Tenants in common or joint borrowers – an important decision.

We are often asked about buying a property with a partner, be them friends or family as an easy way of getting into the property market or expanding a portfolio faster than your could acting alone.  However there are traps and technicalities you need to consider.

One answer is to buy as tenants-in-common where the ownership can be apportioned according to whatever ratio you desire but typically based on the amount of money/equity each person contributes.   The other way to purchase is a joint tenants – more common with husband and wife.

The main difference lies in the way the ownership is treated for tax purposes and for disposal.  So in the case of joint tenants one person dies the other person automatically inherits their share. Where as with tenants in common the deceased person’s share becomes part of their estate and can be left to another individual/s.  Also with tenants in common one owner can sell their share without impacting on the others ownership.

It sounds great and in reality it isn’t difficult to achieve as most home lenders are happy to lend with this structure and the legal requirements are minimal but in that lies the risk and downsides.

While all parties may start off with similar ambitions and plans, people’s circumstances change and what was easy to get into can become a nightmare to get out of.

In both cases all parties are liable to all of the debt (joint and severally liable) but only entitled to their share of the rental income –  the repercussions are very significant.

Let’s say two sisters decide to purchase a unit as an investment property. It’s unlikely that they are both on the same income and have same deposit and so they may decide to buy as tenants in common with big sister having a 60% share.  Both of their names will appear on the title however there can only be one lender involved with one mortgage although most lenders will allow split or shared loan facilities where there are several accounts each with its own limit and repayment schedule.  However both sisters have to guarantee the others borrowing in addition to their own – (this would still apply even one sister had saved all the funds and didn’t need a loan – she would still have to guarantee the other).  But let’s imagine big sister has a $250,000 home loan account and little sister has a $200,000 home loan account.

A year later  little sister meets Mr Right and wants to hook up and move into their own house – they apply for a $400,000 loan but get knocked back because little sister already has a $200,000 investment home loan and is also liable for big sister’s $250,000 loan.  What’s more she can’t offer the shared property as security because big sister would have to agree with probably another guarantee on a second mortgage.   Meanwhile the lenders will only include little sister’s 40% share of the rental income when calculating her borrowing capacity.  Suddenly little sister needs to sell but big sister for whatever reason doesn’t agree #%*$@#!     of course as tenants in common little sister can sell her share but who to?

The scary answer is ‘anyone’ and unless there is a co-ownership agreement restricting this then there is nothing big sister can do about it. The new co-owner is entitled to physical possession of the whole property, what happens to the tenant?

Things can get much worse where for example one of the borrowers becomes unemployed or heads overseas and can’t or won’t make their repayments – if it falls into arrears most lenders will impose a penalty interest surcharge ( typically 2%) on all the loans meanwhile the other borrower must make the payments for her, or risk losing the property on default.  Imagine how complicated this can become when one of your tenants in common is only an acquaintance or possibly someone you have never met ( remember either party can sell their share to anyone ).

It is vitally important that a tenants in common agreement and a co-ownership agreement is put in place prior to the purchase and that all conceivable contingencies are covered.  The agreement can state every one’s responsibilities but it may not protect you if one of the parties sells their interest.

One very useful use of tenants in common over joint tenants is for married couples where one or both parties have children from a previous relationship.  In a joint situation if Fred dies Muriel inherits everything and when she dies her estate (children etc) gets everything leaving Fred’s children with nothing.

Another useful consideration is where a couple want a parent to become guarantor as the parent’s interest can be protected by tenants in common to some extent by the co-ownership agreement and by  the child arranging a will naming the parent as beneficiary for the amount of the guarantee.

There is a lot to consider and you need good advice … my number is 1300 799 303

Buying off the plan

Off the plan purchase is all in the developers favour.

Would I buy property off the plan?  not in a million years!  That’s not to say that  lot’s of people are not happy with their off the plan purchase, but in my 12 years experience as a mortgage broker I have seen plenty of people get badly burnt and due to the very short notice to settle in most contracts the final process can be chaotic and therefore stressful.

Most recently this has been in the news as developers have deliberately stalled completion in order to invoice sunset clauses that allow them to cancel contracts ,  refund deposits paid and then resell the properties at as much 50% higher than the original contract price.  The NSW Supreme Court has just found that the developer is completely within his rights ….

Most people want a loan approval 6 to 12 months or even 3 years into the future and the truth is that approval is virtually worthless until the construction is fully completed and can be valued. A lot can happen in that time – off the plan finance

  • the GFC saw massive changes in lender’s policy and pre-approvals were torn up with unhappy abandon.  Lenders can and do change their policy and a pre-approval does not quarantine you from those changes,
  • credit legislation has severely affected a range of borrowers ability to obtain finance for investment – loans that used to be common are now unobtainable – so unforeseen changes can and do impact
  • government incentives come and go – NSW recently hurt their off the plan investors to the tune of about $20,000,
  • developers go broke or get into financial difficulty – your deposit will go with them,
  • developers/builders change things, even critical things like floor space,
  • you might change your job or start a new career – this can be crucial if it happens within 6 months of settlement,
  • you might get married or take holiday, using savings earmarked for settlement,
  • you might buy another property or a car or go guarantor – any of these can affect your loan chances.

