I recently purchased a 2 br unit for $185k. The mortgage is $160k. The unit is in fairly rough condition, and I intend to renovate (primarily cosmetic) it in the next 6 months to increase its value, while it is my PPR. It is located about 8km from the CBD, very near public transport, and in an area of good (and proven) growth potential.
I have bought it with vacant possession, but the previous tenants were paying $175/week and I have been told that I could expect $200-210/week with cosmetic improvements.
I have calculated that with extra repayments, the remaining mortgage should be about $130k in 12 months, and I believe I could conservatively expect an increase in value of the property to $200k with the planned reno (this is at today's prices, judging by sales figures of renovated units in the area).
When I have been in this unit for 12+ months, I would like to use the equity to purchase another unit in the area, of a similar price and condition, and rent out the first. (To give a broader picture, my ultimate aim is to purchase a small detached house for something like $500-600k today prices, within 5 years, but could not expect to do that on my income and alone).
Leaving aside questions of income, tax, etc., how much equity should I plan to have in the first unit before I consider investing in a second? Will I be in a position to enact this plan in 12 months?
Total equity of 20% would be considered reasonable (provided you can service the loans – including if things go a bit awry eg interest rates, vacancy).
So if you have two units valued at $200,000 each, 20% of that would be $80,000. On your workings above you would be close to that after 12 months.
Hello Marl
Banks will usually allow you to top up your loan to 80% of the current valuation so if your unit will be worth $200K and you believe that your loan at the time will be $130K then you should be able to pull out $30K of equity.
However, why would you do it this way ?.
Instead of paying down your loan by $30K you should deposit the extra repayments into a 100% offset account linked to your loan. The interest saving will be the same. You will also be better off if your loan is IO rather than PI.
When you are ready to buy the next unit you then use this $30K as deposit and costs. When you rent out the first unit the interest on the full $160K becomes tax deductible.
If you had paid down the first loan and then re borrowed the $30K to fund the second unit, only the interest on $130K would be tax deductible as the other $30K would have been for personal use (funding your home).
Here is a link to a good explanation of the advantages and use of an offset account by Qlds007
But that hasn't actually answered your question.
$30K should be enough as deposit and costs for the next unit if you don't mind paying LMI again. To avoid this cost you will need about $48K ( $37K deposit plus $11K costs) to buy another $185K unit.
It's not possible to say whether you will be able to afford the second unit in 12 months without knowing how much negative gearing you can afford.
When you rent out your first unit the figures will look something like this.
Rental income $10,400 = (52 x $200pw)
Expenses $2080 = ( normally about 20% of rent to cover agents fees, insurance, council fees, water, repairs,
vacancy period etc.)
Interest $14,400= ( used 9% on $160K IO loan)Loss $6,080= ( $117 pw )
Of cause this loss will help reduce the tax you pay and you should also be able to claim some depreciation which will also help reduce the tax you currently pay.
It's great to see that you have a plan to get where you want to go and are willing to do the work.
Hope this helps
Elka
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