The plan

Hi guys
i have done a lot of reading over the last few years and have a comfortable saftey bucket if things go pear shaped so its time to move onto the next step.
i have decided property seems to be the way to go and have had information overload at stages with all the options available.
im not a greedy person and my real plan is to Buy and Hold IP's 5 to start with over 10-12 years , to build up equity and never sell (unless there bad investment) - option to subdevide and do up some places to get access to more equity.
My Goal is to be able to live off the cashflow from the propeties in 10 years. Looking for $100K cashflow - or live off drawing down equity and the capital growth. i will also have a small bucket for shares and riskier investments but my OUT so to speak will be property.

im yet to start but am in a good position and only 22 now. Any hints for the path ahead, and is what im thinking possible?? it seems to make sense to me that it should all work out.

Thanks Crommie

Congratulations on getting started. My suggestion would be to read as much of the forum as you can. There is a lot of wisdom contained in here. Also go to the investors meetings in your state, as meeting & networking with other investors will be beneficial.

Crommie said:

im not a greedy person and my real plan is to Buy and Hold IP's 5 to start with over 10-12 years , to build up equity and never sell (unless there bad investment) - option to subdevide and do up some places to get access to more equity.

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why is the number of IP got to do with anything, it should be how much equity and net cashflow that matter.

oasis1frog, yes, it doesn't matter how many properties, but let's assume he meant an "average", $400K-ish house, so $2M worth. Taking out $100K per year from this portfolio would be drawing out 5% pa, which I think is a little too much.

Let's assume you're 80% geared, and that interest rates average 8% over the long term. You're going to be paying out 6.4% of portfolio value in interest expenses each year. I assume 2% for expenses (rates, insurance, PM fees, repairs, everything besides interest), so now you have 8.4% outgoings. Assuming a rental yield of 4%, you have to get CG of 4.4% per year just to be breaking even.

I could talk you through all the calculations I'd do, but I've decided instead just to attach a spreadsheet. Basically, assuming a portfolio of $2M geared at 80%LVR, with 3% increases in income you draw down, 7% capital growth, 4% rental yield, 2% expenses, 8% interest on debt, to maintain your LVR at/below 80%, you could only draw a maximum of $75,000 per year, and it would be marginal as to whether you could continue increasing your borrowings in this scenario anyway.

To be able to consistently draw an income of $100K pa, you'd want a significantly larger portfolio. Manipulate the figures in the box at the top if you want to check out the scenario using different assumptions.

Thanks ozperp for putting things in perspective and doing some numbers.
To continue on say i didnt take the $100K a year out and lived below my means by $20-$50K for 5 years wouldnt that alone create a comfortable gap and remove the balancing act.
i ask because i know im young and things will change but if i can get that 10 year plan in place, i would love to live in other countries for about 5 years like 6 months each country and live in places with a great exchange rate, India, Thailand, Lous, Egypt, somewere in africa, Brazil- i know its about the same as $AUS, ect for like 5 years.

This is just my crazy long term plan to scuba dive and work with animals and charities til im old n grey

ozperp said:

I could talk you through all the calculations I'd do, but I've decided instead just to attach a spreadsheet.....

To be able to consistently draw an income of $100K pa, you'd want a significantly larger portfolio. Manipulate the figures in the box at the top if you want to check out the scenario using different assumptions.

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I'd agree that you'd need a much larger buffer to survive with such a large LVR & relative personal drawings.

I've made a few changes to the spreadsheet.....
1) the spreadsheet assumes rental growth is at CPI + 1% and NOT whatever the IP growth rate is (as Traceys spreadsheet does). This means rental yield decreases over time & makes a significant difference to the rental income in year 20.

2) added volatility in annual growth. Assuming exactly 7% growth every year makes LOE calculations look virtually risk free - this is a huge mistake. I've added a random function that makes growth vary between +21% and -7% each year, but averages around 7%. (choosing a different average growth will change these parameters automatically).

No-one can foresee what growth your IPs will give you, different growth rates will obviously change the LVR & everything else. Try a few random scenarios by changing the annual growth rates. Hint: To change the random numbers for annual growth just click on a blank cell & click any reformat button (eg % toolbar button).

