Mercia | Taxation, Business & Finance Advisers

Property Section – September 2012

• What Investors need to know about Online Loans
• Median Price on the Way Up
• The Other Important ‘L’ Word in Real Estate
• Understanding the Power of Offset Accounts
• Should a Tenant be Compensated for Urgent Repairs?
• Suburb Snapshot: Craigie

What Investors need to know about Online Loans

Online home loans seem to have many of the features of regular home loans, but there are a number of potential drawbacks that borrowers – especially investors – need to be aware of.

These days it seems you can get almost anything online, from the latest gadgets to this season’s must-have fashion accessory. And now you can even pick yourself up a home loan.

Online home loans have been around for a few years now but it’s only recently that borrowers have started  to take notice of them. With low rates, minimal fees and the apparent convenience of an online application process, it’s easy to see how these products could be so eye-catching.

Online home loans seem to have many of the features of regular home loans, such as the ability to make additional repayments or pay interest only, but there are a number of potential drawbacks that borrowers – especially investors – need to aware of.

Let’s start off with a biggie. The reason some people have been attracted to these loans is because of the cheap rate offered. Often when businesses try to build market share they offer discounts for a while. However when you read the fine print of most lender loan contracts, the lenders can effectively change interest rates to whatever they want when they want. You might put in a lot of work and effort only to find that your rate ends up being the same as everyone else’s. Unless a on-line lender is willing to put in writing a guarantee to you that they will always be cheaper than everyone else and will compensate you if they aren’t then the allure of the cheap rate may fade quickly.

To build a property portfolio requires proper credit advice on how to structure your loans and which lenders are most suitable to help you achieve your goals. An on-line lender will only be offering their own products which means the products from other lenders in the market won’t be considered. Also its likely that on-line lenders will not tell you how to structure loans which is the advice an investor needs to build their property portfolio. A professional Broker who is experienced in dealing with investors is able to access a wide variety of lenders and give you the structuring advice you need to build your property portfolio.

Online home loans typically don’t offer offset accounts, which are one of my favourite loan features. Offset accounts allow you to use any cash you have available to offset the interest on your loan, while giving you easy access to your money. Disciplined borrowers who funnel all their money, such as their wages and rental income, into an offset account can end up saving tens of thousands of dollars of interest over the period of the loan (you can read more about offset accounts later in our newsletter).  

Many online home loans do offer a redraw facility, allowing you to redraw any additional repayments you have made. However, a redraw facility, unlike an offset account can cause problems when it comes time to submit a tax return. If you are redrawing money from an investment loan and using it for personal use (e.g. paying your phone or credit card bill, buying a car) you can jeopardise the deductibility of your interest payments. With regular use of a redraw facility, you could find that a large amount of interest you are paying on your investment loan is no longer tax deductible.

An offset account offers a much cleaner solution for investors who use their money for both investment and personal use. The money in an offset account can be used for any purpose without affecting the deductibility of the interest paid on the investment loan it is attached to.

With redraw facilities it can take 2-3 days for money to be made available, whereas an offset account is like an everyday transaction account with instant access to your money via an ATM card or the web.

Another drawback of online home loans is that you have to do a lot of the research yourself. Home loans are complex products and, although there is an abundance of information out there, few people would be confident to do their own detailed comparison. Some online home loans do offer telephone hotlines and access to online manuals and FAQ pages, but these can only be of certain help and don’t provide a comparison between different lenders.

Using the services of an experienced finance broker will not only help to make sure you are choosing the best product for your needs, but the broker will also lead you step-by-step through the application maze. Even more importantly, a broker will be able to consider your long terms plans. An online lender is not going to review your loans and goal regularly. The wrong loan could severely hinder your future investment plans or prove costly should your circumstances change. While Brokers aren’t tax advisers, a good Broker will be aware of the tax implications of your transaction. An online lender is not likely to consider that when providing a loan.

