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What Kind Of Loan Should You Choose When Investing In Rental Property?
Once you have decided to take the leap and invest in rental property, the biggest and most important decision you now face is deciding what type of loan to use in order to acquire it. As there are many different kinds of home loan products available in the Australian market, Baxton Property Management in Hobart sheds some light on the different options to help you determine which one best suits your particular needs.
A home loan traditionally consists of two main components: the principal, or the initial amount granted by the lending institution, and the interest which is charged on that amount. The main difference between the various types of loans lies in the interest rate charged.
Fixed Interest Rate
A fixed interest loan is exactly what the name implies. The interest rate is fixed, usually for 1 to 7 years. The main advantage of this type of loan is the fact that you know what your repayments are going to be for the length of the term, so there can be no unpleasant surprises. The main disadvantage is the inability to take advantage of a lower interest rate, so you could end up paying more than you thought. The longer the term you fix the rate for, the more the rate charged escalates.
Variable Interest Rate
The main advantage of a variable interest rate loan is that if the rate comes down at some stage during the term of your loan, you will get to enjoy paying less each month in interest payments. However, this type of loan rests on an intrinsic gamble – if the rate should go up at any point, you will end up paying more until it drops again. Are you feeling lucky?
However, a variable interest rate loan does have other benefits which may outweigh this risk. It also leaves the option open to switch providers without being charged a break cost fee, which is normally charged with fixed rate loans. This allows you to shop around for better offers with other institutions. It also includes the availability of additional products, such as an offset loan account, which are not available to fixed interest loan holders. An offset loan account is a non-interest bearing savings account that runs concurrently with the loan. In return for not paying interest on the savings account, the lender calculates the loan interest differently, applying it only to the outstanding balance on the loan account, less the net balance of the savings account.
Split Rate Loans
This is a rather innovative product that allows you to split your home loan into a fixed interest rate portion and a variable rate portion. In this way you combine the best of both worlds; the fixed portion is predictable, while you gain the advantage of lower interest payments on your variable rate portion if the interest rate falls. If the interest rate rises you only have to worry about increased payments on your variable rate portion.
Interest Only Loan
The interest only loan is often used by investors looking to maintain negative gearing on their investments. This allows them to repay only the interest over a fixed period. Normally the rent they earn is less than the interest payment, hence the negative gearing. This makes these investors eligible to claim tax deductions for the interest paid. The advantage of this type of loan is a short term strategy, as those investors using it usually expect the property to increase in value quite rapidly, leading to a quicker turnaround of the property. This, of course presupposes that the property choice was correct and the property does quickly increase in value.
There are a few other loan type options but they are merely variations on these common themes. Don’t forget the most important consideration in this whole issue is what you can afford to repay on a monthly basis. If you are stretched very tight each month, for example, it wouldn’t be a good idea to take a variable interest loan. If the rate rises you could have serious trouble meeting your monthly repayments. It is wise to get expert advice before making your decision.
Once you have secured your property, we suggest you contact us at Baxton Property Management in Hobart to discuss your management options. Visit us at the Baxton website for more info.
- Rental Investors: What Size Mortgage Bond Can You Get?
- Rental Property Owners – When Will You Start Seeing a ROI?
- Is Cash Really the Best Way to Finance your Investment Property?
We hope you enjoyed this article
The information contained in this article is based on the authors opinion only and is of a general nature which is not indicative of future results or events and does not consider your personal situation or particular needs. Professional advice should always be sought relevant to your circumstances.
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