To Sell or Rent Out

[Brett IP]

Good Morning SS readers/contributors

I have an ongoing predicament for which I see two options. Have mentioned this before, but never detailed it. Ill lay out some facts for you, bare with me if you choose. I’m not necessarily after criticism as I realise this isn’t ideal, however when I first purchased over 4 years ago I had no intent or interest in investing, nor much knowledge at the time regarding loan setups. This has all thankfully changed.My mistake, but hey, onwards and upwards, not the end of the world!

This is why people should learn regarding offsets and not using redraw facilities. Rounding figures, I have a 320k contaminated (completely contaminated & no chance of deductibility) loan remaining on a 460k house (so 140k equity). This is our current PPOR. We want to move in to our IP desperately. Kid on the way

To sell the house it would be an immediate loss of roughly $24,000 - $30,000, taking in to account Selling costs (agent, solicitors, bank) & buying costs (Stamp Duty, solicitors, building & pest, bank). That’s a lot of money immediately & upfront. This loss is to end up in the exact same spot, sell a house and buy a replacement house, except the new house would have interest deductibility. The market in this area is also in a poor state at the moment as we could have sold for $470k 1.5 years ago.

The house has been fully renovated to a high standard; we did a top job with granite benches & top quality kitchen appliances etc. Everything has been repainted, repaired, new floors & tiles, new air cons etc. Maintenance wise for an IP it would be great and shouldn’t have any problems for many years. Due to the Reno’s it would attract good depreciation also. It is also in an ideal spot for an IP, right near many facilities (shops, tavern, transport) plus I would demand excellent tenants. There is a massive shortage of rentals in the area, especially quality homes.

I see two options.
1. Rent the house out at $450/wk & just cop the fact that I can’t claim the interest on the loan, which is about $400/wk (so miss out on $126/wk back in tax). Refinance IO with an offset and keep every spare cent in the offset to save un-claimable interest. We can probably bite off $30k of the loan in the next 6 months. We would work hard at the loan & then be able to redraw all the equity to use for other IP’s. This would gradually diminish the debt, reducing the loss of un-claimable interest & allowing more purchases.

2. Sell the house, cop the large upfront loss & re-purchase, move on.

You can tell by my description that I am leaning towards 1 but I’m after Opinions/Contributions?

What have I missed?

I guess all the buy and holders out there would be with me on going with #1?

I could sell myself down the track I suppose when the market goes up again. Would just need to get a good valuation now for CGT purposes.

 

[Propertunity]

I guess all the buy and holders out there would be with me on going with #1?

Well 'yes'...but you expected that.

Look to my way of thinking tax benefits are the icing on the cake - not the cake itself.

Let's say that with the stroke of a government pen, tax ded. on IPs were wiped out overnight (so no neg. gearing) - rather like the solar buy back thing of 60c going back to 20c at midnight last night with about 12 hours notice. Would the PPOR still work as an IP?
If the answer is Yes, then keep it.
If the answer is No, then keep it until you can sell later (in a better market) withour crystalising a loss - as long as you can afford to hold it.

 

[rugrat]

Yep, I agree with Prop.

We are in a similar position with our current PPOR. And although the temptation to sell up and buy a new one is there (because of deductibility), it seems contra-indicative to sell a house when we are at a stage in our lives where we are trying to acquire them.

Think of it this way: You could sell and loose $30k straight up, or you hold and it will take you 4.5yrs to "loose" $30k worth of tax deductions (probably actually longer, but based on the standard $126 p/w you provided) - in which time you could increase rent, pay down debt, have the value improved (and you could then still sell under the six yr rule - CGT free, if you choose), any number of other possibilities. 4.5yrs is a LONG time.

Then again I like buy and hold, and don't beleive there is anything wrong with paying down debt anyway.

Our strategy is to pay down the contaminated mortgage on our PPOR and take out new mortgages / LOC to use as deposits for other investment properties (it is how we have funded the deposit and stamp duty for the IP we are currently building). A bit of debt recycling -pay of the bad debt and rack up the good.

 

[Brett IP]

Thanks Prop and Rugrat.

