The Investment Property Loans FAQ 2023 for Property Investors in Australia
ARTICLE AT A GLANCE
It’s almost that time of year when hardworking Aussies get ready to down tools or switch on their out-of-office message and take a well-earned break.
While some of us are resolving (again) to exercise more often (seriously, it’s going to happen this year!), more and more Aussies each year are focusing their New Year’s Resolutions squarely on their finances, and thinking about their investment options for the year ahead.
Around this time of year, NBS Home Loans tends to receive a large number of enquiries about purchasing investment properties, so we decided to help simplify the loan process by answering some of the most frequently asked questions (FAQs) we receive about investment property loans.
In this article, we look at the different types of investment property loans available, how lenders treat different sorts of property income (such as rent from long-term tenants vs short term rentals), and how investment loans affect your borrowing capacity, as well as considering some other factors to think about when it comes to buying an investment property or holiday home.
Investment Property Loans – An Overview
Investment property loans can be used to fund the purchase or refinance of land, houses, apartments and sometimes commercial properties that are used for investment purposes.
In most cases, people seeking to buy an investment property will not have sufficient cash to purchase it outright, and this is where an investment property loan comes into play.
There are many reasons why people buy investment properties, including seeking a rental return, capital growth, or tax effectiveness.
Buying an investment property is a big decision and usually a long-term commitment, and there are a number of costs that you may need to factor in, so it’s important to obtain professional advice about whether it’s the right type of investment for you.
As a general rule, investment property loans tend to attract a higher interest rate than owner-occupied home loans, as lenders tend to consider investment property loans more risky due to fluctuations in the rental market.
In most cases, you can expect to pay around 0.2% more for an investment property loan, although this can vary among lenders.
A finance broker such as NBS Home Loans can help you find a great investment property loan for your needs and circumstances, and save you time and money by comparing hundreds of loans from a wide range of lenders on your behalf.
While NBS Home Loans does not provide tax or finance advice outside of credit (loan) products, we do work with a number of trusted financial advisors and accountants who can assist you in seeking the appropriate guidance about whether investing in property is right for you.
How Much Can I Borrow for an Investment Property Loan?
Your borrowing capacity is another term for how much you can afford to borrow.
Borrowing capacity takes into account your income, expenses, liabilities (existing debts) and assets (things you own). Although these factors may change over time, your borrowing capacity is determined when you apply for a loan.
Borrowing capacity also takes into account the current interest rate and minimum monthly repayments on the loan amount you wish to borrow, as well as adding an additional buffer.
As at December 2022, this buffer is set by the Australian Prudential Regulation Authority (APRA) at a minimum of 3% on top of the existing interest rate.
This means when you apply for a loan, the lender is not just looking to see if you can afford it based on the current interest rate. The lender will need to know you can still afford an investment property at an interest rate 3% higher than the current rate in case rates continue to climb.
Borrowing capacity varies widely between different lenders.
This is because each lender has different interest rates and policies around the income they will accept towards the loan, among other factors.
This means it is not always helpful or accurate to rely on lenders’ online borrowing capacity calculators when determining how much you can borrow.
It is vitally important to speak to a Finance Broker like NBS Home Loans who can provide a more accurate assessment of your borrowing capacity with a wide range of different lenders, based on your individual circumstances.
Can I Borrow More for an Investment Property Than an Owner-Occupied Property?
Many people find they have a larger borrowing capacity when it comes to investment property loans than they do when it comes to owner-occupied home loans, despite the fact that investment property loans attract a higher interest rate.
This is one of the reasons ‘rentvesting’ has become a popular option for people who would otherwise be priced out of their preferred area (see ‘what is rentvesting’ below).
There are two key reasons why you may be able to borrow more for an investment property than you can for an owner occupied property.
1. Investment Property Income | Investment Property Loans
Income generated by an investment property can usually be used to help support the loan application. This is in addition to your normal sources of income, such as money you earn from your job.
More income generally means you can afford larger repayments assuming your expenses stay the same or similar, and you can therefore afford to borrow more overall.
However, it’s important to note that most lenders will not accept 100% of the income – or proposed income – generated by an investment property when determining your borrowing capacity.
The majority will ‘shade’ this income.
To ‘shade’ income means lenders will disregard part of the income to cover any fluctuations in income or expenses that may occur.
When it comes to ongoing rental income (e.g. a leased property with ongoing tenancy), most lenders will accept around 80% of the income, although a small handful will accept more in some situations.
Most lenders also have a cap on the rental yield they will accept towards serving the loan – usually an annual amount of around 6% of the total property value, even if you actually earn more.
If the property is to be used for short-term or holiday lettings (for example, via Airbnb) lenders will generally accept less of the anticipated income from the property towards your borrowing capacity.
For more information about purchasing an investment property for short-term rental purposes, see the section in this article ‘Investment Property Loans for Holiday Lettings’ below.
Keep in mind also that lenders will also take into consideration your investment property costs as well as your income, so this will also impact your borrowing capacity. This means your capacity is only positively impacted if your allowable income is greater than your expenses.