As Tracey suggests, manipulate the figures in the box at the top if you want to check out the scenario using different assumptions. Or better still get some c/f +ve investments to cover your living essentials & just use LOE for the luxuries.

Keith, thanks for that interesting idea.

I have been designing monte carlo tests in Excel for my trading, never thought to apply it to LOE though, will add that to a homework task for myself.

Assuming a normal distribution and if you know your standard deviation then this sort of calculation can provide useful results, agreed the 7% assumption is a LOT different when you throw in your yearly standard deviation of 12% odd or whatever it is for the XJO, a few -15% years can really sort out your stress levels.

Andrew_A said:

Assuming a normal distribution and if you know your standard deviation then this sort of calculation can provide useful results, agreed the 7% assumption is a LOT different when you throw in your yearly standard deviation of 12% odd or whatever it is for the XJO, a few -15% years can really sort out your stress levels.

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Hi Andrew, I remember starting a v. long (& now partially deleted) LOE thread about why volatility matters at least as much as the average growth rate and that volatility was well..... volatile. A couple of alternatives to the random() function to simulate the volatility of growth -

• copy the last 20 yrs actual growth rates for your suburbs & use them instead (in Column K)
• use whatever you consider normal cycle (worst case?) figures - eg a couple of yrs of 3% growth, then 2-3 yrs of +15%, then -10%, then flat for a couple of yrs. And start from whereever we are in the current cycle.

Cheers Keith

PS & sorry to side track the thread

oasis1frog said:

why is the number of IP got to do with anything, it should be how much equity and net cashflow that matter.

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That's correct Oasis,

You could L.O.E with a neg cashflow from your portfolio. This would be "capitalising interest", and is dangerous in the hands of the undisciplined.

This would require a very low LVR, and a L.O.E percentage of less than the average cap growth rate, including the extra interest on the borrowings and the neg cashflow of the portfolio.

In Crommie's Plan, and assuming the historic average growth rate is around 10% (property supposedly doubles in value approx every 10 years) - I think 7% is more realistic and safe, and he wants to draw $100k of equity.

Assume his interest rate is 8%.

He will need a Portfolio of at least $2 mill. 7% cap growth is $140k per year in this example.

Interest on the $100k L.O.E is $8k = $108k drawn down.

The portfolio could be as much as $22k neg cashflow before he starts to eat away more than he makes from cap growth.

The other factors are the debt and the rent yield. I don't know these figures, but if the bottom line is a cashflow better than -$20k nett, then he would probably be ok.

It's a situation that needs constant monitoring as the interest rate could go up, the cap growth level could drop to zero.

thanks Tracey, Keith, & Marc for sharing the spreadsheet, so are we saying one can start LOE at $2 mil portfolio at 80% LVR ? I will be more comfortable with 50% LVR due to uncertainty of the interest rate (it may go back to 18% !). The other issue of LOE is if one has no stable earned income, then drawing down further equity may be a problem (bank's definition of serviceability)

All this is the stuff i need to know and thanks everyone for replying.
My intentions were not to remove $100K a year, closer to $50k for 5-6 years after the initial setup of 10 years.

the number of properties isnt the issue - Noted Thanks

Crommie:

This is just my crazy long term plan to scuba dive and work with animals and charities til im old n grey

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Good on you! (and welcome).

You are for sure in the right place to learn the practical and mathematical tin tacs and figures and applications...to help get you toward your goal or dream (which I love btw)

Go for it Crommie, and have lots of fun, may catch up with you in Swaziland one day.

Crommie, how do you plan to buy 5 IP's over 10 years? Thats 1 IP every 2 years.

If your buying a below average house, say $350,000, you need at least $35,000 deposit plus $25,000 in costs, so thats $50,000 per IP. Are you going to save $50,000 over 2 years?

Plus each IP you purchase will have a shortfall of $15,000 PA, which will make saving harder and harder.