I certainly feel that the positives of holding & renting outweigh the selling advantages. Given the current market then I should at minimum hold out for a while. Its better than average condition for the area should allow for higher capital growth too.

We can afford to hold it, and moreso I am a 99% chance at a fairly large payrise next year (boss retiring, im stepping up) so that will help, along with increasing rents. Im with you rugrat, pay down and use LOC for other Ip's.

 

[oracle]

I am pretty sure I am missing something here.

But what happens if you buy another PPOR and then make the current PPOR your IP. Once done, you re-finance with another lender to pay off the loan for the IP.

Now you have got a brand new loan with no contamination against an IP.

The only thing that I might be missing is the new loan is used to pay off a contaminated loan. Which means interest on the new loan is not 100% deductible. But if that is the case then you could argue that rent received from the IP is also not 100% taxable!

Cheers,
Oracle.

 

[Brett IP]

But what happens if you buy another PPOR and then make the current PPOR your IP. Once done, you re-finance with another lender to pay off the loan for the IP.

Our current IP, which will soon be our PPOR also has a mortgage on it.

Now you have got a brand new loan with no contamination against an IP.

Im certain that refinancing does not remove contamination

The only thing that I might be missing is the new loan is used to pay off a contaminated loan. Which means interest on the new loan is not 100% deductible. But if that is the case then you could argue that rent received from the IP is also not 100% taxable!

I dont think the ATO would like this argument

 

[marg4000]

Here's another option.

Whose name is the present PPOR in? Can it be "sold" to a spouse? If in joint names, then the higher-income spouse could "purchase" the other half.

Both of these options would allow for a deductible loan to be taken out, (with legal and possibly stamp duty costs incurred).

If it were entirely "sold" to a spouse and a new loan, the interest would be completely deductible.

If 50% "sold" to one of the joint owners, then a loan for that 50% could be taken out and would be tax deductible.

As said, simple refinancing of the existing loan would attract the same non-deductibility as the loan being paid out.

Check whether the present loan has exit fees.

And, sorry Oracle, the rent is ALWAYS considered income regardless of deductions.
Marg



Marg

 

[Brett IP]

Hi Marg

The PPOR is in both mine and my wifes name. Her income would never support buying my share (tied in with the IP loan). It is possible that my income may allow buying her 50% share next year, certainly keeping that one in mind.

Are you certain (ofcoarse Im seeing an accountant anyways) I could re-buy the whole house under my name? Wouldnt the ATO see this as simple tax avoidance, even with a 50% purchase? Surely this looks odd for a married couple?

The loan has no exit fees at present and we are about to refinance.

 

[BV]

Brett

If the property is in 2 names you could buy your mrs's 50% for lets say $230K
So you give the $230K to your wife to put towards your PPOR loan and that part of the loan becomes tax deductible
because you purchased an IP.
I'm guessing that you will incur stamp duty though

 

[Brett IP]

Ok

So lets run with the scenario that I purchase the house. What would happen with the current $320k loan? Would I borrow $320k under a $230 & $90k split of which the $230k would be deductible & pay the current loan off?

I guess If I borrow in my own name then they will take the 100% rental income in to account for just me, that will help with serviceability.

We have a $454k mortgage on the other house, I feel the bank will take it as thats all on my shoulders in regards to determining serviceability. Dont they already do that? As in, if your partner defaults then you have to pay anyways?

Wouldnt care about $5k or so of stamp duty if it helps me obtain interest deductibility. I guess I can borrow for the stamp duty and claim on that too.

 

[Brett IP]

Sorry, further to this, couldnt this create problems down the road when it comes to accessing equity & the serviceability? This house would be in just my name whereas we would be purchasing further IP's in both names.

 

[BV]

Brett

Assuming you did buy your wife's 50%, and since you already have a large loan on your other property, you should probably reduce it by putting the $230K straight into that loan.

So the $454K loan will reduce to $224K which will make it a lot more affordable and the IP loan can change to 80% of the current property value (460Kx80%=$368K)
Out of that $368K the $230K would have gone to the PPOR
and the $138K can be used for a deposit on another property.

