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  • Can anyone help - young couple getting started

    Hey Guys,

    Long time browser but finally making a post in here - I've read up on the other threads but still have many unanswered queries (and worry!) which we're hoping you'll be able to help with... I'm happy to trade this knowledge for any sports knowledge, my main specialty is in League and Football but can do Rugby if you prefer.

    Anyway - here we go. Some background, we're a young couple aged 26 and 21 who've been saving for ever and finally starting to make the plunge towards getting a house.

    We're earning 110,000 between us a year after tax give or take a few thousand - we've got no debts and around $200k in equity through our savings and a little help.

    We've saved liked nutters over the last few years to try and get the right house for us and think we've found it - a lovely big modern house in West Auckland which appears to be in a nice region, lots of rooms and a decent sized section which does not require much from us.

    Our plan, to rent this property out for the first year, stay living at home while we get the hang of repayments before we make the big move into the property hopefully much more aware of the real costs... I think we'll suffer from mortgage shock otherwise.

    Now the questions - we're looking at a house for $550,000 and will have a $350,000 mortgage. We're looking at seeing up a LAQC for the property in year 1 (or maybe a little longer) before stopping this when we move in... I've done the research on the forum but have a few queries:

    1) Mortgage rates - currently 7.5. Do banks negotiate on these figures or do we just agree 7.5?
    2) We're looking at locking in 300,000 long term (and using our renters in year 1 to pay back) and us trying to take a good swipe out of the 50,000 which will be floating and under serious work from us with the plan to get the majority of this out of the way by the time we move in. Good idea?
    3) What sorts of tax advantages could we recieve with a LAQC under this situation?
    4) Depreciation - I'm really struggling to understand this while I can get my head around the above a little, how does this work?
    5) Is our mortgage big? Bigger then normal for income earners in our bracket?
    6) I got a zoodle.co.nz report on the property to put my mind at rest, I'm guessing the valuation here is lower then normal? It says it estimates the property at 515,000 with the current CV of 570,000 from the 1st Sept. Eek - we're looking at 555,000 which makes you worried.

    I'd really appreciate any feedback - it's all very daunting but I think we're getting there.

    Cheers, Tim

  • #2
    First of all Tim congratulations- you are certainly going in the right direction.

    1) are bank rates negotiable ? -Yes to an extent. you have nothing to lose by asking. You could consider leting the bank know you intend to purchase more investment property in the future, ie more mortgage for them in the future, but this may also raise the banks attention a bit about added risk.
    I would suggest you use a broker so they can advise you how the banks are feeling at present & also get you a better rate.

    2) yes good strategy - we have rates way below what is normal, so expect them to rise again over time. But be sure that you aren't intending to change things around in the near future that would cause the loans to be repaid, as this will incur break fees. Keeping an amount floating, that you think you can pay off each year is a good way of reducing loans without breaking fixed loans. Often you can also repay small amounts on fixed loans each year as well

    3) LAQC are about transfering losses from the rental property to the shareholders income in different proportions & thus saving you tax. eg if you earn 60k & your partner 50k, you may set up the LAQC shareholding 55/45 % respectively so the higher earner gets more benefit (if you decide shareholding should be 50/50, you don't need an LAQC as you can offset the losses against individual incomes anyway)
    So if the property lost 10k in the year, (typically 20k including depreciaton costs), then you could reduce your taxable Gross income/salary by $5,500 to $54,500 and your partner by 4,500 to 45,500 & therefore pay less tax (around 30% on those 5k amounts )
    Be very careful about transfering things in & out of LAQC (or any other entity) as they can be treated as sales & may attract tax or worse, make you a trader.

    4) depreciation is simply allowing for the slow loss in value of assets. Carpets are easy illustrations. It generally needs replacing every 5 years or so, so the IRD would rather see you make allowance for that "proportional loss" each year rather than see a total loss every 5 years. so they allow depreciation rate of 24% or whatever. eg if the new value of all the carpet is $10k (a bit high in reality) then each year you have a notional loss of $2400 which you claim as an expense, along with your rates & mortgage & insurance. When you do eventually replace the carpet you can't then just claim a $10k expense, you have to add it to the total value of the property, & depreciate it each year.

