Rectifying the classic newbie mistake: using cash for IP deposits

[tess85]

Hi all,

For my first 3 IPs I did the typical newbie mistake of putting in cash for the 20% deposits.

I now understand what I should have done instead - and apart from using a time machine, there's no way to change what has been done already.

Lately I've been toying with the idea of selling an IP to fund another one - setting up the next IP in the correct way of course. Maybe buying in another state or via SMSF.

Naturally I have CGT, selling costs, and buying costs to wear.

At which point would it be "worth it" to sell an IP just to free up the cash that was used as a deposit and to set it up the right way? I'm not talking about a lot of cash tied up in the deposit - $40k to $60k depending on which IP I sell. Would you just shrug your shoulders, learn from the mistake and refinance the IPs instead of selling to get the cash back?

Thanks
Tess

 

[Jamie M]

I would settle on your current property before I did anything

Cheers

Jamie

 

[tess85]

Just planning ahead is all

 

[The Y-man]

Depends how much net profit you will make after costs (inclduing any holding costs over the years)

The Y-man

 

[Terry_w]

I think it is mainly a mathematical question.

Work out the cost of sale.
Then work out the non deductible interest you will save.

And then you will find out it will take you x years before you are saving money and then you decide whether to make the sale now or wait a bit longer fore more growth.

There are some strategies to reduce CGT too such as prepaying interest on other properties, contributing to super, timing the sale etc.

And don't forget to consider one spouse buying out the other.

 

[strongy1986]

Hi all,

For my first 3 IPs I did the typical newbie mistake of putting in cash for the 20% deposits.

I now understand what I should have done instead - and apart from using a time machine, there's no way to change what has been done already.

Lately I've been toying with the idea of selling an IP to fund another one - setting up the next IP in the correct way of course. Maybe buying in another state or via SMSF.

Naturally I have CGT, selling costs, and buying costs to wear.

At which point would it be "worth it" to sell an IP just to free up the cash that was used as a deposit and to set it up the right way? I'm not talking about a lot of cash tied up in the deposit - $40k to $60k depending on which IP I sell. Would you just shrug your shoulders, learn from the mistake and refinance the IPs instead of selling to get the cash back?


Thanks
Tess

Why don't you just get a loc?
Take the loan up to 90%

Have you had any IPs increase in equity?

You can get the 10% deposit back plus 90% of its equity growth

 

[tess85]

Why don't you just get a loc?
Take the loan up to 90%

Have you had any IPs increase in equity?

You can get the 10% deposit back plus 90% of its equity growth

Yes, they have all increased in value about 25% to 50%. But I'll never be able to fix the tax deductibility of the original cash deposit (20%).

By refinancing and buying another investment property, the equity release would be tax deductible, and so would the original loan, but I've messed up the 20% deposit bit.

I guess my real issue is this:

I have about $1m of loans but when my latest loan settles I will have over $2.5m of debt. That is a kind of scary number to me, and a large proportion of that is non tax deductible debt so it would be good to reduce that somewhat.

I thought I could sell my worst performing IP and stick the proceeds in the offset against my PPOR loan. By "worst performing" I mean it's not as CF+ as all the others due to high strata fees ($800+ pq). As a secondary consideration I would get my 20% cash deposit back. If I were to buy another IP I'd set it all up properly next time now that I know how to maximise tax deductibility...

Guess I'll have to crunch some numbers on whether it's worth it to sell a CF+ IP, pay CGT etc...

 

[Tyla]

I think selling cost may outweigh the tax you might be able to claim. Would the tax saving be bigger than CG + CF you expect to receive?

 

[Rolf Latham]

Yes, they have all increased in value about 25% to 50%. But I'll never be able to fix the tax deductibility of the original cash deposit (20%).

Id disagree with never.

Your specific circumstances may be different, but there arent many times where a decent Debt recycle strategy cant claw that back over the middle term

ta

rolf

 

[nhg]

But you would have saved on LMI.

If you're buying at regular intervals you wouldn't be at a 'loss' for too long.

I buy most of my stuff with 20% deposit. Only recently starting to refinance to buy more. Still at 80% LVR.