Also why have you choosen IP's over shares? Or even a combination of both?

crc_error said:

If your buying a below average house, say $350,000, you need at least $35,000 deposit plus $25,000 in costs, so thats $50,000 per IP. Are you going to save $50,000 over 2 years??

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I imagine plenty of people could save that. But even if they can't, there are loans available up to 106%, and if, emphasise IF, one is confident in the growth prospects of the area and/or the ability to manufacture growth on the property, these high LVR loans can be well worthwhile, ie the increased interest costs and LMI can be more than compensated for by being able to get into the market sooner.

crc_error said:

Plus each IP you purchase will have a shortfall of $15,000 PA, which will make saving harder and harder.?

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The discussions thus far have assumed that cashflow shortfalls are subsidised from redrawn equity.

crc_error said:

Also why have you choosen IP's over shares? Or even a combination of both?

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Can't answer for Crommie on this front. Some property investors will say "leverage", to which I'd answer "ever heard of CFDs?". You still get dividends and you can leverage up to 97% LVR on shares, and the interest rates are comparable to mortgage interest rates. I plan to begin balancing my property portfolio with some CFDs during the good buying conditions I anticipate over the coming months.

And in response to oasis1frog, there's no way I'd consider living off $100K equity with a $2M portfolio. If I were to draw $100K pa, I wouldn't feel comfortable until I had a portfolio of at least $5M (at 80% LVR). At $2M, I'd want an LVR well below 30%. The smaller the portfolio, the larger equity you need (in dollars), as your portfolio is more vulnerable to market fluctuations. With a larger portfolio, the chances are at least some of your properties will have done well in a particular year, as you would wisely have a balance of resi/commercial and/or geographical locations, thus you're unlikely to have all the portfolios having good/bad years at the same time.

crc_error said:

Crommie, how do you plan to buy 5 IP's over 10 years? Thats 1 IP every 2 years.

If your buying a below average house, say $350,000, you need at least $35,000 deposit plus $25,000 in costs, so thats $50,000 per IP. Are you going to save $50,000 over 2 years?

Plus each IP you purchase will have a shortfall of $15,000 PA, which will make saving harder and harder.

Also why have you choosen IP's over shares? Or even a combination of both?

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Gee, aren't you a ray of hope? Are you trying to tell Crommie that this is not possible? Just because you may find it hard to pick up 5 IP's in 10 years, does not mean that the next person can't.

Crommie, do a search & read about Brenda Irwin, Dazzling & Handyandy. Then read the Somersoft Interviews. You will find quite a few examples of real people who have purchased in excess of 5 IP's in 10 years. Some have retired from the JOB, some work part-time & some have stayed in full time employment. Some of these people started on very modest means too, so don't let your current income limit you.

Also don't listen to people who think they know it all on how much you are going to have to fund yourself from after tax $$. There is an alternative to negative cashflow.

You are new at this & excited. That is a good thing. Read & learn before you spend the $$ buying property, but don't wait too long in case you get analysis paralysis.

ozperp said:

I imagine plenty of people could save that. But even if they can't, there are loans available up to 106%, and if, emphasise IF, one is confident in the growth prospects of the area and/or the ability to manufacture growth on the property, these high LVR loans can be well worthwhile, ie the increased interest costs and LMI can be more than compensated for by being able to get into the market sooner.

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Are we talking to 'experts' here or do we all need some more education on risk management? A bank is NOT going to keep lending you 106% LVR property after property after property. You may get it on your first IP, but the subsiquent properties will require significat deposits. How about serviceability? I don't think a 22 yo will be earning $100k+ PA to be able to service this debt.. but maybe I'm wrong?

ozperp said:

The discussions thus far have assumed that cashflow shortfalls are subsidised from redrawn equity.

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what equity? borrowing at 106% its going to take years before you see any equity which you can redraw.

ozperp said:

Can't answer for Crommie on this front. Some property investors will say "leverage", to which I'd answer "ever heard of CFDs?". You still get dividends and you can leverage up to 97% LVR on shares, and the interest rates are comparable to mortgage interest rates. I plan to begin balancing my property portfolio with some CFDs during the good buying conditions I anticipate over the coming months.

