Join our investing community

LOC fundamental question

Discussion in 'Finance & Banking' started by Psyk, 4th Apr, 2008.

  1. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    Hello all,
    my first post but have lurking for a while. still a bit of a noob when it comes to the finances.

    Quick question re: the setup of a LOC.

    Say I have a PPOR worth $500K, home loan outstanding of $100K with a split fixed and variable interest and an offset account. I then take out a LOC for 80% of value. So looks like as follows:
    • PPOR: $500K valuation
    • Home Loan fixed: $50K
    • Home Loan variable: $50K
    • Offset account: $any

    If I take out a LOC does it completely replace the fixed and variable loans or is it added as a separate loan? For example (1):
    • PPOR: $500K valuation. LOC: $400K elligible (i.e. 80% of $500K)
    • LOC account: $300K ($400K - $100K of the fixed and variable loan)
    • Both the fixed and variable loans are now paid out by the LOC and interest being charged on the $100K of the LOC used to pay out the two home loans.

    ...or does it just add to the existing accounts less the outstanding home-loan amounts. For example (2):
    • PPOR: $500K valuation. LOC: $400K elligible (i.e. 80% of $500K)
    • Home Loan fixed: $50K
    • Home Loan variable: $50K
    • LOC account: $300K ($400K - $100K made up of the two home loans)
    • No interest charged yet on the LOC as nothing is drawn from the available $300K.

    Thanks in advance!:cool:
     
  2. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    Psyk,
    I have added comments above (in red)
    Lenders have different loan types but they are not necessarily available as 1 product.
    If you don't want to pay LMI ( mortgage insurance) with most lenders you will probably have to borrow up to 80%. The 80% figure includes everything (variable, fixed, LOC etc)
    so provided that your lender will allow it, you should be able to structure
    your loan as variable, fixed and LOC.
    Cheers
     
  3. tailcat

    tailcat Well-Known Member

    Joined:
    18th Jun, 2007
    Posts:
    96
    Location:
    Yeppoon
    Psyk,

    If I read your post correctly, you have a PPOR with the ORIGINAL home loan against it and you are planning to open a LOC for investment purposes.

    Keep the LOC completely separate from the original loan. They are different animals. The interest on the LOC (if used for investing) is tax deductible!!!!! The interest on the original home loans is not!!!!! Mix them and soon you will have no tax deductible interest at all.

    If you want to avoid LMI, then you should keep the LOC at 300k or below. At least until the value of the PPOR has gone up, then you can extend the LOC.

    If you are allowed an offset account then use it to offset the variable home loan. This is where it will do most good, especially if there are any more rate hikes.

    Tailcat
     
  4. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    My thinking is that because I have upto 80% availalbe that they will lend that amount less the current fixed and variable loans combined. Therefore $400K less $100K (made up of the 2x $50K amounts). Because the $100K was used to effectivley replace the 2x $50K loans, im now paying interest on the $100K from the LOC (as opposed to 2x $50K loans)?

    Tailcat, I think this will be the best option as the loans are separate for tax purposes as you mentioned. I can see why the LOC may be an additional loan/credit rather than a replacement of the home loan (i.e. to keep things separate). However, it does sound like you can do a number of options depending on your circumstances. I'm also keen to avoid LMI and I think most banks will do LOC's up to 80% without LMI.
     
  5. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    psyk
    You'll be paying interest on any money you've borrowed.
    Ofcourse a LOC is simply a credit and you only pay interest on any money taken away from the LOC.
    If you have a fixed part, a variable part and a LOC
    the banks should allow you to choose the source where the interest will be paid from. As an example for my PPOR loan the payment comes from my offset account.
    For LOC1 it comes from LOC2 etc.
    The loan structure and your decision on where the money
    to pay the interest will come from will depend on what investments you have.
    Without disclosing your plans it's hard for people to give you their opinion
    when you have decided what you want to do post your questions and you will be able to get more specific answers.
    Cheers
     
  6. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    Thanks again Bill for your input.

    I guess my idea was to try and understand the structure a little bit to become better informed when making the decision, however I've soon realised the flexibility is causing me some confusion :confused:

    Here is a snapshot of where we are:
    • PPOR on variable and fixed split loan as per above
    • 2x investment properties - secured against the PPOR (we're cross coll'd at the moment and that's another story :) ).

    My main aim is to see whether we can release some funding for future investments and create a buffer for the interest shortfalls in the property(s).

    My thoughts were to look at the LOC options on the PPOR to create a buffer and for the investments. No equity yet in the IP's at this stage and no.2 is to settle at the end of this month.
     
  7. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    Psyk.

    Cross col is not a good thing but it shouldn't bother you much.
    In fact in some situations this could also work to your advantage.

    Can you tells us what type of loans you have on the 2 IPs,
    the approximate property values and the size of these loans?