The idea of completing a home loan application online and alone could also be very intimidating. Think about all the paperwork that would be required, such as pay slips, proof of rental income, bank statements, details of other loans, tax assessments, and credit card statements just to name a few. Any mistake in the application could prove costly, including missing the loan settlement date which could mean penalties or worse still forfeiting your deposit and losing the property! First home owners would also need to handle their own FHOG application with an online home loan which most would not know how to complete.

A few other things to consider about online home loans is that most only go up to 80% LVR, so borrowers will need at least a 20% deposit. They can also be quite inflexible making it difficult to change products or switch the security in the case when you are buying and selling.

Choosing a home loan or investment loan could be one of the biggest financial decisions of your life. For people who have a lot of time on their hands and a very simple structure, on-line loans may be of use. However for a person looking to build a property portfolio, a specialist Broker is a vital part of your team that you can’t do without.

Median Price on the Way Up

Preliminary data from the Real Estate Institute of WA confirm what many people already suspect, that Perth property prices may be on the way up.

The metropolitan median price has increased by 3.2% this year to $480,000, but is still below the June 2010 peak of $505,000.

REIWA president David Airey said the market was showing signs of normalising and that the industry was heartened by a 20% jump in sales over the past 12 months.

“There is no question that the market has bottomed out,” Mr Airey said.

“People who were looking to pick the bottom have missed it.”

There has been a recent drop in the number of homes on the market, from 12,000 at the end of June to below 11,500. And the average time on the market has also fallen from 79 days to 73 days in the June quarter. 

The Other Important ‘L’ Word in Real Estate

The layout of a property plays an enormous role in determining demand from renters and buyers, and therefore the value of your investment. Just think about how much effort people put into designing a floor plan for a new home.

Buying real estate is all about location, right? If you choose the right location, you’re well on your way to success. But while location is an important consideration, there is another ‘L’ word that can also affect the success of your investment: layout.

The layout of a property plays an enormous role in determining demand from renters and buyers, and therefore the value of your investment. Just think about how much effort people put into designing a floor plan for a new home and it’s easy to see why layout is such an important consideration. 

A property’s layout involves the size and positioning of rooms, and the overall flow of the property. A good layout makes living more convenient and enjoyable, and a bad one can easily make a property feel cramped and uninviting. Have you ever heard someone walk into a property and say “It doesn’t feel right”? While they might not always be able to put their finger on what’s wrong, chances are they are talking about the layout.

It can be very difficult and expensive to correct a poor layout, especially when it involves moving load-bearing walls, so it’s important to carefully consider layout when buying a property. So what makes a good or bad layout? A lot of it comes down to fashion trends and personal tastes, but some preferences are pretty universal.   

For instance, a lot of people prefer an open-plan layout where the kitchen, dining and living rooms are combined or at least very close together. People like to be able to be in the kitchen and still be connected to what’s happening in the rest of the house.

Something most people don’t typically like is where there is a bathroom or bedroom coming directly off a main living area, without some sort of privacy screening or corridor. Similarly, people don’t like it when the front entrance of a property opens directly into a living area, without some sort of buffer zone.

For some layout options, preferences are more split. For instance, some people prefer the master bedroom to be separated from the other bedrooms, but families with young children may prefer the alternative. In this case, the best layout depends on the particular market for the property.

No property has a perfect layout so when searching for a property there will always be compromises to be made. The key is to try to choose properties with layouts that appeal to a wide range of potential tenants and buyers.

When it comes to evaluating layouts, be aware that internet listings can be very misleading, even when you have the benefit of a floor plan. They don’t give you an accurate indication of size, space and flow. There is really no substitute for walking through a property with an expert eye for what to look for and what to avoid. That’s where a skilled buyer’s agent becomes invaluable. 

Understanding the Power of Offset Accounts

An offset account looks like a regular everyday bank account and even operates like one, but there is one massive difference.

