Buying a home but renting in the 1st years

[Razor]

Hi all

I have been thinking on and off about my long term future and getting into a property, and had an idea come to me. (Bit of a brainwave)

Here's my situation and idea: I am boarding with my parents which allows me to save quite a bit. I am also studying for a degree which will take another 4 - 5 years. I also work full time. I have a 10% deposit saved for the type of property I'd be looking at (2-3 bedroom, 1 bathroom, garage, and lounge)

My idea is that I could buy a home that I'd like to live in, but instead of moving in straight way, rent it out to help pay off a bit of the mortgage. This also gives me extra time and money to finish my study. I wouldn't have to fork out extra costs for food, power, etc.. Rates, interest, R & M and insurance are about the only expenses I can think of.

The other option is what I have been working towards, which is saving for the four years I am studying+working, and then buying. I estimate I would have saved a 24% deposit in that time.

Issues I am aware of at this time are:

Tax on rental income. (What can be claimed as expenses? Rates, insurance, interest, R & M) (Actually by the time interest is paid the property will make a loss as I know I will have to top up mortgage payments.)
Timing: Rent out for 4 years then move in myself - IRD issues with having claimed expenses against rental income in the previous 4 years? I don't think so... but best to be aware I think.
Opportunity costs: I.e. the interest I would have made on the savings over 4 years at say an average of 5%. Current rates are 4.35% for 1 year 5.75 for 4 years (ANZ) I am expecting these to go up in September due to OCR hikes.
Currently a good market to buy in - prices low, and interest rates low - in 4 years who knows. (Research indicates that property might not move much, but interest rates could with high inflation)

That's my basic thoughts. I am hoping members here will be able to give some advice, direction, things to watch out for, and whether the idea is a good one. (I haven't heard of anyone doing it, but I'm sure someone has tried it.)

Thanks

Razor

[keleri]

You will get differing advice from 'experts' as no one knows what will happen and their views are based on other 'expert' information. I would buy now if you can with your financial situation if you are happy that it will work. Was in Real Estate for years and seen many good buyers wait and save for something a little better. Ended up paying more for a lesser house as they could not save faster than prices were rising. Ignore interest rates as these fluctuate anyway, nothing you can do about it.

[One]

People often seem to have trouble finding a house they want to live in that'll also make a good rental.

You're probably low on time for property hunting, but another option is to just buy a rental - cashflow positive so you don't have to top it up. Then in 4-5 years, you can either sell it and buy a house you want to live in, or you can move in there yourself for a while.

4-5 years is a long enough time to make it worth

[WGN ex-property manager]

Tax on rental income. (What can be claimed as expenses? Rates, insurance, interest, R & M) (Actually by the time interest is paid the property will make a loss as I know I will have to top up mortgage payments.)
Timing: Rent out for 4 years then move in myself - IRD issues with having claimed expenses against rental income in the previous 4 years? I don't think so... but best to be aware I think.
Opportunity costs: I.e. the interest I would have made on the savings over 4 years at say an average of 5%. Current rates are 4.35% for 1 year 5.75 for 4 years (ANZ) I am expecting these to go up in September due to OCR hikes.
Currently a good market to buy in - prices low, and interest rates low - in 4 years who knows. (Research indicates that property might not move much, but interest rates could with high inflation)

Razor

Tax : Interest payment (not principle payments) on a rental property are tax deductible, but if your cash-flow positive and making a profit you'll pay some tax (simply put: tax on the profit, not on the total rental income).

Timing : The "market" may not move too much in 5 years, but the ability to hammer out really cheap deals from motivated vendors will reduce significantly. It doesn't get any better than now.

Opportunity costs - remember you're going to pay tax on your bank deposit interest, so in reality the returns on money in the bank are likely to be lower than inflation.

IRD : What you're proposing is OK, as long as you structure it right and clearly declare your intentions (eg in writing to you're accountant). Get a good property specialist accountant just to make sure you don;t shoot yourself in the foot in some of the minor details.

Property market vs inflation vs interest rates. In my opinion the worst of the crash is over, and the market is stagnant. If real inflation (not just the spike due to GST increasing to 15%) takes off, I expect property prices, wages, rents to roughly track inflation. When we eventually get the next property boom, propertry should accelerate ahead of inflation. Message is that inflation is GOOD if you're in debt, as it erodes the real value of the debt, while the underlying asset tracks inflation. CAVEAT, high interest rates come hand in hand with high inflation, so expect cashflow to be an issue during the period of higher inflation. If you survive the cashflow then the capital gains are great.

There were short periods in NZ's recent history where inflation, interest rates and capital growth where all above 20% at the same time. Very scary in the short term, but as long as you didn't go broke, you make a fortune.

[Razor]

I would buy now if you can with your financial situation if you are happy that it will work. Was in Real Estate for years and seen many good buyers wait and save for something a little better. Ended up paying more for a lesser house as they could not save faster than prices were rising. Ignore interest rates as these fluctuate anyway, nothing you can do about it.

An excellent point - thank you. I will remember this.

People often seem to have trouble finding a house they want to live in that'll also make a good rental.You're probably low on time for property hunting, but another option is to just buy a rental - cashflow positive so you don't have to top it up. Then in 4-5 years, you can either sell it and buy a house you want to live in, or you can move in there yourself for a while.

