IO Loans

[Reub]

Hi there,

Being relatively new to the IP game having bought our first IP in late 2000, we are looking to refinance for flexibility to reinvest. Whilst the loan currently is P&I, we fell on our feet with a good little earner that has provided a positive cash flow, yet considerable capital growth as well (although this is sure to even out shortly).

Purchase Price - 96 000
P&I loan - 90 000
Rent - 190 p/w
Value (6 months after puchase) - 160 000

All reading and 'gurus' I have spoken to, advise getting rid of the P&I loan ASAP and refinancing with an IO loan.

Once again, whilst people speak of IO in glowing but broad terms I can not seem to get the finer detail of the general conditions of an IO loan. Whilst I understand the philosophy (ie maximum use of capital, control not ownership of the asset) - I am still unsure of the mechanics.

Primarily my question is this - what happens at the end of the term of an IO? ie Once the interest has been paid over the term, do you continue to pay interest on the principle or, is the principle simply then left for you to pay out at a time of your choosing without any further payment required beforehand?

IOs seem to be the holy grail for the property investor, but what are the pit falls?

Any comments appreciated.

Regards,

Reub

 

[geoffw]

Reub,

One question I would ask is - "Do you owe money on your own house?"

That's important. If you owe money on your house still, then you are losing taxation benefits by paying off the IP in preference to paying off your house.

Interest paid on your IP is deductible
Debt repayment on your IP is NOT deductible
Neither interst nor debt repayment on the house you live in are deductible.

So it's more tax efficient to reduce the debt, and therefore the interest, on your house before repaying any debt on the IP.

 

[Reub]

GeffW,

Thanks, and sorry for my obvious ommission of detail from the previous on PPOR.

I am in Defence and therefore live in fortunately very cheap, subsidised housing (130 p/w). I move on average every two years, so an alternative startegy to the 'normal' one of knocking over the PPOR first may be required; Hence my queries on IO loans.

Regards,

R

 

[geoffw]

Reub,

Thanks for the clarification.

If you then have one IP, and you are paying P & I, and are comfortablably able to afford this, and you have good equity, you may be able to buy something else.

It does depend on you comfort level, and the state of the market (especially where you are looking at).

On a P & I loan, the principal repayment part is not deductible. So if you made it IO, you could apply this extra principal repayment to interest on a new loan. And you have the equity to be able to take out that new loan- interest only. It would probably not cost you any more than you are paying out now. And you have another appreciating asset.

Just be careful (in achanging climate) about where and what you are buying.

 

[Rolf Latham]

Hiya

At 90 k there wouldnt be awhole lot of diff in the repayments.

I would wait until I had enough equity to make a refinance for my next Ip deposit whorthwhile and at that point make the new loan Interest Only.

Generally most Interest Only loans roll over to P&I after 5 or 10 years, at which point may have refinanced to pull increased equity anyway.

ta

Rolf