    Do you know the names of your loans and did they give you a discounted interest rate? (0.7 % off the standard rate)

    Cheers
     
  8. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    hi BV,

    sure, they're Interest only for both.

    IP1 = $310K valued, $255K loan
    IP2 = $400K-ish loan (not settled yet).

    They're with ANZ. No offset on them at the moment. I'm pretty sure they're the Residential investment loan type products with fixed interest rate portions.

    We did get discounted on both of them, but we still need to finalize paper-work for the 2nd IP.
     
  9. Rod_WA

    Rod_WA Well-Known Member

    Joined:
    18th May, 2007
    Posts:
    324
    Location:
    Inglewood, WA
    I assume that the Fixed/Var loans are your PPOR and not the IPs.
    Then don't pay the interest from your LOC! If you do, you will contaminate the LOC with personal-use transactions and then you're in for a bookkeeping nightmare.
    So set up the personal (PPOR) loan repayments from a seperate account, eg the offset.
     
  10. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    Yep that's correct.

    Agreed and Understood.

    Thanks Rod.
     
  11. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    Psyk,

    So you have the PPOR worth $500K and a loan against it of 2x$50K
    Maximum borrowings against PPOR is 80% or $400K
    From that so far you've used $100K against PPOR
    and assuming you've use the PPOR equity for the deposit on the 2 IP's
    you have used approx $100K for the deposit on IP1
    & approx $100K for the deposit on IP2
    so you should be able to get another $100K and put that in a LOC
    that can be used to support the 2 IP's.

    With only $100K left I wouldn't go and spend that money on shares or other investments. Instead, I would simply leave them there for a rainy day
    and while this happens I'd pay all IP expenses through the LOC
    and would concentrate my own money on minimising the PPOR burden.

    I'd get an offset against the PPOR and would not reduce the PPOR loan any further because one day you might decide to turn the PPOR into an IP
    and then you won't have any interest to claim against it.

    Cheers
     
  12. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    We actually used the PPOR as security, so effectivley no money down from our perspective.
    We still have our offset/redraw facility with the bank and we may just increase the draw-downs to help support the IP's. Currently we're able to service the loan. IP2 hasn't kicked in yet, but based on number crunching we should be fine for servicibility even if the rates do go up again...

    Missus is very keen to get the PPOR down to a big $0 - she does see the outstanding debts on the fixed and variable loans as 'eye-sores' :)

    IP expenses are coming out of the offset as well, and I'm almost thinking that we should probably have an LOC so that we don't mix the expenses.
    We talked (actually argued) about this quite a bit... We may resign to the fact of selling the PPOR when that time comes considering where currently paying P&I and maxing our payments as much as possible...

    I am thinking that we should apply for an LOC (and hence my queries) only specifically to service the IP's so that we don't mix deductible and non-deductible debt.
     
  13. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    That would be an improvement.
    Also, you can direct the rents into the LOC or have the rents deposited into the PPOR offset. By depositing them into the offset you will pay the PPOR loan quicker. Check with your accountant though because this practice has attracted a lot of attention and there are arguments as to whether this will be ok with the ATO.

    Cheers
     
  14. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    Thanks again Bill.

    So im back to the following:

    PPOR loans:
    • Variable = $50K
    • Fixed = $50K
    • Offset account = $varies

    Take out an LOC, and it should look like:

    PPOR loans:
    • Variable = $50K
    • Fixed = $50K
    • Offset account = $varies
    • LOC (ANZ's Equity Manager) = ~$300K - which is 400K (80% of $500K valuation) less the 100K outstanding above.

    I guess I'm interested in seeing how my internet banking list would look like? To me this seems the most reasonable setup (provided ANZ will do it this way).

    Income goes into either offset or LOC and the LOC can be used strictly for investment funding to keep bookeeping in order (primarily funding interest shortfalls and other IP expenses).
     
  15. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    But haven't you already used $200K of the equity for the 20% deposit of the 2IP's?
     
  16. Psyk

    Psyk Member

    Joined:
    22nd Mar, 2008
    Posts:
    8
    Location:
    Melbourne, Victoria
    On paper I guess that might be true. However, the funds were technically not drawn down (i.e. from the existing offset or a LOC).

    I guess another question is, as the IP's are using the PPOR as collateral does that then technically mean I potentially couldn't borrow anymore until the securities are removed?
     
  17. Billv

    Billv Getting there

    Joined:
    15th Jul, 2007
    Posts:
    1,796
    Location:
    Sydney, NSW
    Yes, so the LOC you are thinking of getting won't be $300K.
    It will be $300K minus whatever you've used for the purchase of the 2 IP's.
    This is not a problem though because each IP loan should include the 20% deposit + purchasing costs and you can claim all interest.
    Cheers
     
    Last edited by a moderator: 6th Apr, 2008