30 years loan vs 20 years loan

[James.wu]

Hi guys

I am learning to invest in property here, I am doing some exercise by looking at tradme, and find some properties that I think it may be good for investment. I found that if I calculated and P&I loan repayment with 20 years. It's cashflow negative, but if I calculate it with 30 years loan, I can have some cashflow positive.

As I have read Graeme's book, he suggests using a 20 years P&I loan.

But what is if I use 30 years loan? Because it can give me cashflow positive. As I am starting out, I need to build a good positive cashflow. Is there any reason that I can't use a 30 years loan when I am starting out?

Thanks

James

[snobilo]

Good Evening,

I am in the same position as you having just bought my first investment property and I went for 30 years P&I fixed for my first year at 4.3% as I'm gambling on the OCR dropping further in a years time where I can fix for a longer time for less. By going 20 years you are reducing the interest you pay by a very large amount, if you look at ANZ you can increase your payments by 5% and this reduces the time to 27 years and a lot of interest saved so I believe that is a major selling point on the shorter loan term. My plan personally is start out at 30 years to getting everything sorted and when your loan comes up for review adjust it to your circumstances to pay of sooner such as a 5% increase in payments with no added fees and saving years on your repayments.

I think it comes down to what your goals are as you'll see on a few previous posts the seasoned investors often respond with questions such as what are you after? short term gain, long term, capital gain, net return etc. Lastly if you plan to hold the property I'm of the belief that you want to pay it off as soon as possible while ensuring your property washes its own face so dont pay half your salary on top of rental income to pay it off in 5 years but rather have 3 properties that you put very little into each while using the capital gain to purchase new properties rather than capital paid off. Again this is my personal opinion and is the route I choose as its a bit more of a gamble but allows for more properties and I like risk.

I hope this helps a little bit, play around with mortgage calculators too to see the effect it has on your repayments.

[Damap]

Longer term loans simply means more interest. Do what works for you. In America I use 50 year loans. It all depends on your goals. You can always pay the loan down faster later on.

[Courham]

If you can afford 20 years do it, saves $$$$ at the end of the day- but if you want 2-3 properties maybe start at 30 yr to get more. Most of us have only ever dreamed of 4.3% interest rates. Make sure you can cover expenses etc if they go back to 5... 6...7...or higher. Word on the street 4 is the new normal but who knows for sure.

Craig

[snobilo]

Completely agree with you Craig and again this is just me but I ensure that I can cover all costs with a 6.5% interest rate to be safe if others want to try something like this also. I read one of Orions posts not too long ago about always using numbers higher than what they are, just to be on the safe side, rather have extra money in the budget than not enough.

[Nick G]

It depends how negative it is. If something is going to cost you a very small amount per year for the first few years would you not be better off to go for it and pay it off faster?

Some great advice here too about running the numbers conservatively.

[James.wu]

Longer term loans simply means more interest. Do what works for you. In America I use 50 year loans. It all depends on your goals. You can always pay the loan down faster later on.

Do you have investment in US too? Is it hard to manage (I am assuming you are in NZ) given time and location different? For a 50 years loan, it almost like an IO loan for me, what's the benefit of using a 50 years loan? If you don't mind me asking.

James

[James.wu]

Good Evening,

I am in the same position as you having just bought my first investment property and I went for 30 years P&I fixed for my first year at 4.3% as I'm gambling on the OCR dropping further in a years time where I can fix for a longer time for less. By going 20 years you are reducing the interest you pay by a very large amount, if you look at ANZ you can increase your payments by 5% and this reduces the time to 27 years and a lot of interest saved so I believe that is a major selling point on the shorter loan term. My plan personally is start out at 30 years to getting everything sorted and when your loan comes up for review adjust it to your circumstances to pay of sooner such as a 5% increase in payments with no added fees and saving years on your repayments.