Consider what are the benefits – you get a reduction in stamp duty –  you are told that you are buying below the final value however, that is something very difficult to substantiate and if it is true there is nothing to stop the developer manipulating the sunset clause in order to cancel your contract.  Don’t be misled this is at best a gamble.

In my current clients contract the design includes “pool, gymnasium and steam rooms” but all subject to development consent. It is so easy for the developer to deliberately submit plans that will not be approved.  It will be for the courts to decide if the failure to provide these, pretty key features constitutes a fair reason for the purchaser to rescind the contract.  The contract attempts to exclude the recission on these items and the courts will decide if that is fair and reasonable – either way the costs will be substantial.

So when it comes to developers/promoters don’t believe anything they tell you about what percentage of the apartments are already sold.  Even if it is true it is quite possible that the first say ten percent are sold by special arrangement quietly through buyers agents and investment groups at massive discounts just in order to appease the developers funder, we are regularly approached by developers offering fat commission payments  ( up to 10%)  for leads.

Check the contract, they are always heavily in the developers favour – such as notice to complete, it is not unusual for clients to call me asking can we arrange funds available in seven or ten days. The answer is always no!    I would not sign a contract unless the developers estimated end value is guaranteed to come up to market valuation and with a no-loss get out clause if it fails.

If the market turns down or a glut as is approaching in Melbourne then as construction comes to an end there is a panic by buyers whose situation may have changed and they are madly trying to off load their contract.  Or there may be as yet unsold units which the developer will heavily discount just to clear the books – these push final valuations down and can start a spiral of sales as more buyers are forced into unexpected equity calls.  A few years ago this spiral happened in Melbourne’s Southbank and for a while it was almost impossible to get finance at any LVR above 60% – which simply compounded the spiral.  As a result lenders are often still very hesitant to fund CBD or high density / high rise and even where they will, the insurers won’t insure and so maximum lending is 80% LVR

When you buy off the plan you are buying new and shiny and there is a premium in terms of the appeal for owners and for investors through higher depreciation.  However in most off the plan developments there are other developments in the same area and so as these come off the plan they will be newer and shinier and as a result the marketability  will reduce.  It is not uncommon for off the plan units to fall in value for the first two or three years so do not expect a quick capital gain – no matter what the developer claimed.

Do your homework :

  1. Check current comparable unit prices in the same area and look at the historical the trends, if there are no comparable data then that is not necessarily a good thing as you don’t want the  best unit in the worst suburb.  In ten years time it might be a fashionable suburb but can you afford to wait – in the meantime your rents or sales will be moderated by the median for the rest of the area.
  2. Check current rental prices on comparable property your rental yield is important not only to cash flow but future value as well.
  3. What else is being built in the area of similar style and price.  Consider if this may create a glut eg: Sunshine Coast or Gold Coast 2010/12 – if your development is unique – is that a positive or could it be too tightly focused on a single market eg: holiday renters.
  4. If this is a larger development then remember that when completed there will be a lot competition to attract renters which may push yields down.
  5. How financially stable is the builder / developer – do they have a good track record and sound financial arrangements.  Developers go under and the guy that takes over may not be as reputable as the one you started with.
  6. Get some contractual assurance that the property will value as predicted with either compensation or no-cost get out clause.
  7. Make sure contract allows for no-cost rescission (get out clause)  if the specifications change.  It is not unusual for what may appear small changes in layout to greatly impact your ability to finance eg: making the balcony or car park slightly bigger at the expense of internal floor space.  A developer may offer a second car park as a fob – but this won’t change lenders attitudes if the internal floor space is below policy.  If your loan is knocked back due to the valuer’s report highlighting this then you do not have sufficient time to seek alternative finance.  Do not skimp on the completion inspection make certain the floor space is acceptable under your loan approval. Fifty square metres is the magic measure although some (not all) approvals will go down to 40 square metres. Below 40 square metres you are in trouble.

Finally talk to your mortgage broker at least 3 months before completion – you need as much time as you can get just in case that indicative loan approval you have in your pocket isn’t worth a stamp.  You don’t want to be scraping around for a new home loan approval with only 21 days before settlement is due – some developers can be very ruthless.

Hey Dad will you go guarantor for my home loan?

“Hey Dad will you be a guarantor for our home loan?”  This is not a new question for Mums and Dads as guaranteeing your kids loans has been a common practice for decades.

My Dad guaranteed my first car loan way back in 1972 and without that guarantee I would have never qualified for the $850 loan that paid for my two year old Mini.   While many things have changed – the most obvious being the number of zeros at the end of any loan amount, young people today can still struggle to qualify for loans on their own.

We have arranged many loans for young people using parental guarantees – the legal and technical side has always been obvious however I recently became a guarantor for my own son and that gave me a new perspective on the process.

When we guarantee a child’s car loan, they are typically just starting out in the world and so probably in their late teens.  However when they require our help to buy a house they are more likely to be in the late twenties or early thirties and this is an important difference because it obviously means that we (the guarantor) are ten or more years older.

In my case I am in my late fifties and like so many people  my age trying to pump as much into superannuation as my lifestyle will permit.  I am also a self employed contractor and to complicate matters my home is in a remote rural area in a different state to where my son wanted to buy.