2. Tax Considerations as a Property Investor | Investment Property Loans
Many property investors use negative gearing strategies where the income they receive from the investment is less than their costs for the investment.
In eligible cases, this allows them to claim a tax deduction for their investment loss such as interest paid on loans for investment property purposes.
When lenders assess your borrowing capacity, they normally factor in the expected tax you will pay on your income, which effectively reduces the usable income you can use towards paying off the loan.
If you will not need to pay tax on the interest portion of your investment property repayments, some lenders will factor this into your borrowing capacity, and your capacity will generally increase slightly to reflect the fact that more of your income is freed up to use towards your loan repayments.
It is vitally important that you check with your accountant or the Australian Taxation Office (ATO) to determine whether this is the case for your individual circumstances, as there are strict rules about when a tax deduction can be claimed on interest payments.
It’s also important to talk to us about how different lenders’ policies about investment income and deductions will impact your borrowing capacity, as this varies significantly between lenders.
How Much of a Deposit Do I Need for an Investment Property Loan?
As with other types of property loans, aiming for a deposit of 20% of the purchase price of the property is ideal.
This means if you want to buy an investment property for $500,000, the ideal scenario would be to have a deposit of $100,000.
Having a 20% deposit opens up a vast range of loan options and can help you to avoid paying tens of thousands of dollars in extra expenses, such as Lender’s Mortgage Insurance (LMI).
However, if you already own other properties, it may be possible to use equity from an existing property in lieu of a cash deposit. This means the lender secures part of the loan against your existing property in lieu of a deposit, in addition to securing the remainder against the new property.
It’s important to note that you need to have quite a lot of equity in your current property already for this to be a suitable option.
To avoid paying LMI, ideally the total loan amount you will end up owing after buying the investment property needs to be less than 80% of the value of all the properties you own.
In limited cases, it may also be possible to use a guarantor in lieu of a deposit to buy an investment property, particularly if it will be your first property, although this is not very common. This is where an eligible close relative – usually a parent – uses equity from their property in lieu of you paying a full deposit.
If you do not have any existing equity and you will need to pay a cash deposit for your investment property, the absolute minimum amount you will need to save is 5% plus enough to cover additional purchase costs like legal fees and stamp duty.
It’s important to keep in mind that the deposit plus purchase costs are not the only things you need to budget for when buying an investment property.
As well as your ongoing costs such as property management fees, routine maintenance and insurances, urgent property maintenance is often an unavoidable part of owning an investment property, so you should factor in saving an additional cash buffer to help you should any emergencies arise.
How Do I Apply for an Investment Property Loan?
The criteria for applying for an investment property loan is largely the same as applying for an owner-occupied home loan.
Lenders look for factors such as stable and ongoing income, manageable expenses, a good credit history, and sufficient cash or equity for a deposit. If you have existing loans, such as loan on your existing owner occupied property, lenders will be looking to ensure you can afford the additional commitment of an investment property loan.
It is important to speak to NBS Home Loans well before making any offers on an investment property to determine whether you are a good candidate for an investment property loan and to understand your maximum purchasing budget.
The process of applying for an investment property loan is also similar to applying for an owner occupied home loan, although some additional documentation is usually required (see the ‘What documentation do I need to apply for an investment property loan’ section below.).
What Documentation Do I Need to Apply for an Investment Property Loan?
Applying for an investment property loan is very similar to applying for a home loan.
At a minimum, you can expect to provide the following documents when applying for any type of property loan:
- Six (6) months of bank statements, credit card statements and existing mortgage statements, if applicable (we can make this easy by providing a link for you to upload them electronically directly from your online banking)
- At least your last two (2) payslips for PAYG employees or financials and tax returns for self-employed applicants
- Statements for any other liabilities or income you may have (e.g. child support income, HEC/HELP debt, rental income, Buy Now Pay Later facilities etc.)
- Evidence of your deposit and sufficient savings if you are buying a new property
- A property contract if you are buying a property (this is not required for refinances), or a building contract if you are building a home.
- Other documents specific to your individual circumstances (we’ll let you know if this applies)
In addition, when you are applying for an investment property loan and wish to take the anticipated income from the property into account, you will also need to provide evidence of ongoing income in the form of documents such as:
- Rental statements and/or a signed lease for tenanted properties
- Transaction history showing rental payments
- Tax return and Notice of Assessment showing investment property income (particularly if the property is privately rented)
- A rental valuation for properties that are not yet tenanted
Keep in mind that all lenders have slightly different requirements, so NBS Home will Loans let you know what documentation you will likely need to provide in your particular circumstances.
Do Investment Property Loans Have the Same Features as Owner-Occupied Loans?
Investment property loans offer a similar range of features to owner-occupied home loans.
Generally, you can choose between:
- Fixed and variable rate loans
- Principal and interest repayments, or interest only repayments (note that most lenders only allow 5 years of interest only repayments, with a small number offering longer interest only periods for investment property loans).
