the deal is real, then the next question is ‘Wow, if they came down that far, how much further can they go?’
If you’ve already shown your hand, you’re left to take the deal when it may not be the best they can offer, or it leaves you teetering between different providers in some kind of time-consuming reverse auction until one or all of you get sick of each other. The simple alternative is to just say, “Here I am, this is what I have to offer, this is what I want. So what’s your best deal? If it’s good enough, you’ll get my business. If not, you can try again when I need my next loan.” Which brings us to an important point.
4. Don’t price match
You might have already noticed that smaller competitive businesses are getting swallowed up or squashed out by the big players with deep pockets. Price matching helps this along by allowing clever, pseudo competitive players to take a small hit on an individual sale to snatch the opportunity from the business that really was fighting the competitive fight. If you want an example, take a look at Bunnings. Its catch cry is ‘lowest prices guaranteed’. So if you show the hardware chain a lower price on, say, a particular shovel, it’ll beat it – by just enough and subject to some terms and conditions. The moment they do that, Bunnings knows it doesn’t have the lowest price on that shovel, but it doesn’t change its retail price across all stores for that shovel, just the one it sells to you. So the shop that was on the front foot to win your business misses out on the sale and there are only so many times a business can do that.
If you want the best deal, take it when you find it and kiss the lazy price matchers goodbye, otherwise the next time you need a loan, you might not have as much choice or competition as you do today.
5. Understand cross-collateralisation
If you're only buying your first property, then you can skip ahead on this… for now. However, if you already have one property and are buying your second or third (even if one of those properties is your PPOR), then it pays to understand cross-collateralisation.
Cross-collateralisation is the simple way of using equity in one property as the deposit for another, which essentially means financing multiple properties with one lender. It’s not impossible to have multiple properties with one lender and not cross-collateralise, however that’s a little tricky so let’s save that for another day and just assume that two or more properties with the same lender will create cross-collateralisation.
UPSIDES AND DOWNSIDES OF CROSS - COLLATERISATION
For some investors, cross-collateralisation is good, for others okay and for some, a nightmare.
Advantages of being with one lender:
- Upfront and ongoing fees are likely to be lower.
- Time taken to get an application for a new property will be less.
- Discounts are likely to be higher.
- Management and moving deposits and redraws between accounts is simpler and faster as everything is in the one spot.
- You are a “bigger” customer and therefore should have better on your deals, however that really comes down to your ability or your advisers ability to negotiate coupled with the size, attitude and mood of your lender. In other words, mark this advantage as a definite maybe.
- You extend the power of your lender over you and your decisions.
- Adding or removing one property affects your whole portfolio.
- The financial health of one property can affect your whole portfolio.
- One small change, like selling, can trigger multiple valuations and with that, multiple valuation fees.
In a nutshell, if you are an investor that makes fairly frequent changes to your property portfolio (ie flipper), or your properties are either a mix of high-risk / low-risk assets, or high-growth/low-growth assets, then you really ought to think carefully before cross-collateralising as the disadvantages probably outweigh the advantages.
It might be a little extra work and it might wind up costing you a little more, however you can avoid cross collaterisation and still use the equity from existing property relatively easily. You just need to release equity from your existing properties through top-ups or redraws, then take that cash as the deposit for your new property loan with a different
lender. The bright side of all of that: any extra cost should be tax deductible on investment properties (for now) and in any event. it buys you a bit of insurance by protecting individual assets in your portfolio from changes in the other.
6. Consider professional unbiased advice
Little over a year ago, rules changed to restrict the use of impartial, unbiased and similar terms where a business receives commercial incentives that produce a conflict of interest. Although professionals offering impartial advice remain a little scare, the numbers appear to rising, making it simpler to get help which puts your needs first.
Between growing adviser numbers and advances in technology, it should become increasingly easier and more affordable to find an independent mortgage adviser, or financial adviser or accountant that is not associated or paid by either a lender or conventional mortgage broker.