The criteria for my ideal loan, as the guarantor;

  • I didn’t want to have to provide two years personal and company tax returns – which is normally required for self employed,
  • I wanted a partial guarantee which means rather than guaranteeing the full loan amount, offering sufficient security only to cover the gap 20% between the purchase price and the amount where mortgage insurance applies.
  • I didn’t want to be forced to refinance my existing mortgage and therefore I required that the lender accept a 2nd mortgage for my guarantee

Why this criteria?  Well like so many people of my age I have substantial equity in my home – in fact I could pay it off tomorrow but I choose not to as I have access to a substantial redraw which I  consider a safety net.  If I was forced to refinance and maintain the redraw I then have to prove I can service this debt and because of my age I may be expected to do so over a much shorter term.  As a result I could struggle to show servicing and may not qualify to keep all of my safety net.

As usual not everything was as hoped for but we got through – here’s the kind of things that can throw a few spanners around.

So let’s say for example your child’s new house purchase price is $500,000 – they have some limited savings say borrowing required $490,000:

  • your home is worth $450,000 but the valuer comes in at $405,000
  • you have $150,000 in redraw but the lender adds 20% so it making it $180,000
  • the bank requires 25% of $490,000 guarantee security = $122,500
  • the guarantee plus the redraw = $302,000 which is 74.6 percent LVR

As you can see the 74.6% LVR only just squeezes in despite the fact that you may only have $10,000 in actual mortgage  left to pay.

Where the real crunch will come is if my second and/or third sons ask “Hey Dad will you be a guarantor for our home loan?”  Of course by then first son will hopefully have sufficient equity in his home to allow the lender to release my guarantee and free it up for the others.

CRM for Mortgage Broker – available on your iPad

ipad running KeyRelations mortgage broker CRMI have been developing an in-house CRM system for Peach Financial Group since 2002 using FileMaker Pro.  We wanted a system that was independent of their aggregator, which made life much easier when they moved aggregators in 2007.   Around that time  I released a free run-time stand alone version named Agent86 which has been used enthusiastically by a few brokers since then – just ask Laurie Gardner at NoFuss Home Loans in Melbourne.

The system has developed significantly since then as new versions of FileMaker have come onto the market and with the release of FileMaker 12 I have released KeyRelations V 5.0  you can now host the application on your desktop and share with up to 9 other users including iPad or even iPhones using a free FileMaker Go app.

To the best of my knowledge this is the first fully mobile, full featured CRM for mortgage brokers in Australia.

There is no need to sync devices, all you need is access to wifi or 3G mobile and you are accessing the full client database live just as if you were in the office.  With the iPad version some of the reports don’t work, so you may need to get back to the office to use the automated email generator – this produces product information, credit guide, proposal and quotation and even a needs assessment if required. Of course it logs that these have all been provided and even logs when they are returned.

Imagine being able to walk into a clients office, update their scenario and portfolio, scan all of their documents including ID in excellent resolution and then using the optional KeyPanel app you can select products based on fitting the individuals criteria and compare actual cost of home loan over whatever period you like and make a recommendation – on the spot.

The CRM system is a full back office and customer contact system with retention of all email and phone contact summaries, commission tracking (subject to data availability from aggregator)  and NCCP compliance.   The best thing is that for a small office the costs are very low with FileMaker 12 available for $379 per desktop installation  and FileMaker Go 12 for iPad completely free. You can even share your CRM over the web with up to 5 users absolutely free (some limitations on reports etc) – we don’t recommend this unless you are running a secure web server environment .

For a small one or two man brokerage Installation and training ( 4 hours virtual) costs only $750 one off with no ongoing fees, updates will be made available to use at your discretion.

If you have a group the system can be hosted ( from $59 per month)  and each user can access the system from their office or home or laptop or iPad.  Call me  to discuss your needs and I will give you a firm price.

Ban Break Fees or was that exit fees ..

I thought that headline would attract your attention and if you think break fees (break costs) are already banned then you are confusing exit fees and break fees which only apply to fixed rate home loans.

The truth is that as a mortgage broker I don’t support a ban on break fees, that would make our system more like the USA and I can’t think for one moment why we would want to mirror any of their mistakes.  Since (IMO) we already operate in an overly  regulated environment where so many of the regulations are pointless or perform contrary to the regulators intentions I do believe that exit fees need to be regulated and could be easily and fairly for all involved.

What are exit fees – these are sometimes referred to “break costs” or the “economic cost”  and is the amount of money that the lender will not make on the loan amount, if they have to re-lend it in the current market.  Obviously if rates have increased then the lender makes a windfall profit – which they generally never share.  Whereas if rates have fallen the lender may make less money than they would have and so they are entitled to recover the ‘economic costs’.

For example if you break a $350,000 loan with 30 months fixed period still to run and lender earns 1.50% below what you fixed at then you will be up for $13,125 in break costs.

Where I think the regulation is required, is that there is no single basis for how the cost is calculated.  Some lenders may compare the 90 day bill rates or their actual retail rate on the day but many use their cost of funds and there is no requirement for lenders to divulge any of this in the mortgage contract.   They are required to explain how the break is calculated which involves mathematics beyond the average persons comprehension and when you request a break fee quote they are compelled to again provide the calculation however they are only compelled to disclose the actual cost of funds if a dispute arrives at the credit ombudsman.  All under the name of commercial in confidence.  This means there is no way for you to compare the potential break costs of one lender over another.

