Funding the difference between interest costs and rent

[Michelle]

We have two investment properties at present and are keen to secure more. Our first property is now positively geared while the second property requires a substantial amount of my income to meet the difference between the rent we receive and the interest costs on the loan. We have no more spare income to meet the shortfall on additional investment properties and therefore thought that we were precluded from purchasing any more investment properties.

Recently however, I watched a video which very briefly touched on a strategy of using the equity in existing properties to fund the shortfall between the rental income and interest costs on investment properties. Is this a strategy commonly employed by property investors? It seems that so long as the value of the property goes up by more than the funding shortfall each year, this would be a relatively safe strategy. Any comments would be much appreciated.

 

[Mrman]

Yes i believe it is called Capitalising Interest. This has been talked about before and there are some really good threads that will explain it. Basically you are just adding the interest payment onto the loan so your actual income can be used to fund more investments or pay down non deductible expenses like ppor repayments.

http://www.somersoft.com/forums/showthread.php?t=26532

Edit: Sorry you said using equity. That would involve taking a line of credit against a propert and paying interest out of that.

 

[Rolf Latham]

Hi Michelle

Eating equity growth, and accessing existing equity is used by many investors bolster their cashflow position...............BUT, its not suitable for all situations

ta
rolf

 

[Rob Williams]

Ed Chan's book How To Acheive Wealth For Life discusses the concept of Capitalising Interest in depth. Indeed, it is the cornerstone of his strategy.
I'm in a situation in which I now have 4 IP's. I have enough spare cash each month to pay the deficit on another negatively geared property, if I keep my LVR at 80%, but not enough spare cash to come up with 20% equity on the new property.
One of my IP's was a reno and I sunk quite a bit of my own cash into it. It has also increased substantially in value recently. So, I'm thinking of paying for a revaluation and borrowing against the increased equity. This will allow me to keep my LVR on my next purchase at 80%. Also, if I borrow another $10,000-$15,000, I can use that money to pay down the interest bill shorfall each month for quite some time without dipping into my own cash flow at all.
Not only do I get to use the banks own money, plus the rent to pay them back their interest each month, I also get to claim the entire interest bill as a deduction.
Next year, I'll get a nice tax return plus I will have saved some money in the meantime and can look at using that money AND some of the equity in another property to do the whole thing over again.
Assuming that the property values keep moving ahead over the long term, it seems like a good strategy.
I'm still looking for the downside.

 

[Simon]

Some people use all their equity to gear into a high yielding managed fund with the aim that the surplus cash covers the negative gearing outlay. But these funds typically forsake growth for yield.

Is a complicated process but for some it works well.

Cheers,

 

[simonjulie]

I'm still looking for the downside.

If you don't look for a downside you won't find one
Just do what you know and trust in your choices.
I have been playing this game for quite some time and find there is a lot more things to appreciate about this kind of strategy everyday. Only focus on what it is you want.
At the end of the day when this type strategy gives you back all the money you invested ( not the bank's money)then all the rest is cream.
How quickly do I get MY money back?That is the bottom lineand education is the key(that comes from the experience of doing).
Leverage and get wealthy. Not everyone feels fearless like me. But how can one be fearful when one only looks on the upside?
Cheers
Simon

 

[Dazz]

If you don't look for a downside you won't find one

Exactly right Simon, you won't find one.....but then it very may well find you.

One of many examples might be receiving a letter of demand from a high flying solicitor forcing you into some action from a concerned party that yuou haven't identified during your positive looking DD process with extremely negative consequences for the investment of your blissful choice is but one example.

What do you do with a Letter of Demand, suing you for 6MM for unspecified damages over an incident at a property you own. Only look at the positives and don't look at the downside ??

Not everyone feels fearless like me. But how can one be fearful when one only looks on the upside?

Ignorance is bliss I suppose. Swimming down the Zambesi whilst thrashing about may seem just like a frolic in the sun, but who knows what's underneath or charging up at you at great speed. As long as you are fearless and completely unaware of the dangers, I'm sure the swim will turn out just fine. In that isolated case, the Law of Attraction would probably want to be turned into a Law of Unattraction I'd imagine.

A positive attitude is always important, but an alert and wary eye on the downsides is always prudent. There's a big difference between positive and what you are suggesting.

Michelle, I'd be doing as much research on both the downside and the upside of any aspect of property investing....and then make an informed decision based on every fact you can gather.

 

[pieman]

got any good news cant

 

[kaf]

Michelle

We capitalise a bit of our investment cost such as large bills (land tax, rates) but try to cover the interest on our LOC and the other loans through cashflow.

We have quite a big LOC buffer and I've been tempted to do what you are thinking off - using our equity and just capitalise interest to keep buying. But I believe we still have a few years of rising interest rates ahead of us so I've decided to get educated on higher yielding investments such as shares and use our equity for these instead.

I'm not naturally interested in shares (not as much as in property at least) so it's been hard to get started but my thinking is that I need to get into it anyway as by the time we want to retire I really want to be able to diversify, have stakes in an assest group that's more liquid than property and able to make money in both markets to take advantage of the different asset cycles. So I think in the end I will need to know about shares anyway so I might as well start now and to be honest it will be better for my SANF (sleep at night factor) to do that than get into capitalising interest in a serious way.

Have a search for Keithj's posts, he just had a brilliant thread following his interview on this site - that's the kind of investing path we'd really like to follow.