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Again, such high leverage is dangerious, but yes I can see your point. Shares can be leveraged as well. But I think we are going to send the OP broke! 106% LVR on IP's ever two years, CFD's, my goodness, in a raising interest rate environment, I think the recommendations of such high LVR's here are irresponsible.

skater said:

Gee, aren't you a ray of hope? Are you trying to tell Crommie that this is not possible? Just because you may find it hard to pick up 5 IP's in 10 years, does not mean that the next person can't.

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I'm not going to give him false hope. Why should he set goals, which are most likely not achievable? I am asking him questions, as I want to see if this is a thought through stratergie and how he plans to get there. If you don't plan to succeed, you plan to fail.

skater said:

Crommie, do a search & read about Brenda Irwin, Dazzling & Handyandy. Then read the Somersoft Interviews. You will find quite a few examples of real people who have purchased in excess of 5 IP's in 10 years. Some have retired from the JOB, some work part-time & some have stayed in full time employment. Some of these people started on very modest means too, so don't let your current income limit you.

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I agree, Crommie should read these interviews, as they will give him ideas on how he can succeed, and assist him to put HIS plan into place. Those people who have purchased 5 IP's or more did so in a very different environment/situation. For example they had existing equity in their PPOR to start with. They also started in a environonment with allot lower interest rates.

skater said:

Also don't listen to people who think they know it all on how much you are going to have to fund yourself from after tax $$. There is an alternative to negative cashflow.

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So tell us how will he pay for all those IP's @ 106% LVR on a small wage?

skater said:

You are new at this & excited. That is a good thing. Read & learn before you spend the $$ buying property, but don't wait too long in case you get analysis paralysis.

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Good suggestion, My suggestion is he goes to see a bank, or broker, and determine how he will buy his first IP TODAY. This is the best way to get started.. Even it its to buy with 106% LVR. Once he is in the game, equity will grow which will make it possible in a few years time to purchase a second IP.

However my suggestion is NOT to rush out there and try to buy as many IP's as possible, he should also focus on also building a quality share portfolio along side his first IP purchase. (Keith did this) I would say it could be 4-5 years before his first IP grows in value, rents increase etc, before he can begin to draw down equity. During this time his wage will also increase. However having built a nice share portfolio as well will assist in his next IP purchase at a sensible LVR.

I agree, use any LVR to get into the first IP, but his second IP should have a max 80% LVR otherwise he will find it difficult to service. Last thing I want to see if somone giving up becuase its to hard and they over commited.

Equity draw down can also be used to buy more shares, and their dividends will assist with cash flow.

skater said:

Gee, aren't you a ray of hope? Are you trying to tell Crommie that this is not possible? Just because you may find it hard to pick up 5 IP's in 10 years, does not mean that the next person can't.

Crommie, do a search & read about Brenda Irwin, Dazzling & Handyandy. Then read the Somersoft Interviews. You will find quite a few examples of real people who have purchased in excess of 5 IP's in 10 years. Some have retired from the JOB, some work part-time & some have stayed in full time employment. Some of these people started on very modest means too, so don't let your current income limit you.

Also don't listen to people who think they know it all on how much you are going to have to fund yourself from after tax $$. There is an alternative to negative cashflow.

You are new at this & excited. That is a good thing. Read & learn before you spend the $$ buying property, but don't wait too long in case you get analysis paralysis.

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I think CRC makes an excellent point. It IS important to consider the numbers involved. Either a large continual savings capacity is needed for the first one, maybe two or three IPs, or some skill (luck?) and large gains on the first one, then second, and third.

Unbridled optimism and multiple IPs on high LVRs will quickly lead to 20, 30, 40K p.a. out of pocket expenses. Due to transaction costs equity will be eroded with each purchase. This, coupled with out of pocket expenses means that the original poster's IPs will need to go up in value a lot before the banks will lend him for more.

