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What type of loan to use

Discussion in 'Finance & Banking' started by islandgirl, 31st Oct, 2006.

  1. islandgirl

    islandgirl Well-Known Member

    Joined:
    18th Sep, 2006
    Posts:
    118
    Location:
    Middle of beautiful Moreton Bay, Qld
    I am getting myself really confused and just need some clarification on the type of loan product to use.

    Basically what I am trying to do is:
    1. Use the equity in my PPOR which is fully owed and worth approx $500K and borrow say $400K against it
    2. Use the $150K I currently have in cash as my cash buffer and offset this against the loan.
    3. Use the borrowed $400K to buy units in my HDT for investing

    The problem I have is that if I get a traditional LOC and deposit the $150K in it every time I use part of the $150 it would be deemed as for personal use unless I use it for investing.

    I guess I was thinking more of a traditional IO loan with an offset account. That way I could use the $150K as I see fit.

    Am I just overcomplicating myself??
     
  2. MichaelWhyte

    MichaelWhyte Well-Known Member

    Joined:
    5th Oct, 2005
    Posts:
    798
    Location:
    Sydney, NSW
    Islandgirl,

    OK, this is an easy question so I can help out a bit I think...

    Facts TODAY:

    PPOR $500K paid off
    Cash $150K
    Net worth $650K (zero debt)

    Potential Future:

    I would start by getting that LOC against your PPOR that you mentioned for $400K. When its not drawn down then there's no interest charge associated. Now spend that LOC as 20% deposits (or 15% with WBC) and go buy some IPs. For example, spend $100K of it and buy an IP worth $500K. This will require another interest only loan for the $400K balance of the purchase price of the IP. Use the spare cash in the offset account to offset this mortgage. Sure, the debt is deductible, but you've cleared all your non-deductible debt so you might as well use the cash buffer to offset the deductible debt and save you some interest.

    Here's what that would look like:

    PPOR $500K with LOC for $400K against it ($100K drawn down).
    IP $500K with $400K mortgage.
    Cash $150K offsetting IP mortgage.

    Net assets $500K + $500K + $150K = $1.15M
    Net liabilities $100K LOC (drawn component) + $400K IP Mortgage = $500K
    Net worth $1.15M - $500K = $650K (unchanged from TODAY), but now you have borrowings of $500K.

    The benefit is that the new borrowings of $500K are all deductible. The $100K LOC draw down against the PPOR is still deductible due to the "purpose" of the loan being as deposit on an IP. Your net loans are $350K ($500K less $150K offset), so you're incurring deductible interest on only $350K of borrowings, and are incurring no non-deductible interest at all.

    Of course, you could go and buy 3 more of these IPs with the remaining $300K of LOC as deposit provided your servicability allows. Your LVR certainly does. If you keep your cash buffer as a reserve and only use your equity on your PPOR via an LOC as deposit on IPs then you can hold $2.5M worth of properties. $500K as your PPOR and $2M in IPs.

    i.e.

    Net assets $500K (PPOR) + $500K (IP) + $500K (IP) + $500K (IP) + $500K (IP) + $150K (cash) = $2.65M
    Net liabilities $400K LOC (fully drawn) + $400K + $400K + $400K + $400K IP Mortgages = $2M
    Net worth $2.65M - $2M = $650K (unchanged from TODAY), but now you have borrowings of $2M

    Hope that helps... :D Now, go borrow some money! ;)

    Cheers,
    Michael.
     
  3. islandgirl

    islandgirl Well-Known Member

    Joined:
    18th Sep, 2006
    Posts:
    118
    Location:
    Middle of beautiful Moreton Bay, Qld
    Yep your right. That will work. The IP can have a standard IO loan with offset and then I can put my cash in there. That gives me the flexibility I need. Just wasn't lookin at it straight and getting lost in the beauty of it all! Definately need a strong cup of coffee now
     
  4. APerry

    APerry Active Member

    Joined:
    7th Jul, 2006
    Posts:
    30
    Location:
    Melbourne
    Michael's advice is spot on a 100% offset account is definately appropriate for your situation and will save you money and should preserve the tax deductability of your loan.

    Regards
    Alistair
     
  5. Leandro

    Leandro Well-Known Member

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    8th Dec, 2005
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    228
    Location:
    Sydney
    Very detailed response Michael, good on you! :cool:
     
  6. MichaelWhyte

    MichaelWhyte Well-Known Member

    Joined:
    5th Oct, 2005
    Posts:
    798
    Location:
    Sydney, NSW
    Thanks mate,...

    Its funny, I do most of my better posts over here on InvestEd at the moment and don't really have the energy any more to post the stellar responses on SS. Just goes to show that Sim and Steve Navra are spot on: kudos is irrelevant and doesn't really impact the quality of posts... :D

    Cheers,
    Michael
     
  7. salsa

    salsa Well-Known Member

    Joined:
    23rd Oct, 2005
    Posts:
    49
    Location:
    Brisbane
    Leverage into shares/funds with LOC and Hybrid Trust

    MichaelW,
    Great post thanks Michael.
    I am wondering if anyone could post similar information about how to max -leverage to invest in shares/funds, with Hybrid Trust, says starting with 1 M sitting in a LOC.
    Can we:
    1-use 500K from the LOC to borrow another 500K ====> 1M
    2-buy 1M income unit from a Hybrid Trust .
    3-Trust uses this 1 M to buy shares/funds
    4-Trust, now owning 1M worth of shares/funds, can leverage again to purchase another 1M shares/funds.

    So Total portfolio = 2M by using 500K from the LOC


    What I am not sure is, in step 1 and 2 , when bank lends the second 500K what do they use as security ? If the 1M was to buy a property then the bank would mortgage the property but in this case the 1M is to buy income units from trust . Do bank "own/hold" these income units as security ?

    Thanks
     
  8. handyandy

    handyandy Well-Known Member

    Joined:
    6th Jun, 2006
    Posts:
    312
    Location:
    Sydney Nsw
    Hi Salsa

    Micheals example is related to IP's rather than shares or mf's.

    In your example you could only borrow a further $500k (50% margin) or just under a $1mil at a 70% margin.

    In general it is not adviced to have a margin above 50% as this can increase the risk of margin calls as the value of the underlying shares/funds fluctuate.

    With a 50% margin the underlying value can alter by 30% without triggering a margin call. $1,000,000 initial investment with 50% margin loan. Value drops by 30% so now only valued at $700,000. This $700k is then divided into the loan amount, 500/700 giving a new margin % of 71%.

    If you went right up to the 70% limit and ended up with $1,500,000 invested and the same 30% drop happened then the new value is $1,050,000, 1,000,000/ 1,050,000 giving a new margin of 95% which may have exceeded the permissible margin by 15 to 25%. This shortfall would need to be made up or they margin holder would sell down your securities.

    As far as security is concerned the margin lender will hold the share/fund script through Chess and to actually transact these scripts you need to instruct the margin lender. All correspondence etc will go via the margin lender.

    Cheers