Over geared? Problems with high LVRs?

Hi all,

I'm new to the forum and just purchased my first IP two months ago in Elizabeth Bay (Sydney). I borrowed at a 95% LVR with LMI capitalised, with net yield of 4.75% and an interest rate of 5%, it will most likely be positively geared after depreciation and tax. I also used my FHBG to reduce my deposit/equity and avoid stamp duty. With the left over money i have, i am looking into to buy another IP around the inner city. I would only be able to fund my next purchase if i can get another loan with an LVR of 95% and LMI capitalised.

Despite the banks reducing their max LVRs for new customers to 90%, my broker says he can get the 95% lend for me from my exisiting bank.

Do people think i'm overgearing? Is it common for investors to continually accumulate property on high LVRs without getting into too much trouble.

I'm only 22 and would expect my income to grow strongly over the next few years to cover interest costs for an expanding portfolio. Does anyone have any overgearing experiences or advice for me? I understand that gearing multiplies profits and losses, but im confident i can get enough capital growth in the assets i buy to make the numbers stack up.

Fuzz.
 
Does your first apartment have any potential to do a reno etc to increase its value and reduce your LVR?

If you have a great stable income with 110% job security buy at will. I'd like to see your rental numbers to see how you get a 95% LVR property into cashflow + ?
 
If your rental and job income is secure then only time high LVRs become a problem is if you want to sell............


Or the market tanks properly and the lenders want to get rid of their highest risk stock. Very Unlikely to happen.

ta
rolf
 
Despite the banks reducing their max LVRs for new customers to 90%, my broker says he can get the 95% lend for me from my exisiting bank. Do people think i'm overgearing?
Congratulations on the first property and finding a MB who can get you that kind of LVR - well done! If the bank doesn't have a problem (with these LVRs) and you don't have a problem (expecting your income to increase), then I don't have a problem. :)

I'd make sure though that you have some insurances in place because you are running a very highly leveraged strategy (as I have also done when first starting out). Truth be told - every property I have purchased after the first one was at least 100% geared (more like 105%) as I borrowed the 10% or 20% deposit from the equity in property and then borrowed 80% against the new IP.

Make sure you have landlord insurance and building & contents insurance on the properties and get some sickness/accident insurance for yourself - it is pretty cheap at your age. This just means if you can't work for a little while the insurance will pay out up to 75% of your income - this will let you hold onto the properties and not force you to sell.

All the best with your investing.
 
So you used the FHBG to buy an investment property :eek:
I think you'll find that lots (and lots) of FHBs used the FHBG/B to buy their first PPOR and only plan to live in it for the obligatory 6 months to qualify under the rules. Then they make it an IP - and rent it out.
 
well aware of this. but he bought the property 2 months ago and already has a net yield of 4.75%, implying it is rented. A no mention of it being a PPOR for 6 months.

Not jumping to conclusions, just raising a suspicion ;)
 
You probably should wait until you've been there six months before looking for another loan/property for several reasons.

1. As previously mentioned, you need to live in the property for at least 6 months to comply with the FHB legislation. Ignoring this could have very nasty consequences, the least of which is paying the grant back (plus penalties).

2. Your existing bank probably can write a 95% loan for you, but for the most part they require your existing loan to be in place at least 6 months. A credit card counts as an existing loan.

Lots of people use the grant to buy a home and turn it into an IP as soon as they can, but I would strongly advise against doing this in under 6 months.
 
Highly leveraged at your age wouldn't bother me, as long as you have in place (as the other posters mentioned):

- Figures make sense.
- Secure income.
- Adequate insurances.
- Accounted for possible vacancies etc
- Not planning on selling in 2yrs.

If you're planning on setting and forgetting the properties and are comfortable with the figures, does it matter to you whether the starting LVR figure is 95% or 80%?
 
Highly leveraged at your age wouldn't bother me

I don't care what a person's age is - the sort of LVR's this guy is talking about are at the very high end of risk.

Fine if you are not risk averse, but things can - and do - go wrong in life.