Given that lenders score a free windfall if rates increase I think there should be some room for manoeuvring on this.  Why not simply quote a standard using the 90 Day Bank Bill Swap Rate ( BBSW)  which should be quoted on the mortgage document, just as the current standard variable rate is quoted and then calculate the economic cost on that against the current BBSW on the date of the break.  All above board and no need for lenders to disclose cost of funds or margins – too easy and too sensible.

Investment Home Loans

At least half of all of our clients are investors looking for investment home loans and when you consider the fifteen thousand inquiries that we have dealt with over the past 12 years then you would think  that we have heard them all, however almost every week someone comes up with a plan or strategy that has me scratching my head.  We are mortgage brokers and not tax advisors and the following is anecdotal comment not to be constued as individual tax advice.

What are the most common issues for investors:

  • Renting out the PPOR (primary place of residence) ie: family home  – there are very serious taxation implications in doing this.  The most important thing is to identify that this may be an option right from the start ie: when you first arrange the finance for your family home there is a very specific strategy that must be put in place there and then.  Failure to do so causes potential gearing issues that cannot be corrected and could result in costs of tens of thousands to rectify – get advice!
  • Using equity in your PPOR to purchase an investment property – yes you can do than and people do it all the time and end up with deductible interest on their borrowing.  However do not use redraw!  The original home loan on your  PPOR was for personal use and therefore the interest is not tax deductible – the tax office consider the purpose of the original borrowing when allowing or disallowing deductions.The investment borrowing  secured by your PPOR should be a separate loan account created specifically for that purpose.Likewise think very carefully before using funds in your PPOR offset account as a deposit for an investment property. It just doesn’t make sense to use after-tax dollars to purchase something that should be deductible.  You will usually be better off to reduce your PPOR loan balance by the offset amount and then re-borrow the funds (in a new investment home loan account) which are then deductible.Most lenders will allow that with existing loans however if you are looking to expand a portfolio it can be a good time to consider package options that offer you more flexibility.  While many lenders offer investment loans and residential loans there are rarely any differences in rates or charges, although LVR limits can vary.
  • You need to understand your investment strategy ie: are you looking for negative or positive gearing.  It is not my intention to go into the strategies as that is the realm of a financial advisor – and spruikers who promote their books or investment plans.  I urge you to be wary of the latter – do your homework but please do not be taken in by all of the claims that spruikers come out with.  For every over-night property multi-millionaire there are hundred of thousands of  investors who realise that it is unrealistic to expect things to happen quickly.If you have an aggressive accumulation strategy you need to take risks and lenders will quickly realise this and the easy approvals that you obtained early in your investment life, will vaporise.  Lenders do not like risk takers.  The recent commodity price downturn and possible end to the mining boom will result in many sleepless nights for borrowers who sought out high return property in mining towns.  Those $600,000 homes could be worth $200,000 almost overnight  – behind every boom there is a bust.
  • Beware of property with very high returns – superficially they sound like a terrific investment, however high return usually reflects high risk, or restricted market and can make finance very difficult to find.  Keep in mind that if you have trouble finding suitable finance then when it comes your turn to sell the prospective purchasers will likewise have difficulty and your potential sales market can be diminished.Traditionally regional areas offer higher returns mainly due to the lower cost base although this has been completely upturned in any mining affected areas.  None the less the down side is that usually regional areas do not have the same potential for capital growth that cities enjoy.Other examples of high yield properties are – CBD high rise, studio apartments, hotel conversions, student accommodation, mining hot bed houses, serviced apartments, holiday rentals, over 50 developments, resort style units.   Don’t expect lenders to get enthusiastic about these – they very often come with restrictive management contracts or planning restrictions which limit the uses.  Lenders are only interested in funding property that can if necessary be sold to the general market, including investors and home buyers and sell in a quick time frame.  Property with restrictions reduces the potential market and that will be reflected in the valuers assessment.

So what do lenders like?   Simple, they like normal everyday houses, multi-bedroom apartments in medium density developments (less than 30 units), town houses etc … in other words places where people can live and that can be easily sold to the entire market.

Acreage can be ok but don’t expect a residential lender to accept 120 acres of olive grove … because that is a farm not a residence.  Try and stay below 10 acres and with 10 km of a reasonable size town.  Outside of these specifications you may be looking at LVR below 60% as a maximum.

If your strategy is to gradually accumulate a portfolio of standard residential property using the growing equity to leverage additional property with an overall equity position of <80% then most lenders will be very happy to deal with you.  Some lenders limit the number of properties eg: ING limit is 5 and all lenders prefer no LMI involvement.  Also keep in mind that there are only two insurers and they have master limits so if you are relying on them your ability to grow will eventually be capped by access to insurance.

Find a mortgage broker that you can trust – my advice is that if you find a mortgage broker who will bend the rules for you then they might bend the rules against you…  I have heard of mortgage brokers turning up at an auction and bidding against their own client.  We are not that type of mortgage broker, we will play it straight and fair.

 

Buying another home

Downsizing, Upsizing, Seachange or Treechange

This article is intended for people who have already owned a home rather than first home buyers although much of what I wrote there still applies, especially if you don’t have much of a deposit. It isn’t specifically about new homes – just buying another home, although all is relevant to new homes as well.

I have also written an article on bridging finance that may be applicable to you if you have not yet sold your existing home and don’t really want to have to rent.