Most people would have heard of offset accounts, but only a few fully understand how valuable they can be. An offset account looks like a regular everyday bank account and even operates like one, but there is one significant difference. It is linked to a home or investment loan and any money in the account will automatically reduce the amount of interest payable on the loan and therefore help the borrower to potentially pay off the loan and build equity quicker.   

It may help to look at a simplified example. Let’s say you have a loan of $350,000 and $50,000 sitting in an offset account. The interest on your loan would be calculated on $300,000 not $350,000, just as if you had deposited the money directly in the loan. If you are paying principal and interest on the loan, your repayments would stay the same, but a greater proportion of your repayments would go towards paying down the loan principal. If you are paying only interest on the loan, your interest payments would be calculated on $300,000, the difference between your loan balance and the balance of your offset account.  

Here’s another way to think about it. Whatever interest rate you are paying on your loan, you are essentially earning that same rate of interest on the money in your offset account. If you had put that money in a regular savings account rather than an offset account, not only would your interest rate be lower but any interest earned on your savings would most likely be taxed. Savings made from an offset account are not considered interest and therefore aren’t taxed.

It’s clear that an offset can help you to pay off your loan much faster, especially when you deposit any available cash into the account and leave it there as long as possible (remember interest is generally calculated daily, so every dollar and every day counts).

Some people will have all their income (wages, rental income) paid into the offset account and use a credit card to cover all their living expenses. They will then pay off the credit card at the end of the interest free period, to ensure their cash is working for them as much as possible. Strategies like this can end up knocking ten years off the term of a loan and save the borrower tens of thousands of dollars, if not hundreds of thousands.

On the surface, it might seem that a free redraw facility on a loan is just as good as an offset account, but there are key differences. If the loan is for investment purposes and the interest is tax deductible, withdrawing money from the loan using a redraw facility can cause tax problems, especially when the money is used for personal use. If you make extra repayments into the loan and then redraw the funds at a later date, that portion of the loan may no longer be tax deductible and the problem can get worse with every redraw.

With an offset account, which is separate from the loan, you can use funds freely for personal or investment use without worrying about the tax deductibility of the interest payments. Another disadvantage of a redraw facility is that it can take 2-3 days for the money to be made available, whereas an offset account is just like a regular bank account with instant access via an ATM card, cheque book or online banking.

It’s true that lenders generally charge a monthly or annual fee for the privilege of an offset account, but, if the account is used properly, any fees are likely to be insignificant compared to the massive benefits that can be gained.

Should a Tenant be Compensated for Urgent Repairs?

Dealing with repairs is a regular part of owning an investment property. But the issue of urgent repairs is an area that is often misunderstood by both owners and tenants, potentially leading to messy disputes. One of the most common disputes involves whether or not a tenant can receive compensation for urgent repairs performed without the owner’s knowledge.

Urgent repairs tend to be more expensive than regular repairs due to  the after-hours call-out rates charged by most tradespeople and the lack of time to shop around for the best quote. The main problem with urgent repairs arises from the fact that people have different definitions of what is “urgent” and so conflicts can easily arise and even end up in court.

Certain circumstances are clearly more urgent than others, like a leaking sewerage system or major electricity concern that could cause serious injury. Generally, if the problem is likely to cause major injury, property damage or real inconvenience to the tenant then an urgent repair is warranted.

But other situations are not so clear cut. For example, does a broken hot water system require an urgent repair? Some may think so, others may not. Let’s say it is a chilly winter’s evening and a tenant arrives home cold and damp after getting caught in the rain. Looking forward to a nice hot shower the tenant discovers that the hot water system isn’t working and so decides to call for an after-hours repair and subsequently pays the bill. The tenant, who didn’t cause the problem, believes the owner should reimburse the expense, but the owner isn’t happy about paying the inflated cost of the after-hour repair when it could have easily been performed more cheaply the following day.    

What the tenant should have done in this situation is call the managing agent to seek clarification about the matter of compensation before ordering the repair. However, it might not always be possible to reach the managing agent, so it’s easy to see how conflicts can arise.

