Tips for upgrading in the new lending world
Upgrading your home is one of life’s greatest achievements but managing the transition has become a lot more stressful in a thinner market plagued with difficulties in obtaining credit. Knowing exactly how to maximise your lending opportunities and the timing options has become one of the most critical ways to obtaining a competitive advantage.
As little as 18 months ago, many upgraders would have rolled the dice in an attempt to time the buying and selling process in their favour. But what lenders will and won’t approve and the risks involved has halted would-be upgraders in their tracks.
So what are the options and risks to consider?
An increasingly popular option is to go to market assuming that if the current home doesn’t sell for an appropriate price in time, that it becomes a rental property. This of course minimises transaction costs and moving stresses. From a lending perspective, the benefit is that the lenders will factor the future rent of the former home in determining loan affordability.
However unless income is particularly strong, this strategy can prove to be more difficult than first thought. The most common assumption is that the investment property will simply go onto interest only repayments over the short term. The difficulty comes in that, the lenders’ assessment involves determining whether household income (including small business profits and net rental income) can service 2 Principal & Interest Loans over 30 years (or less if retirement age is more imminent). In fact if Interest Only is adopted, it shortens the remaining loan term and puts more pressure on loan affordability.
It all comes undone when full expenses are taken into account. Lenders are less worried about Netflix than the media have made out. It’s the cost of schooling, insurances, basic household expenses and full rental property expenses that cause the problems. And if there are any other loans, they need to be fully factored, including business loans.
If the above strategy doesn’t work, it’s back to the drawing board with options. Ideally the purchase comes with a long settlement, with enough time to sell and settle. But with everyone trying to do the same thing, it doesn’t always work. So unless you’re lucky enough to have an alternative option such as moving in with parents or a family holiday home, it’s either “sell first and rent” for a period, or consider Bridging Finance.
Bridging simply avoids 2 moves and rental costs, but it comes with its own set of issues. Typically you’ll have 6 months to sell your home or 12 months to build, so the timeframe is quite tight given the current environment. The lender will factor the risk of having to sell the property for less than its true value, and it involves one of the loans being paid at a full standard home loan rate (5% plus) for the period of time that 2 loans are required. However the affordability of the loan is only assessed on a calculated “end debt” position.
The cost of bridging finance all depends on the value of the property being sold. Here’s an example where it would be more expensive than renting, but may be a lot less hassle in moving around. A family is looking to purchase a new property for $1.4m. They expect to sell their current home for approximately $1m and have a $500,000 mortgage remaining. They could expect to pay around $23K over a 6 month bridging period which would be equivalent to $885pw in rent. Bear in mind this cost is actually capitalised into the end loan, so is favourable from a cashflow perspective. There are risks of course, such as the final sale price and time taken to sell.
For more tips & advice, contact Lanie Conquest or Nicola Tucker at Surf Coast Finance
With over 40 years combined banking & financial services experience, they help local families & businesses make smart financing decisions.
Ph: 03 5264 7702