    5) I wouldn't think $350k was so large compared to most. the more important number is your loan to value ratio LVR - 350/515 68 % at worst - 350/550 64 % against what you are actually paying
    60% or less is a good number to aim for, & when you consider that most first home buyers end up with 90% mortgages ie 90% LVR, you will be doing pretty well.

    6) property value is really difficult to gauge right now, but is also less important to you if your intention is to live in the place.
    If the place is what you want in a residence & in a good area & has good prospects for future growth, then that in itself has a value.
    As a rental the value is less important than the difference between the rent you get from it & the expenses you have to pay on it (based on 100% mortgage)

    one other point - for mortgage interest to be tax deductable, the intention when taking out the loan must be for the money to be used in the process of making money. So your intention must be to purchase a rental, not to purchase a private residence, so be sure the broker & the bank record that is the purpose of the loan.
    Should you happen to change your mind in a year or so & move into your rental, interest on that loan will no longer be deductable and you may want to consider buying another rental at that point
    good luck
    Last edited by Keithw; 22-04-2009, 09:02 AM.
    Food.Gems.ILS

    Comment


    • #3
      Well done Tim and partner, You are well ahead of a lot of people you age (or older for that matter).

      A few comments I would make:

      First, since you intend to move into the property in a years time I would look to keep things fairly simple and keep expenses down. We have always prepared our own tax statements (PM me and I will send you a very good template that you can print out and attach to your IR3) and thus up to this year avoided accountancy costs. Read up on what can and should be deductible (it isn't rocket science) and there are always those on here who will help.

      Unless your income is substantially higher than your partners, it may not be worth setting up an LAQC for a year. Some accountants charge like a wounded bull to set up this structure, if you want to avoid costs do it yourself on companies.govt.nz (about $50 to register I think) and prepare minutes yourself to document the structure of, and the goals of the company (ultimately to make a profit, secure your assets etc etc). My wife and I are fortunate to be on the same tax bracket so have, up to now, have had no real need to setup one. If you choose not to set up an LAQC the expenses can still be claimed against your personal income.

      Depreciation can be a bit tricky as unless you can prove the asset has actually depreciated over the year you will need to pay clawback. This makes the accounting equation a little trickier (but still not hard). Therefore for chattels, I would definitely depreciate at the full rate (as there should be no clawback on this type of asset) but would probably refrain from claiming depreciation on the house as this will need to be paid back in the following tax year. If you did decide to depreciate it all you would have the use of that money for a year so would probably be beneficial if you want the headache.

      Lastly, as your LVR is close to 60% it may be worth asking the bank if they have a seperate (lower) interest rate for LVR < 60%. Many do, and if so it maybe worth persuing an actual registered valuation if you think that will be high enough to drop your LVR below 60% - or ultimately are you able to secure a little more of a deposit to ensure you pay a lower rate?

      Anyway, well done and i hope you keep us up-to-date.

      Comment


      • #4
        Quick Question - Home or Property Investment

        Originally posted by Tim82 View Post
        Hey Guys,

        Now the questions - we're looking at a house for $550,000 and will have a $350,000 mortgage. We're looking at seeing up a LAQC for the property in year 1 (or maybe a little longer) before stopping this when we move in... I've done the research on the forum but have a few queries:

        Cheers, Tim
        Hi Tim

        Welcome to PT

        Can I ask a big picture question? Are you focussed on smart ways to buy your own home or are you looking at starting your property investment portfolio? The answer will have an impact on the type of property you purchase..

        Personally we view our home totally separate from our investment properties. Our home is a place we love but if you look at the black and white figures it would be a hopeless investment (3% yield). We don't care because its "home". Whereas, our investment properties we dont have any emotional attachment but we bought them to do a job = put cash in our pocket and create capital gain (7.5 to 9.5% yields).