If you decide to go down this path, run the figures by a mortgage broker and see what he says.

I did something like this some years ago with our old PPOR when I converted it to an IP. I had to pay stamp duty, a valuation ($350)plus legals ($600 for sell+buy legals using same solicitor) I saved on selling costs and 50% of the stamp duty. In hindsight I should have sold it because tenants don't look after properties so if you have a very well looked after PPOR, it will probably be better to sell it now while its still in top condition.

 

[Brett IP]

Assuming you did buy your wife's 50%, and since you already have a large loan on your other property, you should probably reduce it by putting the $230K straight into that loan.

So the $454K loan will reduce to $224K which will make it a lot more affordable and the IP loan can change to 80% of the current property value (460Kx80%=$368K)

Out of that $368K we would have to repay the current $320k loan on the property. This leaves $48k over and above the $320k that wouldnt be tax deductible unless I put it towards another IP, which I dont want to do just yet. I will refinance for those purposes down the track.

Of the $320k I borrow in my name, $90k would be to repay my $90k non-deductible portion of the loan & the $230k would be to purchase my spouses half, of which would be tax deductible. This sound right? As Im not effectively giving her the $230k, its simply paying that portion off the loan for her share of ownership.

In hindsight I should have sold it because tenants don't look after properties so if you have a very well looked after PPOR, it will probably be better to sell it now while its still in top condition.

It is very well looked after. Couldnt you claim this on their bond, or landlord insurance these days? I would also ensure inspections every 2 months. But yes, I realise that overall a lot of tenants will not look after it as if its their own, because it isnt theirs.

 

[Ed Barton]

Good Morning SS readers/contributors

I have an ongoing predicament for which I see two options. Have mentioned this before, but never detailed it. Ill lay out some facts for you, bare with me if you choose. I’m not necessarily after criticism as I realise this isn’t ideal, however when I first purchased over 4 years ago I had no intent or interest in investing, nor much knowledge at the time regarding loan setups. This has all thankfully changed.My mistake, but hey, onwards and upwards, not the end of the world!

This is why people should learn regarding offsets and not using redraw facilities. Rounding figures, I have a 320k contaminated (completely contaminated & no chance of deductibility) loan remaining on a 460k house (so 140k equity). This is our current PPOR. We want to move in to our IP desperately. Kid on the way

To sell the house it would be an immediate loss of roughly $24,000 - $30,000, taking in to account Selling costs (agent, solicitors, bank) & buying costs (Stamp Duty, solicitors, building & pest, bank). That’s a lot of money immediately & upfront. This loss is to end up in the exact same spot, sell a house and buy a replacement house, except the new house would have interest deductibility. The market in this area is also in a poor state at the moment as we could have sold for $470k 1.5 years ago.

The house has been fully renovated to a high standard; we did a top job with granite benches & top quality kitchen appliances etc. Everything has been repainted, repaired, new floors & tiles, new air cons etc. Maintenance wise for an IP it would be great and shouldn’t have any problems for many years. Due to the Reno’s it would attract good depreciation also. It is also in an ideal spot for an IP, right near many facilities (shops, tavern, transport) plus I would demand excellent tenants. There is a massive shortage of rentals in the area, especially quality homes.

I see two options.
1. Rent the house out at $450/wk & just cop the fact that I can’t claim the interest on the loan, which is about $400/wk (so miss out on $126/wk back in tax). Refinance IO with an offset and keep every spare cent in the offset to save un-claimable interest. We can probably bite off $30k of the loan in the next 6 months. We would work hard at the loan & then be able to redraw all the equity to use for other IP’s. This would gradually diminish the debt, reducing the loss of un-claimable interest & allowing more purchases.

2. Sell the house, cop the large upfront loss & re-purchase, move on.

You can tell by my description that I am leaning towards 1 but I’m after Opinions/Contributions?

What have I missed?

I guess all the buy and holders out there would be with me on going with #1?

I could sell myself down the track I suppose when the market goes up again. Would just need to get a good valuation now for CGT purposes.

so you can afford to hold the old ppor?

in your circumstances i'd only sell it if i could get top dollar or i needed the cash/tax refund for something else. you could always try to sell it now and if you don't get a good price rent it. watch that market over the next years and list it again when it's hot.