Building up slowly is a lower risk proposition. Whether this is by saving more, targeting higher yielding properties, and/or building a decent share/LPT portfolio concurrently - try to keep the LVR at a lower level (i.e. not high 90's or 100!) and most importantly ensure negative cashflow does not get out of control (in relation to other income).

All advice given in this thread is tailored to Crommie's goals, which require an aggressive approach, and assume - given that Crommie is 22, comfortable, and has a safety bucket - that Crommie has a strong income stream. None of the strategies suggested should be considered universal advice.

crc_error said:

So tell us how will he pay for all those IP's @ 106% LVR on a small wage?

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I suggest (s)he focus on neutral/positive cashflow. Do you find them on realestate.com.au just waiting for you to snap them up in an average CBD suburb yielding 10%? No. But does positive cashflow exist? Yes. And Crommie sounds quite comfortable for a 22yo, so I don't think he's on a small wage.

crc_error said:

I agree, use any LVR to get into the first IP, but his second IP should have a max 80% LVR otherwise he will find it difficult to service. Last thing I want to see if somone giving up becuase its to hard and they over commited.

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If he buys positive cashflow, there's no reason why he can't buy using high LVR products. If you "wait" for equity growth in your portfolio, the property you're planning to buy may well have gone up in value by a comparable amount, and you'd have been better off buying now using a high LVR lend. Would you be better off buying a $100K property today with a 100% lend, or buying the property for $125K in a year's time with an 80% lend??? I know what I'd prefer!

crc_error said:

Are we talking to 'experts' here or do we all need some more education on risk management? A bank is NOT going to keep lending you 106% LVR property after property after property. You may get it on your first IP, but the subsiquent properties will require significat deposits. How about serviceability? I don't think a 22 yo will be earning $100k+ PA to be able to service this debt.. but maybe I'm wrong?

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If you're positive cashflow, there's no reason why you can't continue using high LVR products, and your servicability shouldn't be affected too much if you're positive cashflow. And there are 22yos earning $100K+, particularly in the mines. Do I think this is a strategy that everybody can or should follow? No. But Crommie has plans and dreams that require his results to be obtained in a relatively short timeframe, and our advice was tailored to his situation. For crc_error and Trogdor: I really don't think Crommie wants to wait until he's 50 to travel the world scuba-diving and doing charity work. At 22, that seems ANCIENT!

crc_error said:

Again, such high leverage is dangerious, but yes I can see your point. Shares can be leveraged as well. But I think we are going to send the OP broke! 106% LVR on IP's ever two years, CFD's, my goodness, in a raising interest rate environment, I think the recommendations of such high LVR's here are irresponsible.

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Well, we're going to have to agree to disagree. I think a 22yo with big plans can afford to take a few risks. If he goes broke, he has plenty of time to repair, and will have learnt a lot. If he plays the conservative path, he's guaranteed not to achieve his goals, so to me this is in fact the most risky path of all in terms of his goals; it has a 100% chance of failure. Taking some educated risks, he has a reasonable chance of success.

And to clarify re CFDs: if you have $3,000 that you can use to buy $100K of share CFDs, I'm not for a moment suggesting that one should buy $100K; of course you'd almost inevitably get a margin call in a very short time. But I think that using CFDs to get the 70% leverage that is available with a margin loan (ie use a $3K account to buy CFDs for $10K of shares) is a better option than actually having the margin loan. CFDs save you the hassle of applying for and modifying the balance of the margin loan (as your portfolio grows), and more importantly, CFDs don't impact on servicability for IP borrowings.

Crommie said:

Hi guys
my real plan is to Buy and Hold IP's 5 to start with over 10-12 years.

My Goal is to be able to live off the cashflow from the propeties in 10 years. Looking for $100K cashflow

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This seems very achievable to me.
Crommie is not saying he wants income from day 1 but in 10-12 years time.
He will have very good equity in about half of the properties by then, and as the rents are increasing now, servicability will be relativly easier as time goes by. If he buys almost zero geared property he will likely have a return in 10 years time of around 8-10% not 4%.

This is basically what I have done, but I think I need about 7 IP to get the $100K income mainly because I prefer cheaper properties about $300K

Go for it!