        So in your situation which path were you aiming at? If it is your "home" then it sounds like a good strategy. If it is going to be investment then we would need to see the black and white figures e.g. rent, upfront capital improvements required, estimated repairs, location etc to provide some feedback.

        Jono

        Comment


        • #5
          Great comments here. All the above is good information. I can help you with the mortgage info side of thigs here.

          Banks are funny with rates at the moment. They really aren't doing much negotiating at the moment. That said, with low LVR's you certainly can twist their arms a bit more. Also if you get an approval from one lender, and given your income, savings and LVR level there is a good chance for negotiating by talking with other banks. A good broker can help you here.

          While short term rates are pretty good at the moment and a good chance they may drop, the long term rates may well rise. Locking in for 5 years is a good strategy as you know what your repayments are for the next 5 years, but you are paying 2% more for those rates today. You have to really work out what is best for you. A lot of commentators are prefering short term for now.
          Having some on floating is a good idea as this does allow you to pay down principal. Most banks will allow you to repay up to 5% of a fixed amount each year also. Therefore if you do have some on floating and some fixed look to repaying off the higher interest rate in the first instance. Which would be the 5yr rate at the moment.

          Another strategy would be to look at taking out the maximum loan the bank will allow. Say 80%. On $550K this would be a loan of $440K. Then put all your remaining savings into the loan on a revolving credit type facility. This will allow you to access this money in the future for further purchases yet you will only pay interest on the used amount. eg. PP $550K, 2 loans $350K and $90K. Using $110K of your savings for deposit and the other $90K will be put into the RC account. You still only pay interest on the $350K as the $90K is like a big OD facility. Available when you want it if needed. This does require discipline which you seem to have.

          Westpac are really good for allowing you to repay your fixed loans quicker. Needs management right from the start with some good forward plannning.

          As for the size of the mortgage the bank would look to lending you around the $600K even without rental income, so no it probably isn't too big for your income. It may be for your age, but then again your savings is probably bigger than most people of your age. The above figure is dependant on various variables and only a rough guide.

          Lastly, as your LVR is close to 60% it may be worth asking the bank if they have a seperate (lower) interest rate for LVR < 60%. Many do, and if so it maybe worth persuing an actual registered valuation if you think that will be high enough to drop your LVR below 60% - or ultimately are you able to secure a little more of a deposit to ensure you pay a lower rate?
          This is correct to a degree. Yes banks may give you a discount for under 60%. However the LVR is set against your purchase price and not the Registered Val. Some banks will look at the val within 6 months but most are likely to re look at things until after 6 months.

          Hope this helps. love to help you further if needed.
          [email protected]

          Comment


          • #6
            Tim,

            Welcome to PT.

            Post a link to the internet advert for this property. I am in Wellington so don’t know Auckland property, however there are plenty of people online from Auckland who can tell you more about the area.

            Zoodle probably takes account of recent sales in the area. Ask the agent how the vendor settled on their asking price. Are there many other comparative properties in your preferred area for sale? How do they compare size vs price?

            Regarding LAQC for 12 months. If buy in an LAQC and your intention is to live in the property next year you may then have to sell it from your LAQC to another entity, your own name or a family trust. The reason being you cannot claim expenses on your own home.


            Can anyone else recommend the best way to buy (structure), a property in this scenario if not looking to keep it as a long term investment, but rather a family home.
            • Own name
            • Trust
            • Etc etc

            All the best,

            Niall

            Comment


            • #7
              Wow - thanks a heap to everyone for taking the time to respond in so much detail, I'm in the office now but will digest and reply after work tonight.

              We're likely to purchase another property again but realistically, this won't be for another 3,4 or even 5 years so the revolving credit is an option but probably not needed. I'm really looking at putting a considerably % of the mortgage on a floating rate.

              LAQC - will look at in more detail but I agree that if I can, I'll set up myself.

              A question on depreciation, if I claim 20k on chattels depreciating over 5 years, do I have to reimburse the IRD on the tax savings?

              Lastly - the property is Revolution Realty reference RVN10059 - I can't post the link as I have not made 10 posts... Zoodle valued it at 515,000 which is the main concern!

