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A granny flat can give you extra living space and serve as an investment opportunity. And as a property owner, there are various ways you can finance the construction of the flat using the equity in your home.
According to Domain, Australian-made prefabricated granny flats can cost as much as $120,000. This is a significant cost, but could be well worth it for the additional space and potential rental income the unit will provide. But if you're looking to finance one, you'll need to consider your situation to determine which finance option is right for you.
A home loan top up is the process of increasing your existing loan amount. A top up uses the equity in your home to allow you to increase the home loan amount.
If you top up your home loan, your lender will perform a new valuation on your home and offer you additional funds based on the equity in your property. The equity is the difference between what your home is worth and how much you owe. For instance, if your home is worth $750,000 and you owe $600,000 on it, you've built up $150,000 in equity.
A line of credit loan offers you a credit limit based on the amount of equity you have in your home. Line of credit loans function much like a credit card, where you will only be charged interest on the amount you use rather than the full credit limit.
In certain situations, it may be wise to use a construction loan to fund a granny flat. For instance, if you haven't yet built up enough equity for a line of credit loan or home loan top up to cover the cost of the granny flat, a construction loan may be a good option.
If you're purchasing a prefabricated granny flat but haven't built up enough equity for a line of credit loan or home loan top up, you could consider an unsecured personal loan.
The cost involved in adding a granny flat to your home varies depending on the type of granny flat you choose. But generally you'd be looking at a minimum spend of around $100,000 to get the new residence up and running.
If you're looking to build, there are also a huge range of options when it comes to the design and type of dwelling you want. From prefabricated and modular homes to dwellings built from scratch, your choice will be influenced by your budget, the designs available and the features you want to include in the granny flat.
If you're thinking of adding a granny flat to your property as part of a renovation or extension, then costs could head north of around $120,000. You'll also need to factor in engineering costs and possibly architect's fees, as well as money for any existing or potential hazards such as asbestos.
Tristan lives in a 4-bedroom home on a 700-square-metre block in Sydney's north western suburbs. He has a significant amount of space in his backyard, which is a chore to maintain all year round, so he decides to add a granny flat as an investment that can earn him rental income.
Tristan decides a modular kit home is the right fit for his property, and spends a total of $100,000 getting the home built and installed on site, with all the plumbing and electrics connected. As his property is located within 500 metres of a train station, Tristan is able to rent the 2-bedroom flat out to a young professional for $460 a week.
Factoring in a budget of $2,000 per year to cover maintenance costs, let's take a look at how long it will take Tristan to pay off his investment.
Rent: $460 a week
Total annual rental income: $23,930
Annual maintenance expenses: $2,000
Total income generated each year: $21,930
Time needed to pay off granny flat: 4.56 years
As you can see, at the current rental rate, Tristan will be able to pay off the cost of his investment in just over 4.5 years. He can then start using his granny flat to generate disposable income.
Keep in mind that this is just 1 scenario and there may be a range of other factors to consider. For example, if you have to borrow money to fund the addition of a granny flat to your property, it may take longer for your investment to generate positive cash flow.
* This is a fictional, but realistic, example.
If you rent out a granny flat to generate extra income, remember that you will need to pay tax on the rental income you receive. The amount of tax payable will depend on your income tax bracket and marginal tax rate.
The tax deductions you are eligible to claim will depend on whether your granny flat investment is positively or negatively geared. If the rental income generated by the granny flat is not enough to cover the cost of maintaining it (with loan interest payments and other ongoing expenses), then your property will be negatively geared and you can claim your loan interest payments and ongoing expenses as tax deductions. However, owners of properties that aren't negatively geared will only be able to claim their ongoing maintenance expenses as tax deductions.
You will also be able to claim the depreciation in value of your granny flat investment as a tax deduction each year. Just be aware that a Capital Gains Tax (CGT) liability usually applies to the portion of your property that you rent out.
If you're wondering whether a granny flat will increase the value of your property, the answer is yes, but only if it complies with all local council regulations. If you think your house will be more practical and better to live in with an extra independent living space out the back, chances are a potential buyer will think the same thing.
In many cases a granny flat can add significantly to the value of your property. However, you'll need to consider a range of variables when calculating your return on investment, including the size of the granny flat, its location and how much it costs to build.
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