One of the major differences between buying a new home as opposed to an existing home is that there may be incentives in terms of cash bonuses or stamp duty concessions even though you are not a first home buyer.  Unfortunately with seven states and territory governments making door stop decisions and retractions it is near impossible to cover these confidently in detail.  If you are buying an established house then firstly don’t forget to allow for stamp duty – on average allow 4%  and so I refer you to you state’s office of state revenue – Offices of State Revenue Web Links New South Wales | Victoria | Queensland | Australian Capital Territory | South Australia | Western Australia | Northern Territory | Tasmania.

When I was buying my first home, you could buy a vacant block and build a new house for significantly less than buying an equivalent established house. That is still the case in some states however GST, state levies and local government charges have forced up the cost of development to such a degree that I believe that in Brisbane a new house can be $70,000 more than an equivalent established house.

Of course with a new house you get to choose style and design – you decide within reason the size of rooms and the quality of the fittings and even the structure – but usually this is only for the buyer who has sufficient funds to pay for all of this.. and an architect. For many people with more modest budgets they select a plan or design from what they see in project display homes and so are constrained to what the design can accommodate.  Virtually all new homes have to comply with minimum efficiency and fire resistance and this can be a real benefit.   It is unfortunately true that display homes often have better quality fittings than the plan specifications allow for and so you may not get what you hope for. However with a new home all of the equipment is new and everything has a warranty and if you have had a say in the design it is truly ‘your new home’.

With an established home you may be buying something with character and hopefully established garden – even the street scape on an established area can be a major draw card. Many established homes have passed the test of time, with real timber trusses etc.  I remember living in my parents home where all around luxurious looking new brick veneer homes appeared – and yet in the big storms it was always the new houses that came off worst.   However you may also be buying someone else’s problems, older houses simply require more maintenance and it is very common that new owners embark on some degree of renovation in order to place their stamp on the home.  Do not underestimate this when calculating your finances.

One of the first things that you may notice when applying for finance for a another home is how much more paper work and documentation is required.  This all due to the National Consumer Credit Protection Act ( NCCP) and act intended to protect you – in fact it smothers you in protection!  Thankfully the legislation applies equally to mortgage brokers and lenders, something past regulation didn’t do.  That aside the rest of the process has not changed a great deal – we need to see your payslips, or tax returns for self employed, your bank statements showing where the funds are coming from and any other information about income such as rental statements or expenditure such as car lease etc.

Once we have all that we can do a full assessment  and provide you with a formal recommendation, proposal and quotation ( all as required by NCCP).  Then if you are happy and appoint us as your mortgage broker we can proceed to lodge an application.  With most lenders this done online – of course before submitting we will present you a printed summary of the full application so that you can see exactly what we are stating and applying for in your name.

If you haven’t decided on the property your application will be for a conditional approval but please understand that only a few lenders issue conditional loan approvals that can be relied upon.  It can be very stressful to discover after making an offer that the lender has not even looked at your payslips and they suddenly start asking for more information – it can be disastrous to find out your application is not going to be approved, especially after the cooling off period has expired – please seek professional advice.

Once the valuations are completed (not all deals require a valuation) then the lender issues an unconditional approval and instructs their lawyers to prepare the mortgage documents.  We strongly advise that you get legal advice before signing these document, they are after all a binding contract – mortgage brokers are not legally qualified and so are not supposed to provide advice to you on the mortgage contract.

Once the mortgage documents are returned to the lender they then ask their lawyers to prepare for settlement, usually around 10 days later the loan will settle and you can take possession of your new / old home.

Home renovation finance

home renovation financeBy far the most common problem with home renovation is that it goes over budget – this is not an issue if you have made provision for this and all of your finances are in order.  But if you have decided to renovate on the sly, maybe using some savings, or redraw or credit cards and if you run out of money before the work is finished, the outcome can be very difficult, if not catastrophic.

Why? well start by reading your mortgage contract, you will find that you are not allowed to make any significant changes to the property without advising the mortgagee ( the lender ).  After all the house is probably the most important part of what secures your loan and the lender does not want you attacking their security with a sledge hammer unless they are fully informed.  So if you  knock big holes in the wall and then go to your lender and say “I need some more money please” – the first thing they will probably do is to point out that your are now technically in breach of contract.  They could do any number of things depending on how they feel about you at the time, including cancelling your mortgage and giving 21 days to repay in full – failure to do so resulting in all sorts of dreadful outcomes.

If you are lucky and have a good relationship and haven’t done anything too silly, your lender will probably arrange a building inspector then insist that you employ a licensed builder to complete the work.  If the work is really superficial such as painting, they may simply accept a couple of written quotes – but they will insist that the work is performed by a qualified person.  If your mortgage contract allows they may impose a penalty interest rate until you have the home back in an acceptable state.

And if you think that you can just tell your bank to go and jump and apply elsewhere – be prepared to be disappointed.  The majority of lenders will not touch a house that is not fully suitable for occupancy and that will be outlined by the valuer.  I know of only one lender who will consider a loan in this situation but keep in mind that if your credit cards are maxed out, you are not going to be viewed as the most responsible applicant.

So think twice or just do it properly, advise your lender and comply with their requirements.  For a small renovation they will probably request a few written quotes and a detailed list of what work is going to done and by whom.  For more significant renovations ie: any work that results in a change of the roof line eg: additional rooms then you will need to apply for a renovation construction loan.  Where you will use a licensed builder and he will be paid directly by the lender at specific progress points on the work.