 

[wylie]

I've had a long day and could be mis-reading... but if you are thinking of selling an IP in order to turn $40K to $60K from non-deductible debt to deductible debt, I would have a big rethink, especially if you think you will buy another IP once you clear your "bad" debt.

Unless you were planning on selling an IP anyway, it just doesn't make sense to take the hit on selling fees and then take another hit on getting back into another IP.

How big is your non-deductible debt?

 

[danwatto]

Rather than sell and replace an IP, why not just use the equity to buy several more at 100% finance + costs?

You'll have the original positive geared ones plus a few neutral or negative geared ones to offset it.

 

[Rolf Latham]

But you would have saved on LMI.

Even there, whats the opportunity cost of saving 5 or 10 k vs being able to go earlier for another IP or preserve cash for non deductible purchases.

I know this thread isnt about LMI per se, but for many investors that want to grow a portfolio quickly and "know" they are buying into a rising market, LMI can be both a risk management tool and a multiplier of market movement at different times

ta
rolf

 

[Terry_w]

Someone could do all the above and sell and IP to by another just to release equity.

You must do the numbers to see hoow long it takes to recoup the costs of sale and repurchase.

It can also be a good opportunity to restructure - fixxinng purchase mistakes such as the wrong name, joint tenants, using trusts etc.

Also a good opportunity to sell an under performer and to buy a better performer (if you have a crystal ball).

If the property is in Vic and onwed by one spouse or both spouses it could be sold to between them with no stamp duty and the full interest on a loan of 100% of the value of the property could be deductible.

CGT can be minimised by :
timing
low income year
maternity leave
prepaying interet on other properties
contribution to super
etc

If the property being sold was a former main residence then it could be that there is no CGT payable at all.

But, you woudnt want to do this, probably, if the equity was just $40k or so. However if the property is a dud then maybe you would.

Even if it is a good property it may keep growing so the longer you wait the more equity you will release to pay down the non deducctible debt.

 

[kennyboi]

How exactly do you get loan on 100% on property without getting mortgage insurance?

How do you initially fund the 10% deposit from a tax deductible source?

Can I increase loan size on first IP for the 20% second IP purchase to fulfill tax deductibility?

 

[Terry_w]

How exactly do you get loan on 100% on property without getting mortgage insurance?

How do you initially fund the 10% deposit from a tax deductible source?

A few ways.

1. Use a LOC secured against a different property
2. Related party borrowings.


Can I increase loan size on first IP for the 20% second IP purchase to fulfill tax deductibility?[/QUOTE]

Depends how you structure it. It is possible yes.

 

[tess85]

Thanks everyone for the replies.

I've had a long day and could be mis-reading... but if you are thinking of selling an IP in order to turn $40K to $60K from non-deductible debt to deductible debt, I would have a big rethink, especially if you think you will buy another IP once you clear your "bad" debt.

Unless you were planning on selling an IP anyway, it just doesn't make sense to take the hit on selling fees and then take another hit on getting back into another IP.

How big is your non-deductible debt?

My non-deductible debt (when I move into the PPOR upgrade) is $1m+...

You're probably right, wylie. I'm going to crunch some numbers on selling the IP that I bought for $195k for $295k.

I've estimated costs of:
Selling costs $6.5k
Legals $1.5k
CGT $37k

Other considerations:
Savings on land tax - negligible - land value only $40k
Loss of CF+ income

Altogether it will cost me about $45k to get back my original $40k deposit and I will be left with profit of $63k for holding that IP for 4 years.

Then if I buy another IP I have to pay legals, stamp duty all over again etc!

Wow... CGT really eats into the profit.

I should probably sell the IP in a year that I'm not working (assuming there's any more maternity leave years coming up)...

Thanks for all the responses, it was good to get some different trains of thought to get an idea of my options. I think I will leave it for the time being and perhaps sell if I ever have a zero income year.

 

[Jamie M]

How exactly do you get loan on 100% on property without getting mortgage insurance?

Usually by borrowing the 20% deposit and costs against another property.

Cheers

Jamie

 

[dajackal]

Usually by borrowing the 20% deposit and costs against another property.

Cheers

Jamie

can cost include things like building and pest inspections, legals, depreciation report, and buyers agent fees?

no issues with deducting the interest expense if used to purchase an investment property?