My advice; start with the 95% LVR on the first IP, and hammer the debt as hard as you can down to below 80% before you buy another.

Why?

Because if something happens to the "very secure job" or you get seriously hurt somehow and need to sell - you will probably have to sell at a loss.

No-one is bullet proof.

But I'm a very risk averse old f@rt. :D
 
In addition to Marc's suggestions, the fact that you have reduced debt (by paying down some of your loan) will hold you in better stead with future lenders showing you are responsible and can save. Having a good track record will reflect favourably on future loan applications
 
Hi all,

I'm new to the forum and just purchased my first IP two months ago in Elizabeth Bay (Sydney). I borrowed at a 95% LVR with LMI capitalised, with net yield of 4.75% and an interest rate of 5%, it will most likely be positively geared after depreciation and tax. I also used my FHBG to reduce my deposit/equity and avoid stamp duty. With the left over money i have, i am looking into to buy another IP around the inner city. I would only be able to fund my next purchase if i can get another loan with an LVR of 95% and LMI capitalised.

Despite the banks reducing their max LVRs for new customers to 90%, my broker says he can get the 95% lend for me from my exisiting bank.

Do people think i'm overgearing? Is it common for investors to continually accumulate property on high LVRs without getting into too much trouble.

I'm only 22 and would expect my income to grow strongly over the next few years to cover interest costs for an expanding portfolio. Does anyone have any overgearing experiences or advice for me? I understand that gearing multiplies profits and losses, but im confident i can get enough capital growth in the assets i buy to make the numbers stack up.

Fuzz.

Hmmmm.

(a) What is the impact to your financial position when the OSR want their money back?
(b) How sure are you of your numbers? 97% leverage and cash flow positive straight off the bat is, shall we say, uncommon when all costs are taken into account.
 
I don't care what a person's age is - the sort of LVR's this guy is talking about are at the very high end of risk.

Fine if you are not risk averse, but things can - and do - go wrong in life.

My advice; start with the 95% LVR on the first IP, and hammer the debt as hard as you can down to below 80% before you buy another.

Why?

Because if something happens to the "very secure job" or you get seriously hurt somehow and need to sell - you will probably have to sell at a loss.

No-one is bullet proof.

But I'm a very risk averse old f@rt. :D

If something happens and he has to sell at a loss, he'll suffer financially whether his lvr is 80 or 95. Chances are either way if he had to sell so soon after purchasing he could still have residual debt. That's why it's a good idea to take extra precautions like insurance etc.
 
Hi everyone,

Thanks for all your responses and advice. Just to clarify my position and assumptions, I am living in the property for the first 6 months to satisfy the grant conditions (I have a mate who got caught and it was nt pretty), so essentially the positive cash flow and net market yield of around 4.8% is once the property is leased. Despite, the fact the property is vacant for 6 months, I crunched the numbers in my DCF model and the total return (IRR on equity invested) is still greater considering im avoiding $17k in stamp duty and have a $14,000 reduced deposit.

To answer you question Andrew L,

The property is fairly new so it has little renovation potential and i would be relying on capital growth to reduce the LVR over time and build my equity. But I have bought into a fairly tightly held complex, which has a pretty good history of capital growth. So fingers crossed for the future.

Below are my calcs/assumptions for the postive cash flow scenario:

Rental: $550 p.w. X 52 = $28,600 (this is what the previous tenant was paying)
Outgoings: $5,488 p.a (includes stratas, WR, CR, insurance, no man. fees)
Net Cash before int., tax, dep = $23,122 (net yield = 4.8%)
Tax adjusted cash flow @30% rate = $16,178

Interest cost @5% = $23,442 ($468k X 5%)
Interest claimed back = $7,033 ($23,442 X (100% - 30%))
Depreciation claimed back = $1,500 ($5,000 X 30%)

Net Cash flow after tax, int & dep = ($16,178 + $7,033 + $1,500) - $23,442
= $1,269 p.a.