If you have experience in the industry eg: a carpenter etc – then some lenders will consider a loan for owner builder.  However usually they will require you to perform up to a specific stage of the work using your own funds eg: lay the slab and then they will fund that amount, which then allows you to move onto the next stage.   If you don’t have specific industry experience or construction project management experience – your options are very limited and you should be considering a residential construction home loan.

Renting our your existing home – gearing issues

If it is possible that the owner occupied home you are about to purchase may in your future be rented as an investment property you need to put the correct strategy in place before you buy this home as there are critical taxation issues which if not addressed before can cost you potentially tens of thousands in the future.

I must preface the following by stating I am a mortgage broker not a tax adviser.  The following is my understanding of the situation from my experience with clients over the last 10 years.  Please have this confirmed professionally.

The tax office considers the deductibility of interest on a loan based on the purpose of the borrowing.    Obviously if you occupy the property the purpose of the borrowing is not deductible.  The problem arises when  you  then move out of that property and rent it out so it becomes an investment property – let’s call this property P1.  Many people think they can simply redraw on the original loan and use those funds to purchase a new owner occupied property (let’s call it P2 worth $500,000)  – and of course you can, however:

  • the tax office will consider the deductible borrowings on the P1 to be the minimum loan balance on the property during the period of owner occupancy – not the balance after you redraw as a result the redrawn funds are not deductible,
  • you then use the redraw and purchase P2 however all of your funds for P2 are borrowed and none of them are deductible.  Your gearing is all out of whack with $500,000 non-deductible borrowing and only the minimum debt on P1 deductible and to make matters worse – your rental income on P1 will now be approaching the interest costs and you are in danger of becoming positively geared and losing further tax benefit.

When clients come to me with this situation it is too late to correct.  Usually their tax advice is to sell P1 use all funds for P2 then use that equity to purchase a new P3.  The problem is you have selling costs on P1 and stamp duty on P3 – tens of thousands in costs just to end up with the same asset position, but geared correctly.

THERE IS A SOLUTION
Many lenders and brokers spruik about 100% offset accounts being a great way to pay your home off faster.  In reality there is little evidence to support that for most normal income earners.  However an offset account has enormous import for this situation.  The ATO considers an offset account to be a separate bank account and therefore treats it independently of the loan account.  The solution for you is

  • apply now for a loan for P1 preferably as an interest only home loan – you do not want to reduce your future deductibility. This must be done before your loan repayment begin to reduce the principal so it best done from the start,
  • establish a linked 100% offset account and you make all the additional payments you would have made on P&I loan plus extra payments into the offset account – not the loan account.  You are paying  interest on the net balance – therefore the loan is costing you exactly the same as if you were paying P&I.  Your net borrowing decreases however the original loan limit balance on the loan account remains.
  • Let’s say after 4 years you decide to rent P1 and purchase P2- you withdraw (not redraw) your funds from the offset account – the balance of the P1 loan account has not reduced – the purpose has changed to investment and so the interest on the entire loan amount is deductible.
  • You use the funds from the offset say $75,000 as deposit and borrow $425,000  – you have reduced your non-deductible borrowing by $75,000 and your deductible loan balance is full original amount and at this point in time the ATO are absolutely ok with that.

I hope that makes sense and if you do intend to rent out your home in the future  I strongly urge you to confirm this advice and then follow it.

This is a repost of an article that I wrote on peachfinancial.com.au

Home Loan Mortgage Refinance

Changes by the Australian Federal Government to laws affecting lender’s ability to charge early exit fees and to simplify the movement of transaction account/ auto payments etc between banks means that in may ways a home loan refinance is more painless than ever.  But of course the government gives and the government taketh away and the National Consumer Credit Protection ACT (NCCP) means that documentation requirements and procedures are more onerous that ever.

Why do people refinance their home loan?  Usually in order to get a better deal and/or a better product, but alas it is quite often as a result of a bad experience with their current lender.  According to independent surveys most of the big banks have over 20% of their customers less than satisfied at any given time compare this with lenders like Heritage at 92% satisfied (April 2012)  followed closely by ING and  meBank (Members  Equity).  This is part of what we take into account when making a recommendation after all we rely heavily on repeat and referred business and we only get that when you, our client are happy with the outcome that we arrange.

None the less that should not deter you as there can be potentially tens of thousand of dollars that can be saved by a sensible move.  The difficulty for the average punter is accessing all of the information required in order to conduct an accurate comparison … that is where we come in.

What we don’t know, we can find out because we have access to the lender’s internal broker web sites and access to broker support staff.  We also cross reference that with a number of tools to ensure that the information we are working with is as accurate as possible and then we can do the figures – see my article on cost of loan comparisons.

For a refinance generally we need to see your income documents, payslips, rental statements etc and loan statements for the last 6 months of the property/s being refinanced.  We will also need council rates notice for each property and recent credit card and other commitment details.

There is no need for you to contact your existing lender, although it may be a good idea to call them and ask to check if there are any exit fees (pre-ban) that still apply to your loan.  The other costs will be any applicable application fees, government registration fees, valuation and legal costs.  Sounds intimidating however we will be taking all of this into account and we will not recommend a refinance unless there is a clear, direct benefit to you… in fact this is a requirement under the NCCP.   The truth is that with most of our lenders ( that we would recommend) these extra costs are usually built into a single upfront fee typically $600 or an annual fee for packaged loans – typically $300 pa.

