How do you fund an investment property while paying off your own home? If you have some equity in your home, you may be able to refinance your own home loan to fund the investment purchase.
Refinancing an existing investment loan
You can refinance your current investment loan like any other home loan refinance. There are plenty of benefits to doing this.
You could save money by switching to a lower interest rate. Or you could get a loan that better suits your current investment strategy, such as a loan with an offset account or interest-only repayments.
How to refinance your investment loan in 4 steps
- Compare home loans. Look for an investment loan with a low interest rate. Make sure it has the features you need.
- Crunch the numbers. How much will it cost to switch to the new loan? Consider your old loan's discharge fees and check if the new loan has any upfront fees.
- Apply. Submit an application for the new loan. Make sure you have the information your lender needs, such as evidence of your income, spending habits, debts and assets.
- Exit the old loan. Once the new loan is approved you just need to discharge the old one.
Refinancing a home loan to fund an investment property
Let's say you want to fund an investment property while still paying off your own home. If you have some equity in your home, you may be able to refinance your own home loan to fund the investment purchase.
Here's a quick explanation for how it works:
- You refinance your home loan and pull out some of your equity.
- You use this equity as a deposit on an investment property.
- You get an investment loan to cover the rest.
- You now have to pay off your newly refinanced home loan, plus the investment loan.
- If you rent out the investment property, you can cover much (or all) of the investment mortgage.
It's obviously a slightly complicated strategy. It involves getting a separate investment loan while also refinancing the loan on your own home and making that debt bigger.
The reason it can work is because the investment property will generate rental income and over time, hopefully, capital growth.
Here's a more detailed hypothetical.
Example: Brad wants access to his equity
Brad owns a home worth $500,000 and owes $200,000 on the mortgage. This means he has $300,000 in equity and a loan-to-value ratio (LVR) of 40%. After doing some research and speaking with his mortgage broker, Brad decides to buy an investment property. He refinances his existing mortgage with a new lender to get access the $200,000 of equity, which brings his LVR up to 80%.
Brad could've refinanced up to as much as a 90% LVR, giving him more to invest, but he decides not to as this would mean he'd have to pay a lender's mortgage insurance (LMI) premium.
With his $200,000, Brad buys an investment property and uses a combination of rental income and his salary to gradually pay it off.
If Brad built up more equity in both his home and investment property, you can see how Brad could carry this out again to purchase another investment property.
The risks of refinancing to invest in property
Refinancing using your equity so you can borrow more money to buy an investment property can be a risky move. Make sure you know what you're doing and considering getting expert guidance from a mortgage broker.
Here are potential risks to consider and precautions to take when planning out your investment.
- Increasing debt. Refinancing to buy an investment means increasing your debt substantially. You are making your original loan larger and longer by accessing some of your equity, and you have the investment loan to pay off two. And there are extra purchasing costs associated with buying the investment, such as stamp duty.
- Untenanted periods. If you can't find a tenant for a few weeks or months, you'll find yourself paying off 2 mortgages without the rental income.
- Market risk. If there is limited price growth in the area or there is not enough demand for property, then you may not receive enough rental income to cover your repayments. Make sure you carefully research the property market to buy in a location that is likely to provide capital gain over time.
- Refinancing costs. Switching lenders and refinancing your mortgage can be an expensive process which is why you need to estimate the total refinancing costs involved. Sit down with an accountant and a mortgage broker to carefully consider the costs that you'll incur from exiting your current loan (e.g. discharge and government fees) as well as the costs of setting up a new home loan (e.g. application or establishment fees).
Compare refinancing options for your investment