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Living off Equity - Reality Check from the Banks Perspective

Discussion in 'Investing Strategies' started by Tim, 16th Jan, 2008.

  1. Tim

    Tim Well-Known Member

    Joined:
    27th Jun, 2006
    Posts:
    111
    Location:
    Lismore NSW
    Hi All,
    I have been increasingly looking at the concept off living of equity through LoC - a much discussed topic on this forum.
    What I am wondering from anyone who is doing this or is intending on doing this not too far down the track:

    1) REALITY CHECK - Does anyone actually know of any banks who are happy to say "we realise you have no income to speak off (apart from share dividends and rents that don't cover your loans anyway, or maybe short term cash bonds that are simply repaid capital), SO.....we are happy to keep lending you equity based on assumed future capital growth and we will pretty much throw away our DSR models because heck, you are loaded and you don't need to prove you can service your loans".

    2) What amount of equity is required (my thoughts: $2M to make it worthwhile, providing around $100k per year)

    3) What LVR do you think is acceptable (I am thinking around 50-60%)

    Thanks I am trying to reality test this concept - maybe I have parts of it wrong so happy to be corrected or have my views modified.
    Cheers,
    Tim
     
  2. AsxBroker

    AsxBroker Well-Known Member

    Joined:
    8th Sep, 2007
    Posts:
    1,448
    Location:
    Sydney, NSW
    Hi Tim,

    I'm guessing your trying to get some tax effectiveness.

    1) You don't just need a income from a job to get a loan, you need serviceability, ie, some sort of income from shares, property or a job, etc.

    2) Based on $2m for $100k your aiming for about 5% income which is an achievable realistic figure. Is this $100k before tax or after tax? If your investing in shares you possibly could earn $80k or so fully franked so you won't have to pay any tax with nil deductions (Ie, having to spend more money). Even 8% could be seen as realistic, this means you could have a capital base of approx $1.33m

    3) Good question, 50% LVR would mean $670k borrowed, at 9% borrowing costs $60,300 pa. Which will come out of your $100k income.

    Obviously the lower your LVR the easier it is, but also the lower the tax effectiveness.

    Cheers,

    Dan

    PS Before making an investment decision speak to an FPA registered Financial Planner.
     
  3. coopranos

    coopranos Well-Known Member

    Joined:
    11th Oct, 2006
    Posts:
    498
    Location:
    Perth
    At present, you can do a lo/no document loan for anywhere up to 90%, however my understanding is that you can do a pure asset lend up to 60%, so you would want to make sure you had plenty of buffer under this (you dont want to go up to 60% in your first year, have a flat year or negative year on your property, and not be able to draw an income for the next few years). I would think you would want to always have the next few years available without having to revalue.
    Whether these loans will always exist is a big point made by critics of the method. My own rebuttle is that if they dont exist any longer - who cares. If you have been conservative you should still have a bucket load of equity, and you have at least had a few years run with LOE before they canned the loan, so you are in a better place than if you had never used the strategy (having not HAD to work, whether you did or not is another matter).

    Amount of equity required - who knows, personally I would want to always have around 5 years income available at least, so there is plenty of time to look down the road and prevent/react to any possible problems.

    LVR-wise I would have thought around 50% was doable.

    In my opinion the best arguments that the critics of LOE throw up is that if you get to a point where you have that much equity, at such a low LVR, is there really any point in using such a risky strategy when there are so many other options (and regardless of what anyone tries to argue, if your debt is going up and you are relying on future growth for sustainability that is a lot more risky than selling down and living on interest - $2M in a high interest bank account should easily provide you with $100k pa with enough left over to reinvest as an inflation hedge). Having said that, if property DOES happen to increase at an average rate over the long long term, LOE will let you take your income to a whole new level - $2M equity @ 50% means $4M worth of property. Interest on that is say $160k pa, 5% rent will give you $200k income, leaving net of $40k. Throw in the growth of 5% gives you another $200k pa.
     
  4. Nigel Ward

    Nigel Ward Team InvestEd

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    Posts:
    1,172
    Well said Coops!
     
  5. Leandro

    Leandro Well-Known Member

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    8th Dec, 2005
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    Location:
    Sydney
    I agree, nice post coopranos. :)