A refinance can be quick – say two weeks, but that is an exception.  There is no incentive for the old lender to cooperate and they can take 10 days just to arrange the loan discharge – a process that can’t begin until you have signed and returned the mortgage documents.  So it is best to allow around 4 week for a full mortgage refinance.   As I said to one of my clients recently, lenders who are offering fast turn around are doing so because they are not bust …. it is not usually too difficult to figure out why they aren’t busy.

Comparison rates just confuse me!

Don’t despair if you find Comparison Rates confusing because your not alone – in fact I think the regulators who made them mandatory failed to understand what they were doing.  Thankfully as of last year mortgage brokers are no longer required to provide comparison rates a decision that is something of an admission that they don’t really contribute.

Comparison rates were instigated in an effort to provide borrowers with a ‘level playing field’ when comparing one lenders product against another.  The idea is to take all fees and charges into account and then calculate what that equates to as an actual interest rate.  But alas it doesn’t work and here is why;

  • comparison rates are based usually on a 25 year loan term – where as most loans only last around 5 years before they are refinanced or changed.  As a result one lender with high upfront fees can look artificially competitive because those fees are being amortised over 25 years rather than 5 years.
  • lenders are supposed to include all fees, however what happens when a lender charges their annual $395 package fee onto your credit card account rather than your home loan account….
  • fixed rates almost always revert to the standard  variable interest rate ( a high base rate from which discounts then apply).  At the end of the fixed rate period the borrower has the choice of fixing again, refinancing or switching – no one in the right mind would simply allow the loan to revert to the full standard variable and that is why fixed rate home loan almost always have very high comparison rates …. best to just ignore them.

So what is the answer?

Well you could make the calculation over a much shorter period and that would help with variable rates but not really for fixed rates.  Or you scrap the whole idea and use my ‘cost of loan’ comparison – have a look and I think you will agree that it truly levels the field and provides the most accurate comparison.

First Home Don’t Panic – it’s only a home loan

Your first home loan – biggest decision of your life

fact or hogwash?

HouseFireI have heard so many people claim that arranging your home loan will be the most important financial decision in your life. That is quite simply hogwash! Think about it – since the federal government banned early exit fees it has never been easier or cheaper to switch home loans. Even if you select a bad loan you might have some application fees and maybe a few months of  higher interest rate so on a $350,000 home loan over say six months you may squander $1,500 – that’s not to be sneezed at and in itself is a great argument for why you should be using a mortgage broker. But think back, in recent years there have been major floods, fires and other disasters and in every one of those events there have been people whose home insurance has not been appropriate and the cost to those people has in some cases been hundreds of thousands of dollars.

And yet people spent hardly any time in selecting and arranging their home insurance – so let’s get all of this in perspective. It doesn’t matter if you are a first home buyer or a veteran at home refinance, as John Simons said  it is not rocket science!   It may be a 30 year loan term but is not a jail term – you can get out of your home loan at any time (unless you have fixed rates) – so think of it as a 3 to 5 year project because that’s how long most loans last.

Really the main difference between first home buyers and other borrowers is that typically the first home buyer has a limited deposit.  However in most states you still get substantial discounts on stamp duty and the first home buyers grant of $7,000.  There may be other incentives offered by your state government and it is best to check these directly – just google “office of state revenue mystate”.

One of the consequences of having a limited deposit is that LMI (lender’s mortgage insurance) will apply and as their are only two companies offering this insurance they have a great deal of influence over what the lenders can and cannot approve.  One of their main requirements is ‘genuine savings’ – these are funds that you have saved over at least 3 months and preferably longer.  The generally don’t include funds such as tax returns, sale of a motor bike etc – in other words they really want to see real savings.  Having said that if you can scrounge up around 5% deposit and if you have been paying rent through an agent for your current house for at least 12 months – you have a chance with some lenders.

Otherwise you need limit your borrowing to 90% of the purchase price or if you are lucky maybe Mum and Dad can provide some equity from their home and as guarantors reduce your borrowing down to 80% of the combined value of their house and the new house – then you don’t need genuine savings and you don’t need any deposit at all.

There are a few other critical things such as stable employment and clean credit history ( there is no such thing as a small blemish).  All lenders have different measurements so you need to understand just how they will view your application and – that is our job 😉

My company KeyChange works with the Peach Financial Group – in fact under contract I provide the services of general manager and head broker to PFG.  Peach are the broker who pioneered sharing their commission with their clients.  Peach also pioneered ‘virtual broking’ in that we don’t visit clients and all of our staff work from home.  Working from home (teleworking) was my area of speciality at the time and I guess that is how I ended up with Peach.  In 12 years I have only once met the CEO, I have never met any of the staff or clients face to face and yet I have spoken to over 10,000 people looking for home loans.

So if you are looking for a broker with a difference – why not give me call today.

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A few words on exit fees – ‘automated credit scoring’

As of 1st July 2011 bank exit fees became illegal on all ‘consumer regulated’ home loans  in Australia.  Now more than 12 months later the heavens haven’t fallen and there appears to still be healthy competition from the smaller banks – something that I thought would suffer.  More recently banks can no longer put barriers in place to stall customers switching to other brands as of 1st July 2012  it easier for borrowers to switch transaction accounts and direct debits banks.   All of this suggests that borrowers can take a loan out today and when a better deal comes along simply jump onto the better option.