              We'll also be able to bring mortgage down below 60% - it seems we're pretty close....

              Watchful - would you have an email address, I'd love those templates (will email my details)

              Will digest more and post after work tonight but thank you all a lot for the replies so far.

              Comment


              • #8
                Investment vs Home

                Hi

                Just had a look at the advertisement for the house. From the photos it looks like a great place to settle down.

                However, Re: my last post if you are thinking about using this property to start your property investment portfolio then make sure you focus on the black and white figures rather than the visual appeal.

                As an comparison we bought a block of three flats last year for a similar value to your house at $570,000. It has a 7.5% yield at purchase. The block is in a fantastic area just behind Riccarton Mall. With improvements to the property we have been able to lift rents and with locking in interest rates (6.5-7.5%) this property will almost pay for itself pre-tax. This is 100% leveraged (borrowed against portfolio equity). If we had your 40% equity stake it would be putting $15k (rough) back in our pocket.

                So looking forward if you compare cashflow (net cash in your pocket) and potential equity which type of property will give you the greatest gains? On top of this how do the different types of properties influence your next buying decision? You may find a property putting money in your pocket will help subsidize property two until it puts money in your pocket and so on ....

                Again if you are buying a home these figures may not be relevant.

                Jono

                Comment


                • #9
                  Speaking of LAQC, can I live in a property whin LAQC. I just dont make claims, can I? So the idea is whenever buying a property, I put it in to LAQC. I just do not make any claim for the one I currently live in. Is this ok?

                  Comment


                  • #10
                    Hi Tim,

                    1) Have you thought of buying a property (reasonable easy in west auckland I think) that has a large section, and that you can build a minor dwelling on. Or buying a property with two dwellings already on it. This way you have a home and income? Doing the minor dwelling yourself could be a good way to improve cashflow plus give initial capital gain. I'm not saying I'd definetely do this myself, but it is worth looking into and having a good think about.

                    2) Work out the current rental profit/loss

                    Rent - $550 * 50 weeks = $27,500 - 5% yield
                    Interest at say 6.5% (reasonable rate at moment for shorter terms) $19,250 with $350,000 debt
                    Rates $2,000 my guess
                    insurance $450
                    property management ??
                    Repairs $1,000 but could be a lot more
                    Travel $100
                    Advertising $250
                    Bank fees $50
                    Accounting $500
                    Total cash expenses $23,550
                    Cash surplus $3,950
                    Less Building depreciation say $275,000 @ 3% = $8,250
                    Less chattels depreicaiton say $50,000 @ an average 10% = $5,000
                    Tax loss = $9,300
                    Tax Refund at 38% presuming over $70k income = $3,534
                    Cash profit after tax = $7,484
                    As return on $200,000 deposit is 3.7% after tax, which is good, plus potential for capital gain.

                    3) Note most of the tax loss is from building depreciation. So if sold within same financial year (31/3/10), then most likely as the building shouldn't have reduced in value, the building depreciation would be recovered. So real tax loss only $1,000.
                    If sold in different financial years, you would get the depreciation deduction on the building in the first year, but have to pay it back in the second. So gives small timing advantage.

                    4) With chattels, as mentioned by other writers, generally as chattels do wear out, there is little or no depreciation recovered, but chattels valuation does cost $300 - $500.

                    5) Ownership -
                    a) If in LAQC, then once becomes personal house, can't really be owned by LAQC, so have to sell out to personal names or Trust, cost say $1,000 in legal fees, possible loan break fees. Also cost of LAQC to set up $160 in companies office charges or $600 + GST or more through lawyers or accountants. For 1 year as a rental, I'd keep away from an LAQC.
                    Advantage could be with the sale, as you could possibly claim tax deductions at 38% in first year, and only pay 30% tax on depreciation recovered by keeping in company.
                    b) Trust - Great for asset protection and could also own the property long term. But loss stuck in the Trust. If property changed to private within 1st financial year, and only tax loss of $1,000, then a Trust could be the best option, as tax refund lost is only $380.
                    If property sold in second financial year, then tax loss would sit in Trust for first year, then loss carried forward would offset depreciation recovered.
                    c) Personal names (partnership), no cost to form. Cheaper tax return if done by accountant ($500 approx for partnership vs $1000 for LAQC). Tax loss will be split 50/50, and depreciation recovered in year of sale will be split 50/50. Both most likely at 38%, but you might get tax saving at 33% and tax payable at 38%.

