With house prices falling, more properties on the market and vendors increasingly willing to negotiate, you may be considering buying a rental property. So, are you in a financial position to purchase one?
We asked our SHARE advisers for the key things to consider before leaping in.
How much deposit will you need?
If you’re looking at purchasing an investment property, you’ll need at least a 40% deposit, with some banks making exceptions for new builds requiring just a 20% deposit. This means that, if you want to buy a $700,000 house as an investor, you’ll require a $280,000 deposit for an existing property, and a $140,000 deposit if it’s new.
Now, how can you get your deposit together? Many people assume that they need to pay their deposit in cash from savings. But if you already own the property you live in, you may be able to use the equity built in your home to cover part or all your deposit.
How can you use your equity?
If you’re planning to borrow against the equity in your home to buy another property, there are some calculations involved. Broadly speaking, banks that are subject to the Reserve Bank’s LVR rules allow you to borrow up to 80% of the value of the home you live in, including what you currently owe on your mortgage.
Here are the steps to follow:
- Consider the current value of your home – Let’s say that the home you own and live in is now worth $1 million.
- Calculated 80% of your home value – Using our example, 80% of $1 million is $800,000.
- Deduct from this sum the outstanding mortgage amount – If what you currently owe on your mortgage is $500,000: $800,000 – $500,000 = $300,000.
That’s the maximum amount that the bank may be willing to lending you as a deposit on another property – subject to other lending criteria, including servicing requirements. It’s important to note that your deposit could come from a mix of sources, like equity and cash if you have savings in place.
Can you afford to repay the extra amount?
When assessing your application for additional finance, your lender will run their affordability tests. And there are many factors going into this calculation.
For example, the lender will look at whether your budget allows you to meet your repayments, even if mortgage interest rates increase. Plus, they include in the calculation some expected extra costs and an allowance for periods of vacancies between tenants, where you’ll only be able to rely on other income and not the rental income to pay your expenses.
These are just a few quick examples, but if you’d like to learn more, get in touch. We will talk you through some key elements and handy formulas you can apply to check your affordability.
And of course, don’t forget to do your own budgeting exercise. Being a landlord can entail extra expenses like property and water rates, home insurance, tax, maintenance and repairs, periods of vacancies, and property management fees if you decide to work with a property manager.
What yield is considered good?
When shopping around, many property investors look for a property with a good gross yield. This is the total amount of revenue before any costs are taken out, usually expressed in percentage yield.
Here are the easy steps to calculate gross rental yield:
- Multiply your weekly rent by the number of weeks in a year – If you’ll be charging $550, you need to multiply that sum by 52 (weeks in a year). Your total revenue will be $28,600 (assuming no vacancy periods).
- Divide the total revenue by your property’s value – If the property you’re buying is $700,000, you need to divide $28,600 by $700,000 (=0.408) and multiply this by 100 to get a percentage. Your rental yield is 4.08%.
Now, back to the initial question: what’s a good rental yield? It depends on the property market and the region, but Interest.co.nz’s Rental Yield Indicator is a great place to start as it provides a guide to average rental yields across New Zealand regions.
Keep in mind that even low-yield rental properties can sometimes be a good option, depending on the purchase price, the area’s potential, and the ability to make cost-effective improvements.
How to maximise your opportunity
Not quite there yet? Or maybe, you’d just like to maximise your investment property opportunities? Here are some practical tips for you:
- Doing some renovations – If you can afford it, renovating your home can be a great way to boost its value (and the equity you can use).
- Paying down the mortgage faster – If you’re willing to wait a little longer before buying the next property, you may focus your efforts on repaying the mortgage faster until then. Once again, it’s all about building equity. Get in touch if you’d like to discuss potential strategies.
- Pay off your debt, including credit cards – Short-term debt can lower your borrowing power, so it’s a good idea to get debt-free.
We’re in your corner
Like to know if you’re mortgage-ready? Please don’t hesitate to contact us: you can click here to find a SHARE adviser near you.
Disclaimer: Please note that the content provided in this article is intended as an overview and as general information only. While care is taken to ensure accuracy and reliability, the information provided is subject to continuous change and may not reflect current developments or address your situation. Before making any decisions based on the information provided in this article, please use your discretion and seek independent guidance.