How can you buy the right property?
Welcome to the third instalment of our four part series on investing in property. While the first two parts of the series considered ‘When’ to buy and ‘What’ to buy, this update focuses on loan pre-approvals and bank guarantees, self managed superannuation funds as well as investing using trusts and company structures and negative gearing. In short, it will provide insight on ‘How’ to buy.
The most important thing to remember is while each of these methods has its advantages for investors, you need to decide which one works best for you and your property portfolio.
Loan pre-approvals and bank guarantees
When considering buying a property, it is often worthwhile to contemplate obtaining a loan pre-approval so you are aware of your borrowing capacity and do not over-extend your finances.
Loan Market’s Lindy Kelly says, “There are a number of different types of pre-approval, from a simple phone-based pre-approval through to informal and formal written pre-approvals issued by your bank or lender.”
“A loan pre-approval gives you clear guidelines on how much money you can borrow. You may need to pay some application fees but the security is worth it.” View Lindy Kelly’s full article about finance options for buying off the plan.
You can obtain an estimate of the maximum amount you should borrow based on your monthly expenditure, income and interest rates by using an online ‘how much can I borrow?’ calculator.
Lindy Kelly also points out bank guarantees substantially minimise risks for investors and are an extremely cost-effective way of securing a property.
“A bank guarantee is a form of deposit insurance policy. Just like a cash deposit, a bank guarantee gives the vendor peace of mind that a sale to the purchaser with the bank guarantee is safe.”
“Savings remain intact, allowing you to continue to earn interest,” Ms Kelly says.
On a different note, it is important to bear in mind some banks will apply different lending criteria depending on the entity the investment is purchased in. As a recent article indicated, some lenders will offer loans to all company and trust structures, whereas others are more selective. In many instances, banks prefer funding investment properties that are purchased in an individual’s name. View the full article regarding lending criteria.
Self managed superannuation funds
Put simply, self managed superannuation funds (SMSFs) are do-it-yourself super funds. Under recent legislation, SMSFs can now borrow money to invest in property. SMSFs are appealing property investment vehicles as they provide significant tax benefits to investors.
A recent article released by Loan Market indicated some major benefits of SMSFs for property investors include the ability to claim tax deductions on interest expenses, property repayments and depreciation allowances. Compared to other property investment methods, investors also pay less tax when purchasing through a SMSF.
Property earnings (i.e. rental income) are taxed at a rate of 15 per cent. By contrast, if you owned the property in your personal name, the earnings would be taxed at your marginal rate of tax – this can be anywhere up to 45 cents in the dollar. View full article by Loan Market on SMSFs.
Author, accountant and property tax specialist Ed Chan also points out a key benefit of using a SMSF to purchase property is once you reach the age of 60, the SMSF can be turned into a pension fund and all income such as rental and any capital gain on the sale of the property is tax free. Read Mr Chan’s full article.
So with that being said, what are the risks to the balance of your superannuation portfolio? SMSFs can now borrow under what is known as ‘limited recourse borrowing’ which ensures other SMSF assets are protected if something was to go wrong with one asset. As SMSF expert Trish Power points out, under this concept, the recourse available to the lender if a default occurs is limited to the property involved. The rest of your super portfolio remains safely locked away for your retirement. View Trish Power’s full article.
Companies and trusts
There are numerous options available to investors when it comes to investing in property using companies and trusts.
A recent Australian Property Investor article highlighted income generation, asset protection and estate planning as the three primary benefits of using trusts to purchase property.
In regard to estate planning, Ed Chan points out, “You may want to transfer control of your property to someone else (such as your children) without triggering stamp duty and capital gains tax. This can't be done if the property was held in your own name but under a carefully constructed hybrid trust one can transfer control without paying stamp duty and capital gains tax.” View Ed Chan’s full article on the Australian Property Investor website.
In accordance, discretionary trusts can be used to claim a 50 per cent Capital Gains Tax (CGT) general discount.
Lawyer Paul McHugh of Thompson McNichol Lawyers says discretionary family trusts are the most frequently used trusts, allowing investors to distribute income amongst selected beneficiaries such as members of the family and their associated entities.
He also states that purchasing property through a company structure can be advantageous, as it offers limited liability to its shareholders. Read all of Mr McHugh’s comments regarding methods of purchasing property.
Tax specialist Eugene Berkovic supports the idea that investing through a company structure can be a wise move, noting that, “The income tax rate will be limited to 30 per cent,” compared to a possible personal tax rate of up to 45 per cent.
However, Mr Berkovic also claims that other purchase methods like trusts may be more efficient from a capital gains tax perspective, and consequently, investors should consider all options carefully to make sure they choose the investment strategy that is right for them. View Mr Berkovic’s full article.
Negative Gearing
One of the major benefits for investors who choose to purchase property in their own name rather than through a trust or company is negative gearing.
As you are probably already aware, negative gearing involves capitalising on short to mid-term tax losses which reduce an investor’s overall taxable income.
Accountant Murray Howlett says the size of negative gearing benefits is relative to the marginal tax rate of the individual in whose name the rental loss is realised. Essentially, the higher one’s overall income is (and therefore the greater their marginal tax rate is), the more substantial the monetary benefits will be. View Mr Howlett’s full article.
To gain an estimate of the net income effect of owning an investment property, use the online negative gearing calculator.
We hope you have found the information provided in this newsletter to be informative and useful. The next instalment will wrap up our four-part series and will provide a solid overview of all the key considerations that need to be taken into account when purchasing investment properties, including ‘where to buy’.
If you have any further questions about this information or would simply like to learn more about the great investment returns offered at Emporio, call Nicholas Criss on 0403 001 992.
Until our next edition,
Carl Nancarrow - Manager of Development, Reed Property Group
Nicholas Criss - Emporio Sales Manager, Ray White Maroochydore
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