I have bought a residential investment property for rental, valued at $400,000 (on a 100% loan) and am at loss of what to do next.
I have an annual income of $60,000 and have a fixed term loan of $340,000. I also have a revolving credit of $60,000 which hasn't been used, meaning that I'm only paying principle and interest on my fixed term loan.
At the moment, I have $10,000 in my savings account and am wondering if I should:
a) Put the $10,000 towards my fixed term loan
b) Withdraw both the $60,000 from my revolving credit and $10,000 from my
savings to put towards other investments
Please advise. Your opinion would be much appreciated.
You have lost me slightly with your summary of position. I think you have a rental property that is currently estimated to be worth around $400,000 and have a mortgage on that property of $340,000. You also have a revolving credit facility for a further $60,000 that is presently un-drawn. Security for this 100% loan is likely to be the residential rental plus your home property.
On the $340,000 fixed term loan, I guess your property rental contributes towards servicing this debt. However if the rental is not significantly more than $530.00 per week you will be contributing towards the mortgage payments (the interest only cost is around this sum at 8.00% per annum) from your salary. The principal and interest payment will be around $2650 per month over 20 years.
You go on to say your now have saved a sum of $10,000. Your fixed portion of the mortgage should allow small capital repayments without breaking the term (and the penalties associated) Most providers allow up to 5 or 10 % reductions in any one year without costs.
I suggest you direct the $10,000 sum toward mortgage reduction. You have a further $60,000 in revolving credit should you need funds in any emergency and the tax position is fairly neutral. That is; invest the $10,000 and it will generate taxable income or reduce the debt and consequently the tax deductible mortgage a little.
Your bigger question is whether to draw down the $60,000 revolving facility for investment. The answer to this is not straight forward and I do not have enough detail to advise but which ever way you look at it debt increases investment risk and conversely it can also significantly increase investment returns.
You do not suggest the structures that own these assets but I guess you have been well advised so you can take advantage of the losses you are accruing.
The decision to gear or leverage your portfolio further depends upon the type of investment you contemplate. Folk merrily gear residential properties to up to 100% (as you appear to have considered) without a second thought toward the risks they are running, but are not so sure when considering the wider asset range, such as shares or other securities.
There are ways to spread or diversify your portfolio with assets that do lend themselves to gearing however the debt carry you currently have, unless you have other income assets, on the income you suggest, is certainly getting towards levels where I would start to be concerned.
Original Article published November 2005
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