All the best

kaf

 

[simonjulie]

Your right

Exactly right Simon, you won't find one.....but then it very may well find you.

One of many examples might be receiving a letter of demand from a high flying solicitor forcing you into some action from a concerned party that yuou haven't identified during your positive looking DD process with extremely negative consequences for the investment of your blissful choice is but one example.

What do you do with a Letter of Demand, suing you for 6MM for unspecified damages over an incident at a property you own. Only look at the positives and don't look at the downside ??




Ignorance is bliss I suppose. Swimming down the Zambesi whilst thrashing about may seem just like a frolic in the sun, but who knows what's underneath or charging up at you at great speed. As long as you are fearless and completely unaware of the dangers, I'm sure the swim will turn out just fine. In that isolated case, the Law of Attraction would probably want to be turned into a Law of Unattraction I'd imagine.

A positive attitude is always important, but an alert and wary eye on the downsides is always prudent. There's a big difference between positive and what you are suggesting.

Michelle, I'd be doing as much research on both the downside and the upside of any aspect of property investing....and then make an informed decision based on every fact you can gather.

Your right, I'm happy

 

[nonrecourse]

The downside is a black hole

Exactly right Simon, you won't find one.....but then it very may well find you.

One of many examples might be receiving a letter of demand from a high flying solicitor forcing you into some action from a concerned party that yuou haven't identified during your positive looking DD process with extremely negative consequences for the investment of your blissful choice is but one example.

What do you do with a Letter of Demand, suing you for 6MM for unspecified damages over an incident at a property you own. Only look at the positives and don't look at the downside ??

..............................................................................................................................

A very astutue observation Daz. The other point to remember is Fitzpattrick's Law..... If you remember Murphy's Law about things going wrong well Fitzpattrick's Law says that Murphy was an optimist!.

Assuming that property will continue its exponential meteoric rise is tempting fate. If you haven't factored in a 50% drop in property values and are constantly going back to the bank via the capitalized interest route; you may find yourself in a margin call scenario that leaves you with not enough equity to cover the call

Can't happen with property you say ?

 

[kaf]

Assuming that property will continue its exponential meteoric rise is tempting fate. If you haven't factored in a 50% drop in property values and are constantly going back to the bank via the capitalized interest route; you may find yourself in a margin call scenario that leaves you with not enough equity to cover the call

Can't happen with property you say ?

Wow - talking opposite ends of the spectrum here between Simon and nonrecourse ... I like Oscar Wilde on that front "there is no point being anything else but an optimist". Doesn't mean you take silly risks or assume the sky is going to fall in.

kaf

 

[alexlee]

Yes. I prefer the middle way. 60-80% LVR + cash and shares cushion.
Alex

 

[simonjulie]

Can't happen with property you say ?

I did not say that

 

[simonjulie]

Wow - talking opposite ends of the spectrum here between Simon and nonrecourse ... I like Oscar Wilde on that front "there is no point being anything else but an optimist". Doesn't mean you take silly risks or assume the sky is going to fall in.

kaf

Yep I agree. If we focus our attention on our intention that makes for a smoother transition to what it is we want.
Cheers

 

[pieman]

If you are so smart nonrecourse can i ask what your net worth is? Obviously you are a master of picking asset classes and the ones which will do the best or are you just trolling?
cheers
pieman

 

[simonjulie]

Yes. I prefer the middle way. 60-80% LVR + cash and shares cushion.
Alex

Hi Alex
If you prefer that then that is where it is for you. that's as good as you feel comfortable with and that is perfect for you. I am a little further down the track than you and have become comfortable with my obviously optimistic outlook on stuff and I am OK with that. It is really up to the iondividual to come to their own conclusions on their personal comfort zones.
I might add that I value all your contributions to this forum.
Have fun
Cheers
Simon

 

[Dazz]

that's as good as you feel comfortable with and that is perfect for you. I am a little further down the track than you and have become comfortable with my obviously optimistic outlook on stuff and I am OK with that.

Wow - at first I had to read that about 3 times over, and every time received a different impression, depending on which track you were referring. Was that the ;

1. Youth - Elderly track.
2. Poor - Wealthy track.
3. Pessimistic - Optimistic track.
4. Naive - Enlightened track.

Lemme guess. Was it the holistic-feel-good-whichever-way-the-wind-blows we're all right Jack always look on the bright side of life track ?? He says as he crosses his fingers, shuts his eyes real tight and chants "Good karma only - good karma only".

Cheers from Captain Happy.

 

[BayView]

As an older plodder who has had some nice success and some monumental rip-offs and failures, I now know that you should;

1. always expect the best.
2. always plan for the worst.

If you've always got the rose-coloured glasses on you won't see the truck coming at you on the wrong side of the road.

The best investors (I'm not one by a long shot) are not gamblers; they plan, do research and protect their investments.

 

[simonjulie]

Wow - at first I had to read that about 3 times over, and every time received a different impression, depending on which track you were referring. Was that the ;

1. Youth - Elderly track.
2. Poor - Wealthy track.
3. Pessimistic - Optimistic track.
4. Naive - Enlightened track.

Lemme guess. Was it the holistic-feel-good-whichever-way-the-wind-blows we're all right Jack always look on the bright side of life track ?? He says as he crosses his fingers, shuts his eyes real tight and chants "Good karma only - good karma only".

Cheers from Captain Happy.

Actually, I was refering to property investing