 

[BV]

Of the $320k I borrow in my name, $90k would be to repay my $90k non-deductible portion of the loan & the $230k would be to purchase my spouses half, of which would be tax deductible. This sound right? As Im not effectively giving her the $230k, its simply paying that portion off the loan for her share of ownership.

Its a tricky process so it would require careful planning and ofcourse requires trust in your wife.
I actually issued a cheque for 50% of the value of the property in my wife's name and she deposited it into our new PPOR loan.

in our case we had heaps of equity so this was an easy thing to do. In your case it requires some shifting of money around but if you have 1 lender it should be easy to do. If you don't have 1 lender it becomes harder to implement.

It is very well looked after. Couldn't you claim this on their bond, or landlord insurance these days? I would also ensure inspections every 2 months.

You can't claim damages for reasonable wear and tear and what's reasonable isn't defined anywhere so there is a very broad range of damages tenants can get away with.

I would have saved around $30K by not selling and buying again but I wouldn't be surprised if my property has lost $30K because its no longer in the top condition it was in when we first rented it out.

 

[BV]

Do you have a big loan on the current IP?

The other thing to consider is location.
Where is the property?
Has this area had its capital gain and could be going down and/or sideways for the next 5 or so years?

The $230K will save you over $300/w in non deductible PPOR interest.

 

[Brett IP]

I would have saved around $30K by not selling and buying again but I wouldn't be surprised if my property has lost $30K because its no longer in the top condition it was in when we first rented it out.

Have you been happy with the yield on this property? Also, totally dependent on your property size & features, wouldnt 2 weeks work & $15-$20k cover a full re-paint, new carpet/tiles and a freshen up so that you could now achieve top dollar for sale or more yield? Some could also be claimed as repairs.

Do you have a big loan on the current IP?

The other thing to consider is location.
Where is the property?
Has this area had its capital gain and could be going down and/or sideways for the next 5 or so years?

The $230K will save you over $300/w in non deductible PPOR interest.

Yes, the loan is around $450k. There is about $200k equity in that one.

The area is going sideways at the moment, has had a little downturn (some good bargains for sale at the moment), but I believe it will start to grow within a year or two again. Even if it takes 5 years, im not overly bothered, we believe in buy & hold, & being only 27 I have about 30 more years of property growth ahead. If it doesnt go up in that time, then everyone in to property investing is buggered

Based on surrounding areas, I certainly dont believe it will go down anymore.

 

[kathryn d]

You can go to an accountant and request they go thru your paperwork, and give you a report on the mortgage. When everything has been verified and documented, you go to the ATO (there is a section on this) and ask for a ruling.

Unless I am misunderstanding your initial concern, this does not seem to very complicated.
You are trying to make your nondeductible PPOR mortgage into a deductible one, when you have this property become an IP?

 

[BV]

Have you been happy with the yield on this property?

Not particularly, its currently yielding 6% so it just about breaks even.

wouldnt 2 weeks work & $15-$20k cover a full re-paint, new carpet/tiles and a freshen up so that you could now achieve top dollar for sale

$20K will improve it significantly and I could get a higher yield as well but I've decided not to keep it. I'll reno it soon and will put it on the market. I'm currently trying to get the tenant out.

The area is going sideways at the moment, has had a little downturn (some good bargains for sale at the moment)

Then perhaps you should sell and get your hands on those bargains instead. Where is the property? QLD?

 

[Brett IP]

You can go to an accountant and request they go thru your paperwork, and give you a report on the mortgage. When everything has been verified and documented, you go to the ATO (there is a section on this) and ask for a ruling.

Unless I am misunderstanding your initial concern, this does not seem to very complicated.
You are trying to make your nondeductible PPOR mortgage into a deductible one, when you have this property become an IP?

Thats correct. The current loan has been used as a redraw hundreds of times over the last 4 years, so is currently unclaimable. Just trying to work out if we can make something claimable or if we should sell. Purchasing the 50% sounds like a great idea.