Should you keep your old house as an investment?
At some point in your financial journey, you’re going to want to upgrade your house. When you do this, the obvious question is, what should you do with your current house?
There seems to be a large number of people out there who will tell you that you should “never sell property”. After years of property growth, there is a growing attitude that the more property you have, the better. But I don’t agree with this.
In this blog post, I’ll outline some of the conversations I have with my clients when they are considering whether they should keep their old house as an investment property.
Can you even borrow that much?
We all know that the banks limit how much they will lend you. These limits are put in place for your protection so if you do find yourself trying to borrow more than a bank will lend you, you have to ask yourself if this is a smart decision.
The first thing to do is to enquire with your mortgage broker whether a bank would allow you to have the debt of your intended house and the debt of the investment property.
Depending on your income, you may not even be able to borrow that much which will force the decision for you.
What would happen if something went wrong?
If a bank will loan you the money, the next step is to consider if you are able to service this much debt.
It’s important when considering this to assume that things will go wrong. There will be periods where you don’t have a tenant and will be required to pay both mortgages. You will also need to regularly repair and update things in your rental so make sure you work this into your assumptions.
If you are stretching to afford the repayments on your new house, then I wouldn’t suggest hanging onto your old house. This is because you will likely be required to pay for things in the rental which will put you under further financial strain.
If you can afford both properties now, is this going to change?
A lot of our clients are upgrading their house as they intend on having more children. Generally, this means years of living on one income or a reduced number of working days combined with expensive day care costs.
Investing in property is a long-term strategy and you need to ensure that you can afford your repayments not only in your best years, but also in your worst (financially speaking).
Would you invest in your house if you didn’t own it?
There is a known psychological phenomenon where human beings favour what they already own.
A good exercise to go through is to approach your house with fresh eyes. If you were looking to buy an investment property, think about the pros and cons of your house. When doing this, try to remove your preferences from the decision and focus on what a potential renter would want.
On the flip side, it’s important to remember that you know everything there is to know about your house so this can be a better outcome than buying another investment property and discovering things about it after you’ve bought it.
If the house still stacks up as a good investment, then it might make sense to hold onto it. Particularly since you won’t need to pay for stamp duty if you keep your current house.
Has your house gone up in value whilst you’ve owned it?
When it comes to assessing investments, it can be helpful to understand how well they have performed in the past to understand what they might do in the future.
You should do an exercise where you consider how much your house has gone up in value since you owned it and the ‘return on capital’.
For example, if you bought your house 5 years ago for $500k and it’s now worth $650k, then it has gone up about 5.5% a year (not taking into account sales costs). This is a pretty decent return.
If however your house hasn’t really gone up in value, then it might not be a great investment unless you anticipate something major happening which will change this.
Have you considered tax?
If you’ve gone through the above exercise and think that retaining your old house as an investment property makes sense, then you need to consider tax.
As a general rule, interest on any loans associated with an investment property will be tax deductible whereas interest on your home you live in is not.
Consider how you have structured your loans and ensure you’ve put in place steps to maximise the deductible debt on the investment property.
When do you intend to sell the investment property?
The final thing I like to talk about is when you intend to sell your investment property and what you intend to use the money for.
When obtaining any investment, it’s important to understand why you are investing so that you can assess throughout the years whether this is meeting your goals.
If you have an investment property, you should be intending to hold it over the very long-term (10 years or more). If your goal is to never sell it but live off the rent, then you need to work out a plan on how you are going to pay it off.
If you are going to sell it eventually, having a plan on what you will do with this money will help you make smart decisions now. An example may be that you will use this for early retirement.
As always, there really is no right answer about whether you should keep your house when upgrading as an investment property. It all comes down to your individual situation and your financial plan. If you have any questions, please reach out. This is a big part of the type of financial advice we give.