                    Trust would be my prefered option.

                    6) For tax refunds and tax to pay, need to know your individual earnings before tax. So $110k combined after tax isn't very helpful. If over $70k taxed at 38%. If under $70k (and over $40k) taxed at 33%.

                    Ross
                    Book a free chat here
                    Ross Barnett - Property Accountant

                    Comment


                    • #11
                      Ross,

                      If it was in a trust and the trust leased to Tim & Co and Tim
                      & co sub-let to tenants and both Tim and Co were discretionary
                      beneficiaries in the trust, as well as directors of the sole trustee
                      trustee company . . . . (puff, puff)

                      Doesn't that get around the 'loss' impediment that you see?
                      Want a great looking concrete swimming pool in Hawke's Bay? Designer Pools will do the job for you!

                      Comment


                      • #12
                        Hi Perry,

                        Just making sure my understanding is correct

                        1) Trust owns property
                        2) Tim & Co lease from Trust - say $500 per week
                        3) Tim and co then on lease (or sublease) to tenant - say $550 per week

                        To make commercial sense, Tim & Co would need to make some money on the lease, so like my figures above make $50 per week. Otherwise why would they do it? And would become tax avoidance, as there is no other reason as to why this would be done.

                        Trust then makes a bigger loss, which is stuck in Trust.
                        Tim & Co make a profit which is taxable.

                        It doesn't make a difference who the beneficiaries are, as Trust making a loss, and who is involved in the corporate Trustee makes no difference.

                        Some dodgy lawyers have come up with the idea that a Trust owns property, and leases to an LAQC at a taxable profit, then LAQC makes huge loss by paying Trust say $800 per week, but only getting $550 per week from the tenant. Its just a joke!!

                        Ross
                        Book a free chat here
                        Ross Barnett - Property Accountant

                        Comment


                        • #13
                          Asset protection (long term) seems a valid reason.
                          Especially as there is an intention to personally occupy.

                          Being related party transactions, there needs to
                          be appropriate levels of credibility regarding fees,
                          costs, losses, etc. But it's a business and not all
                          businesses make profits all the time. Some unfore-
                          seen vacancy periods, unexpected R & M (depending
                          on lease agreement) could result in T&C having
                          a loss that's credibly deductible, couldn't it?
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                          Comment


                          • #14
                            The transaction needs to meet a "commercial reality" test.

                            Would you or I lease from Tim's Trust for $800 per week, and then on lease the property for $550 to the tenant for only one year? NO!! therefore tax avoidance.

                            Over 10 years, I'd still say no. As the middle man I don't own the property, so no capital gain, therefore I'd need there to be a cash profit, and not just the dream of it further down the line.

                            For transactions like this, if you can pretend to be an unrelated person and ask "would I do this transaction?". There is no commercial reason for the middle person to do this, therefore Tim & co can't legally do it either.

                            Ross
                            Book a free chat here
                            Ross Barnett - Property Accountant

                            Comment


                            • #15
                              OK - we'll just agree to disagree.

                              Now I didn't suggest a differential of the 800-550 order.
                              Your initial hypothesis was a $50 differential . . . . .

                              Use the commercial reality test if you will. Then what
                              happens if/when there are unexpected income shortfalls
                              or unexpected expenses? The same as happens to any
                              other business that suffers the same problem.

                              The intention to use as a PPOR also gives credence to
                              the use of a Trust and such a structure. Also can allow
                              for 'income' splitting if either T or Co stops working.
                              Want a great looking concrete swimming pool in Hawke's Bay? Designer Pools will do the job for you!

                              Comment

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