I think it comes down to what your goals are as you'll see on a few previous posts the seasoned investors often respond with questions such as what are you after? short term gain, long term, capital gain, net return etc. Lastly if you plan to hold the property I'm of the belief that you want to pay it off as soon as possible while ensuring your property washes its own face so dont pay half your salary on top of rental income to pay it off in 5 years but rather have 3 properties that you put very little into each while using the capital gain to purchase new properties rather than capital paid off. Again this is my personal opinion and is the route I choose as its a bit more of a gamble but allows for more properties and I like risk.

I hope this helps a little bit, play around with mortgage calculators too to see the effect it has on your repayments.

Hi snobilo,

Thank you for sharing your plan on your investment, that does help me understanding this better.

James

[James.wu]

If you can afford 20 years do it, saves $$$$ at the end of the day- but if you want 2-3 properties maybe start at 30 yr to get more. Most of us have only ever dreamed of 4.3% interest rates. Make sure you can cover expenses etc if they go back to 5... 6...7...or higher. Word on the street 4 is the new normal but who knows for sure.

Craig

Hi Craig

I am planing to view about 100 properties (as a few people suggested in the books I read) to get an understanding of the properties market and rental market in my area. But bases on my limited experience of so far, I may need to fund my first investment with 30 years loan.

And as of interest rates, I use 7% for my calculation as suggested in Lisa Dudson's book. (I am using her calculator in iFindProperty too). Thank you for pointing out that we are currently at very low interests rate, that just reaffirm that I should use average interests rate to do my calculation.

James

[James.wu]

It depends how negative it is. If something is going to cost you a very small amount per year for the first few years would you not be better off to go for it and pay it off faster?

Some great advice here too about running the numbers conservatively.

Yes I agree.

[Lissica]

If you can afford 20 years do it, saves $$$$ at the end of the day- but if you want 2-3 properties maybe start at 30 yr to get more.

Craig

Take it to the extreme...buy a property outright and you save 20 or 30 yrs worth of interest.

The important thing in terms of risk is the overall loan to value ratio across all properties, and whether you can service the loans at current and future interest rates. Saving on interest is good if you are unable to invest at a higher return elsewhere.

I use 30yrs loans, because you are adding an extra 10yrs of inflation to both the property value and the loan. With luck, the former will go up in line with inflation, as will rental income; but the original loan would be worth very little after 30yrs of inflation.

[Keys]

Why pay the loan off today with todays' pre inflation money when the loan stays the same value during the term and you can pay it off tomorrow with tomorrows' post inflation money?

[Damap]

what's the benefit of using a 50 years loan? If you don't mind me asking.

America is a very different market to NZ. The strategy there is to buy and after you have owned it for a period you can refinance it based on appraised value. This means you can recycle at east 100% of your purchase price, sometimes as much as 120%. So there is no point in aggressively paying the loan down as you have no cash in the deal. Better to minimise the payments which maximises cashflow. Also as loans are non recourse if you ever got into trouble you have no cash in the deal so you just give the property back to the bank.
So America is a finance play not a get debt free play.

[James.wu]

Take it to the extreme...buy a property outright and you save 20 or 30 yrs worth of interest.

The important thing in terms of risk is the overall loan to value ratio across all properties, and whether you can service the loans at current and future interest rates. Saving on interest is good if you are unable to invest at a higher return elsewhere.

I use 30yrs loans, because you are adding an extra 10yrs of inflation to both the property value and the loan. With luck, the former will go up in line with inflation, as will rental income; but the original loan would be worth very little after 30yrs of inflation.

Hi Lissica

Thank you for your replay. Your reply enable me to see thing from an different angle.

I have some question about loan to value ratio, in this LVR that banks look at.
- If loan mean only the principal, or principal plus interest? If it means principal only, using a 30 years term won't affect my risk and debt service ability compares to a 20 years loan?
- When talk about value, is it the value on valuation reports? Not the market value? or the purchase price?

[James.wu]

Why pay the loan off today with todays' pre inflation money when the loan stays the same value during the term and you can pay it off tomorrow with tomorrows' post inflation money?

Hi Keys

That's a good point, I have never thought it!

James