Buying investment property with a friend
I met these two professionals in 2015 when they needed to settle on an off the plan investment property they had committed to two-years earlier. Mates for many years, neither born in Australia, they liked the idea of buying an investment property with a friend. A foothold in the WA property market.
As is the nature of off the plan sales contracts, when the developer is ready to handover the property, the buyer must have their finances in order. When a home loan application is involved, buyers should be well advanced along the home loan approval process.
This was these guys. They put down a 10% deposit. Then waited and waited…..for two-years.
Financial position – Stronger together
Interestingly, when they approached me for a home loan approval, their financial position had weaknesses. Buying an investment property with a friend worked to their advantage when it came time to get a home loan approval.
One buyer had a teaching income of $95,000 and no significant savings – except his share of the 10% deposit.
The other buyer had a bigger income of $240,000 and extensive experience in the mining industry. But, having just started a new contract, lenders could find this income difficult to rely on if he was a sole borrower. What he lacked in current employment history, he made up for it in savings – over $100,000.
Individually each borrower had their strengths and weaknesses – they were strong borrowing combination together.
Why did two friends buy an investment property?
These two mates had not yet settled down with a partner, so liked the idea of a joint property investment as something to do with their money. Many investors seek out newly built properties as an investment strategy to help reduce their taxable income.
Buying an investment property with a friend meant they reduced their exposure and shared the related purchase costs.
The off the plan investment property
They bought a brand new, two bed, one bathroom unit in a new development 10 minutes from central Perth for $650,000.
The property was purchased for investment purposes.
Close to transport, the property appeared to have rental appeal in droves. There were many other investors with the same idea, so competition for tenants was fierce at the time.
The clients were happy to put down a 20% deposit to avoid lenders mortgage insurance.
The home loan – An unequal split
Ownership was equal. Deposit was not.
The two mates bought this property using an 80% LVR home loan and then split the home loan to represent the unequal deposit contribution. They sought professional tax advice before proceeding with this loan.
The borrower with a larger deposit had a smaller home loan of $210,000 and the other $310,000. They used a popular investment property strategy of interest only repayments with an offset account.
Meeting partners and moving abroad
Some years later, life had changed.
Both owners had met someone and bought homes with them. One was in Australia and the other had relocated overseas.
The investment property chugged along, not performing as well as they had hoped. The interest only repayments had converted to principal and interest which put a little more strain on cashflow.
A pain point
The overseas owner was finding his own borrowing capacity hampered by his exposure to these home loans. His Australian investment home loans were starting to get in the way of other plans.
You see, when you have a loan (no matter the country) it can still factor into your borrowing capacity. So, while the investment property debt may be shared, having any home loan exposure can stifle future borrowing plans.
Could these joint home loans be restructured?
In theory yes, but this situation was difficult. To make major changes to existing home loans means borrowers usually need to be re-assessed – based on current (not previous) financial position.
The overseas owner had a very different financial position now – new family, new debt, overseas income in foreign currency.
Selling, while an option was something they were both reluctant to do.
My take – Two mates and an investment
Off the plan
Buying off the plan has appeal to both buyer and developer. Both parties get to agree a purchase price two years out from completion. From a buyer’s perspective, an ideal scenario would see value increase while the building is being built. All the while, the developer is absorbing the costs. That said, any downward movement in property values can jeopardize an off the plan deal.
Buying off the plan often requires an approval or preapproval as part of a contract of sale condition. However, preapprovals are only valid for a limited time so usually count for nought when it comes time to finalise the purchase.
Being prepared for a home loan application close to completion of an off the plan apartment is something to mindful of. The better prepared you are the more borrowing options you could have.
Borrowing options
The timing of a new work contract for one of the borrowers impacted lender choice. Their combined financial position was strong, so a joint home loan enabled the purchase to be completed smoothly. If they were in a better (more stable employment) position, they might have accessed bespoke joint home loan structures for co-ownership that can minimise the impact of any shared debt.
The 80% LVR helped them avoid LMI. Normally, an investment loan would be maximised, especially if there is an owner occupied debt to concentrate all repayment power on. In this instance, the borrowers were happy to use savings to avoid LMI.
The interest only repayments allowed them to maximise their savings in an offset account so they could potentially use these later on – to buy a home to live in.
Investment loan getting in the way
The overseas owner found the Austrlian home loan was getting in the way of his individual borrowing needs.
Was it foreseeable?
How long do you need to hold an investment property to expect a return?
Can two mates anticipate getting partnered up with children in a seven-year span?
These are great questions to ask as a part of a prepurchase discussion.
Do they sell?
Selling can release equity, but also give up the chance to realise future capital growth. Moving forward with personal borrowing plans needs to be balanced with the best use of equity – and the needs of the co-owner.
My take?
Have a legal agreement that makes clear a minimum holding period for an investment property. Once that has passed, agree another term, or perhaps a year to year proposition with clear exit options available to each party.
Note for readers: Some facts and figures altered for to retain anonymity of my clients.
Always seek financial, tax and legal advice specific to your situation.