But with interest rates likely to go up by the time I lease the unit I think the investment will be neutrally/negatively geared.

My assumptions include:

5% interest only loan at 97% LVR
30% marginal tax rate
Depreciable value of $5,000 in the first financial year

I will definitely be waiting at least 6 to 12 months till buying another IP and ensure I have the adequate insurances and allowances on both IPs. Again, being only 22 im not afraid to make a loss as I know I can make a recovery quickly as I have no other financial commitments.
 
I'm sort of in the same boat as you.

My income is quite low at the moment at only $30,000, but its decent cause I'm only 19. Theres a lot of potential in seeing that income grow a fair bit over the next 3 years (after I graduate uni and then again while doing CA).

The problem is that the banks dont look at growth of future income especially for us young ones. I wanted to buy another IP as my current IP is yielding 9% ($230 pw rent on $132K purchase price) and thus is positively geared, but I think I fail on servicibility.
 
If something happens and he has to sell at a loss, he'll suffer financially whether his lvr is 80 or 95. Chances are either way if he had to sell so soon after purchasing he could still have residual debt. That's why it's a good idea to take extra precautions like insurance etc.

Don't entirely agree here, Steve.

If you own a house and owe, say: 70% of it, there is a fair chance that if you need to sell under duress you will get back 70% of the market value.

Assuming that it may have gone up in value a little over the time you own it until you need to sell, this would give you a fair chance of being able to pay back the Bank and walk away with no profit - but no debt.

The same thing could be achieved with a 95% LVR I suppose, but you would need to have a good cap gain and/or hold it for a longer term before the forced sale occurred.

The risk is far higher with a 95% LVR that you will need to sell for less than you owe. Let's face it; forced sales usually end up in a drop in price below its value, so the less you owe when it happens, the safer you are from loss.

With the insurance; you can't insure against selling at a loss that I know of.

You can get LMI, but that only protects the BANK's interest - they still get their money, and the LMI crowd still come after you for the difference.
 
If you're selling a property at a loss, you're selling at a loss regardless of what LVR you're on. Yes with a higher LVR you may have residual debt left over, but that's not going to cripple you. Anyway, just my opinion.

PS The insurance is desgined to stop you from having to sell at a loss in the first place eg. injury, TPD, loss of income etc
 
If you're selling a property at a loss, you're selling at a loss regardless of what LVR you're on. Yes with a higher LVR you may have residual debt left over, but that's not going to cripple you. Anyway, just my opinion.

PS The insurance is desgined to stop you from having to sell at a loss in the first place eg. injury, TPD, loss of income etc

The "selling at a loss" component is a result of the LVR. You are selling for less than you owe - not what the market value is.

For example; our LVR is around 52% currently.

If we had to sell all our properties at a 40% loss today (Steve Keen would love it), we would not sell at a loss on what we owe. Financially, we would not be wiped out.

It would be quite probable that we would have to sell for 70-80% of their values to get it done quickly I'd reckon, and with our LVR we would still be in front.

So, the LVR is very important to the loss/profit result of a forced sale.

I agree with the insurances for loss of income/injury though. I thought you were referring to insurance against the loss involved in the sale.
 
hey fuzzboy. had a look at your numbers and your missing:

management fees (11% of total rent) = $28,600 *0.11 = $3,146
rental vacancy (assume 2 weeks) = $1,100
IR buffer, maintenance (better to budget for this than not), pro-pack fees (~400pa)

these will push you in the red.
 
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The "selling at a loss" component is a result of the LVR. You are selling for less than you owe - not what the market value is.

hmmmm ok if that's the way you want to define it. I define a loss as; sale price - purchase price = profit/loss, regardless of the debt attached to the asset. Yes I could still have debt left over if it was sold at a loss.

As a different example, say you take out a loan on a $200k house, capitalise the interest for a few years and sell at $230k but the debt is now $240k - you've made a profit on the sale, even though your debt will be greater than the sale price. (don't pick at the figures too much, just meant to be a generalisation)
 
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