A common way to build a property portfolio is by using your home’s equity to purchase an investment property. We look at what equity is and how to use it to buy a property.
If you already own a home, a common way to boost your property portfolio is by using your equity to purchase an investment property. Let’s take a look at what equity is and how you can use it to buy your next property.
What Is Equity And How Do You Increase It?
Equity is the difference between the value of your property and the amount you still owe on your home. For example, if you have a $750,000 property and you still have $450,000 left to pay on your home loan, your equity would be $300,000.
You can use the equity in your home to pay for many of life’s big purchases, including renovations, holidays or cars, but financially savvy Australians often use it to invest in the property market. Using equity to purchase property can be a really effective way to build wealth.
Over time, your equity increases as you make more repayments on your loan. You also build equity when the value of your property increases, either by natural capital growth in line with market trends or by renovations that add value.
The Difference Between Equity And Usable Equity
It’s important to keep in mind that your full equity amount is usually not the amount that you can use for your next property. Most banks will cap their lending at 80% of your property’s value, unless you take out lenders’ mortgage insurance (LMI).
To find out your usable equity, you would first calculate 80% of your home’s value, then subtract the amount remaining on the mortgage. Using the example above, the usable equity would be $150,000 – 80% of $750,000 is $600,000, then you would subtract the $450,000 remaining on the loan. This leaves the equity at $150,000.
How To Use Your Equity To Buy Another Property
Your equity is typically used for the deposit on your second property, with your first home becoming a security guarantee on the new loan. You would then borrow the remainder of the property’s value, provided you meet the bank’s standard requirements.
While you do just have equity sitting against your property, there are a few steps to take to access it to purchase an investment property:
- Get your property valued. Your equity amount is based on the market value of your home now, not how much you paid for it when you bought it, and the only way to know the value is by getting a professional appraiser in. Your home might not be worth as much as you think or it could be worth much more, so this is an essential first step that will inform your budget for your next purchase.
- Do your research on loans by speaking to lenders about available loan products. They might all have different rules about how much equity you can use, so compare as many as you can before making a decision. If there is a particularly good loan available, many investors consider refinancing their current loans as well. On the other hand, some experts suggest keeping the loans separate. Speak to your financial advisor for guidance.
- Start searching for a property within your budget, with expert help from financial advisors and agents. Many experts suggest looking for properties around four times the amount of your equity. This would mean the equity would cover the full deposit and the banks will comfortably loan you the remaining 75%, without you needing to take out LMI.
Buying An Investment Property?
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