4-5 years is a long enough time to make it worth

I hadn't thought of this option. The problem would be finding a cash-flow positive rental, I think my deposit would need to be bigger so the loan interest didn't outweigh rental income. Thanks.


Robin McCandless: Thank you for the insights provided.

I think one of the problems I have to think about is that, sure, I could buy a property now, rent it out, and be able to afford top up payments from my wage (Say if the rental was negative cashflow) but then I could face problems when I try and move in because obviously I would have to fund the entire mortgage out of my wage so I'm thinking some serious budgeting and planning is needed.

[One]

The problem would be finding a cash-flow positive rental, I think my deposit would need to be bigger so the loan interest didn't outweigh rental income.

No, the idea would be to hunt for a property that's cashflow positive on 100% borrowing. See this thread: http://www.propertytalk.com/forum/sh...today-s-market

This may be a bad idea for you because it'd take time to find and may need renovations, and may be in an area you wouldn't want to live in. In effect, you'd be parking your wealth in a property for a few years instead of in the bank.

Oh, and if you get to the end of the 5 years and don't want to sell the rental, you may be able to borrow against the rental's security instead of selling it.

Another question: are you in kiwisaver? If so, you can get the first home buyer's subsidy as long as you live in the house for at least 6 months - but not if you've bought a rental first.

[Rosco]

I would be careful about waiting 4 years to buy. At the early stages of the last property boom, I remember lots of investors saying that they were just going to wait a while, save a bit more etc. Then property prices went up and they couldn't buy.

Over the last 15 years, property has gone up on average by 7% per year. This doesn't mean it will go up by this in the future, but it is very difficult to predict the market and this is the only factual information available.

So say you want to buy a $300,000 property, and you have 10% deposit, so would owe $290,000. In four years you will have $75,000 available, or saving around another $10k per year.

If wait 4 years and property does go up 7% per year
- Year 1 $321,000
- Year 2 $343,000
- Year 3 $367,000
- Year 4 $393,000 less $75,000 savings, gives $318,000 mortgage.

Whereas if you buy a positive cashflow property, you will still be able to save the $10k approx per year, or more realistically put this into the mortgage of the rental reducing it to around $250k.

- Watch out for interest rates increasing!

Ross

[Maccachic]

I think one of the problems I have to think about is that, sure, I could buy a property now, rent it out, and be able to afford top up payments from my wage (Say if the rental was negative cashflow) but then I could face problems when I try and move in because obviously I would have to fund the entire mortgage out of my wage so I'm thinking some serious budgeting and planning is needed.

Flatmates are a great way to help out with a Mortgage just be careful who you find

[Tan]

In your situation, I would buy a rental that I would be prepared to live in rather than a home I would initially rent out. The reason for this is that so much could change in 4-5 years - you could be married with 3 kids, decide to live in deep Africa, move to Ausssie, change your tastes, etc etc.

Also, get an interest only loan. You can always pay lump sums off it if you want to (as long as interest rates are rising there's no charge), or change to P&I later, but it takes the pressure off initially.

Buy sooner rather than later and fix your rate. House prices always go up over time, and interest rates always go up when they are this low. Heaps of people wish they had bought their first place earlier, very few wish they'd started later.

Think about your structure as mentioned above. 2 main things to think about - you are probably single. You want asset protection. But if it's in your personal name you get to offet any loss against your personal tax.
It is preferable that there is not enough loss to warrant offsetting it, so that makes asset protection higher priority. It would be nice if you could meet someone and stay together for ever, but what if you have a casual 3 year relationship? You won't have to worry if you have it covered from the start.

For the future - you can always get a flat mate to make things more affordable, or until you meet a partner to share the place with .

[WGN ex-property manager]

I'd second the "buy an investment that you could tolerate living in if you had to" idea.

Buying a home is an emotional decision, you have to LIKE it, ideally LOVE it.

Investment is about numbers, not feelings. The only feelings are generally fear and greed, both can be reduced by taking a fact based, systematic approach to risk management.

[shanecarruthers]

Home and income property ? or 2 dwellings on one site so you can have the best of both worlds ?

[WGN ex-property manager]

Home and income property ? or 2 dwellings on one site so you can have the best of both worlds ?

Tried that myself, but it was such a good investment property I moved out

Also leads to messy accounting and tax.

So your Home and Income that you live in gets a leaky roof that costs $1000 to fix. Is this tax deducible or not?

[shanecarruthers]

I think Home and income is the way to go, yes there will be some accounting and tax things to deal with but will get you into the property market with income to pay your mortgage.

[WGN ex-property manager]

True, accounting is not an insurmountable problem, you just have to be quite precise with what gets paid by which entity.

[Tan]

Investment is about numbers, not feelings. The only feelings are generally fear and greed, both can be reduced by taking a fact based, systematic approach to risk management.

Luckily I have no emotions about a house except the 'yield rush' which I get when I quick-calculate a good yield. I do have lots of fear & greed which makes me sit down & do the long version yield calc.
I hope the greed grows as fast as the fear! It was better when I had nothing to lose, but there's a lot to be said for adrenalyn .

When they start to fade I get bored.