However there is an elephant in the room and that is called “Automated Credit Scoring” (ACS).  This is a dark and secret process used by many lenders to filter out what they consider low grade applications and as the name implies the process is automated.  Even more disturbing is that in some cases there is no appeal process and a rejection is issued without explanation.

One thing that is certain is that your credit history and in particular the number of inquiries over the past 2 years is a very important factor in ACS.  These are credit inquiries and will include credit cards, store cards, personal loans, car loans and home loans.  The benchmark used to be 6 inquiries however the lenders keep their ACS criteria under wraps and it is possible that this is now reduced.

This can mean that if you applied for a loan 2 years ago and that application may have involved a new credit card then applied for a refinance 12 months ago in conjunction with a store card and say a car loan –  that will be 5 inquiries … what’s worse is that if that lender’s ACS knocks you back you now have 6 inquiries and things are getting worse.    So don’t get carried away with the idea of constant refinancing as you may just be messing your own nest.

Variable rate home loan – an explanation on how these mortgages work

As their name implies interest on a variable rate home loan varies!  Life used to be simple with these when lenders all followed the Reserve Bank (RBA) Cash Rate movements ie: when the RBA increased the Cash Rate by 0.25% every lender used to do likewise with their variable rates.  In those days we had a ‘standard variable’ interest rate that was pretty well uniform across all lenders. However today that is no longer the case as lender now pass on all or part or even none of the rate changes and this means that what is a competitive offer today may not be competitive only one month later.

Many people are attracted to ‘discounts’ offered and some actually base their decision on the size of the discount without realising that there is no ‘standard variable’ any more. So a 1% discount from one lender may result in the same ‘actual rate” as a 0.50% discount from another lender – don’t get lured by stated discounts – look at the bottom line interest rate.

Variable interest rate home loans come in a number of guises – the differences can be subtle but may also be critical to your needs.

To Good to True – Basic Variable Home Loan

These are often loans sold with a very low interest rate however you have to be very careful and ensure that you read the fine print. It is not unusual for these loans to have a fixed term eg:30 years and that term cannot be reduced by making additional or lump sum payments.  They also may be restricted to repayments monthly in arrears only and this can add considerably to the actual cost of the loan. If you don’t believe me give me a call with some figures and I will show you the comparisons.   These loans are becoming less common as they verge on breaching the consumer credit act.

Introductory Home Loans (Honeymoon deals)

These are a popular marketing tool for many lenders offering what appears to be a very attractive rate for 6 months, 12 months or even 3 years.  However after the honeymoon there is often a hangover and that usually comes with a higher rate.

Another thing to be aware of when taking a honeymoon option is that lenders who are offering special bonus package discounts (see below) very rarely pass these on at the end of the honeymoon period – so make sure that you get a pricing offer in writing.

Basic Variable Home Loan

These are loans that usually come with few frills however very often offer fantastic value – especially for first home buyers and average mum & dad home borrowers.  They will typically be Principal & Interest ( P&I)  ie: they do not offer an Interest Only (IO) option – they don’t offer an offset account however usually they will allow additional and lump sum repayments with redraw although this will probably have a fee of around $25 – but not always.  They will typically have an application fee – those that don’t will almost certainly have a valuation and legal charge which usually works out the same anyway.  It is also not unusual to have a low monthly administration of around $5.   For this type of product Heritage Bank are currently very competitive.

Packaged Home Loans ( Pro Packs)

These loans are often called Pro Packs because the were originally only offer to people in professions with minimum salary requirements.  I have heard lenders refer to these as “Ego Packs” as they almost always come with Platinum Credit Cards and ‘private bankers’ who supposedly look after only a very small group of ‘special’ customers.  The most common complaint that hear from clients about their ‘private bankers’ is that they change personnel every 3 weeks 🙁

To qualify for significant discounts ie: you end up with a rate nearly as low as a good basic variable (see above) you have to borrow in excess of $250,000 although you have to go to $750,000 or more in order to get serious discounts ie: greater than 1% .

The problem is for people with a single property and one loan say $250,000 then the annual fee which is commonly $395 represents the equivalent of 16 basis points loading on your interest rate and that probably is not good value – even with a Platinum Credit Card.

However for borrowers who have very large loan and/or property portfolios then a package loan can offer very good value because as their name implies you can package all of the property loan accounts under the same annual fee.  These borrowers may take advantage of discounted lines of credit for share trading and/or personal use and keep one loan account per property for ideal tax recording. The better packages also waive all application and valuation fees thus saving quite a lot if you have multiple properties.  The very good package also waive all other fees such as fixing, switching, loan top ups etc.  At the moment I lean towards Suncorp’s package as it is not restricted to any number of accounts, it is competitively priced at $300 pa and competitive rates.  Westpac’s Premier Advantage is always a nicely featured product while CBA are hamstrung with their tedious MISA offset account, NAB charge monthly fees per account, St George and ANZ are limited to only 5 accounts under the package.

There are some semi-package loans that can be very competitive for mid-level borrowers such as AMP, ING, Heritage and Members Equity.