- Basic loans with low fees, or full service loans which generally attract a monthly or annual fee but come with additional features such as a fee-free offset account or annual fee-free credit card
Depending on the loan type you choose, you may also have the ability to make extra repayments and redraw them as needed (although note that these features tend to be available on variable rate loans and much more limited when it comes to fixed rate loans).
What is Rentvesting? | Investment Property Loans
The last few years have been an economic rollercoaster ride.
With rising interest rates and a high cost of living, many would-be home buyers have struggled to get a foot in the door when it comes to the property market.
These factors have lead to a large number of buyers turning to rentvesting.
Rentvesting is the term coined to describe purchasing an investment property in an affordable location, while living and renting in your preferred location.
This strategy is particularly popular among buyers who are priced out of their preferred location but still see a benefit in owning property.
Traditionally, property investment has been seen as something only for the wealthy or older generations who have already established themselves financially, but the concept of rentvesting completely flips this script and makes investment property acquisition more accessible than ever.
Instead of starting off in an owner-occupied home and slowly expanding your property portfolio to acquire investment properties down the track, it’s worth chatting to NBS Home Loans about whether an investment property loan might be a good option to help you enter the market.
Investment Property Loans for Holiday Lettings (Short-Term Accommodation)
Have you ever had an incredible beach holiday and wondered what it would take to get your hands on a small piece of paradise of your very own?
While for most of us, rising interest rates and high inflation mean that this year’s holiday period might be a little less ‘2 weeks on a tropical island’ and a little more ‘Paddlepops at the public pool’, there’s little doubt that many of us dream of owning a beachside getaway or country escape of our own – especially if we can also rent it out to make an income when we’re not using it.
If you are looking at a loan to purchase a short-term holiday rental, there are a few extra considerations to keep in mind.
Short Term Rental Income | Investment Property Loans
Many people purchase holiday homes with a view to rent them out via high-cost, short-term holiday lettings (e.g. through companies like Airbnb).
However, there are only a small handful of lenders who will accept short-term rental income in support of a loan application, and usually, they will want to see at least 12 months of ongoing history.
If you are buying a property with the intention of using it as a short-term holiday letting, most lenders will instead look at how much the property would achieve in rental income if it was leased to a long-term tenant.
This is often a significantly lower amount, especially in areas that may be less desirable outside of peak holiday seasons.
Size and Postcode Restrictions Using a Property as Security for a Loan | Investment Property Loans
Many people also consider buying small properties, including studio apartments, for holiday lettings. It is important to be aware that most lenders will only accept a property as security for a loan if it meets minimum size requirements.
For the majority of lenders, the minimum required size of a property is around 50m2 although a limited number may consider smaller properties in some circumstances.
Many lenders also have restrictions on lending against properties in certain postcodes, particularly in remote areas or areas with largely transient populations, as these are considered riskier from the lenders’ perspective.
This means they may be willing to lend you less money towards the purchase of the property, and will require a larger deposit.
Size and Postcode Restrictions Using a Property as Security for a Loan | Investment Property Loans
Finally, it’s important to be aware that some holiday lettings are under a restricted management agreement and cannot be leased out on a long term basis; they MUST be used for short term holiday rentals.
This is often the case for apartments or villas in established resorts or conference centres in popular holiday areas.
There are a very small number of lenders who will consider these types of properties at all, and the amount they will lend against them tends to be very low.
If you are thinking of purchasing an investment property for short-term holiday lettings, it’s very important to talk to NBS Home Loans before making any decisions to ensure that you are likely to be approved for the loan type and amount you require, and that the property is likely to be considered acceptable security to a lender.
Managing Your Investment Property | Investment Property Loans
While managing your own investment property can seem like a simple way to avoid management costs and keep more of the rent flowing towards the mortgage, there’s a lot more to it than making sure the house is still standing and collecting the money.
Effective property management involves properly screening tenants and having an in depth knowledge of the relevant legislation and rights of all parties, as well as managing lease agreements, payment authorities, bond lodgement and property inspection reports.
Having a professional, trustworthy property manager available to handle inquiries, and deal with potential issues such as property damage or a broken lease, can pay off.
NBS Home Loans works in partnership with our real estate arm, NBS Real Estate, to provide high-quality investment property management services at affordable prices across the Sydney and Central Coast regions.
Together, we can assist with investment property finance and management throughout the life cycle of the property.
How to Get an Investment Property Loan | Next Steps
As a home and investment loan expert and fully licensed real estate agent, Marty has the expertise and experience to assist you no matter where you are in your property journey.
NBS Home Loans has written a helpful article for Australians on UNDERSTANDING INTEREST RATES, expanding further on our information here: https://www.nbshomeloans.com.au/understanding-interest-rates-in-australia-in-2022/
At NBS Home Loans, we have over 20 years of lending experience and are passionate about helping first-home buyers into their own homes.
If you have questions about home ownership as a First Home Buyer or want to organise an obligation-free chat about reviewing your home loan, contact us today on 0434 103 326.
For an up-to-date overview of the current rates on offer, visit our Facebook page at facebook.com/NBSHomeLoans
NBS Home Loans. No BS, just great loans and great service.