Another reason disputes arise is that there may be differences between what it says in a particular Tenancy Agreement compared to the Residential Tenancies Act 1987. A tenant who is seeking compensation for an urgent repair may turn to the Act which does in fact state that the owner must compensate the tenant for reasonable expenses under certain urgent circumstances.

However, this part of the Act is often legally modified in many tenancy agreements, including the standard one prepared by REIWA, so that tenants must first receive permission by the owner or managing agent before any repair can be ordered.

It’s easy to see that if urgent repairs are not dealt with in a proper fashion, the relationship between tenant and owner can become severely strained. This is where using a professional property manager will help avoid these situations arising by ensuring all parties understand their responsibilities at the beginning of the tenancy, and also by having good relationships with various tradespeople. And if disputes do occur, a property manager is in a better position to liaise with both the tenant and owner and try and mediate a suitable outcome.

It’s worth noting that the Residential Tenancies Act in WA and supporting regulations are to be changed in late 2012 or early 2013 to give clarity to what is an urgent repair and what isn’t.

Suburb Snapshot: Craigie

Craigie has generally outperformed the wider Perth market, with an annual average growth of 12% over the past 10 years (compared to 10.2% for Perth), and it should continue to deliver above average returns to investors.

Developed in the 1970s, Craigie is a northern coastal suburb situated 22km from the Perth CBD and around 4km from the Joondalup City Centre. It neighbours the premium suburb of Kallaroo to the west, Beldon to the north, Woodvale to the east and Padbury to the south.

Craigie has an abundance of parks & reserves and offers residents easy access to a major shopping centre (Whitford City), and a popular leisure centre within the suburb. The suburb also has its own shopping and medical plaza, as well as a popular tavern. Transport in and out of the suburb is a breeze with direct access to the Mitchell Freeway and 2 train stations.

The suburb is predominantly made up of old 3 bedroom houses on large blocks, which typically sell in the low to mid $400,000’s depending on condition and location. Vacancy rates are generally very low with a 3 bedroom house renting for around $380 per week.

A few years ago, the City of Joondalup prepared a draft Local Housing Strategy, in which a large part of Craigie, the entire western side of Eddystone Avenue, was identified as being suitable for higher residential densities. The strategy could see most of the area obtain a dual zoning of R20/R30, except the southern end closest to Whitford City Shopping centre which could obtain a dual zoning of R20/R40.

In February of 2011, Council resolved to adopt the strategy and forward it to the Western Australian Planning Commission (WAPC) for endorsement. It is anticipated that the endorsement of the strategy by the WAPC will be finalised sometime between 2013 and 2016. It is only then can landowners apply for development or subdivision approval.

There is also a development in the later stages of planning for the former site of Craigie High School. It’s an urban renewal project covering over 10 hectares and could see the development of up to 132 dwellings. It will also include public open space and an associated road network.

The WAPC and City of Joondalup have both approved the structure plan and in April of this year, a Subdivision Plan was submitted to WAPC for approval. Civil works are expected to commence in early 2013 and the first round of lots should go on sale in late 2013 with lot sizes ranging from 250 to 500 square metres.

Craigie has generally outperformed the wider Perth market, with an annual average growth of 12% over the past 10 years (compared to 10.2% for Perth), and it should continue to deliver above average returns to investors. This is helped by the fact that it is one of the few remaining affordable suburbs within 2km of pristine beaches, included the popular Mullaloo Beach.   

With an older housing stock that is being renovated or rebuilt, the proposed rezoning, and a massive new residential development in final stages of planning, the area will see significant revitalisation over the coming years. This should further increase its appeal to buyers and renters.

Growth rate (1 year average)           -3.5%

Growth rate (5 year average)             1.8%

Growth rate (10 year average)            12%

Population                                      5,602

Median age of residents                      34

Median weekly household income $1,316

Percentage of rentals                      24.2%

Source: REIWA.com.au, July 2012; ABS, July 2012