Buying a rental property is a big move. You want to make passive income, but you don’t want to take a lot of risks doing so. Passive income has a certain kind of allure to it, but it also takes a lot of work to set up. Rental income can be one of the most stable income sources for you – even more stable than your job. However, real estate investing is also very different from any other kind of financial investment. Study the market, and follow these simple tips to make your experience a profitable one:
Think Long Term
It’s easy to think short term about investing. During economic instability, the best thing to do sometimes is to realise a profit as quickly as possible and then get out of that investment. Not so with real estate. Buying rental properties requires a lot of capital and upfront costs including stamp duty and legal fees, not to mention advertising for clients. There are also ongoing maintenance costs. To make a profit, you simply must think long term about your investment. If you’re like most property owners, you’ll have negative cash flow for at least several years, if you’re lucky. Be prepared to hold on to your property for at least 5 to 10 years.
Use Negative Gearing To Your Advantage
Negative gearing refers to the practice of taking out a loan to pay for rental property and allowing the cost to exceed your profit. Why would you ever want to do this? Simple: tax savings. When you use a negative gear strategy, you can write off your losses and actually receive more money at the end of the year than you otherwise would have. It sounds counter-intuitive, but it works. For example, If you make $90,000 a year, your taxable income would be $90,000, plus a $22,000 Medicare levy. If you have an investment property, and your mortgage is $300,000, and the property generates $15,000 of rental income while the loan interest totals $21,000 per year, you could be in a position to save yourself some money on your taxes. Let’s also assume your insurance and other property-related expenses amount to $2,000 annually.
Your total income is $105,000 per year. Your total deductions are $23,000 per year (interest plus additional expenses). Your tax, plus the Medicare levy is only $19,520. The result is you save yourself $3,080 per year.
Use Existing Equity
If you already own a personal residence, you may be able to tap into that for money to buy your new home. In fact, this will often times result in a loan that is easier to get than other types of financing. You can use the rental income to repay your home loan. Meanwhile, the investment property remains free and clear because the loan is on your personal residence. While having a loan on your home isn’t as tax effective as having a loan on the rental property, it could be more flexible. For one, you can sell the investment property whenever you want if you need to. You can also refinance the mortgage on your personal residence if you ever want to take advantage of negative gearing. You could also use this strategy to purchase an investment property without the requirement of Lenders Mortgage Insurance.
In most instances, you can borrow up to 80 percent of a home’s value without the need for LMI. If you take out a mortgage on the rental property (to purchase it), and then use a secondary loan on your personal residence, you avoid having to get LMI or an expensive HELOC on the rental.
You should always consult a real estate professional, and seek out the advice of a professional real estate investor before making your first purchase. A professional can walk you through the finer details, all of the paperwork you’ll need to have around, and get you comfortable with the entire process. After that, all you need to do is take care of your tenants and collect your passive income.
Guest post contributed by Charlotte Howard, for Customer Care. Charlotte is a real estate agent and in her spare time she enjoys writing about investing.