Corporate Partner: Financial Education

0.00

Hi, I’m Bron Lawson from Westpac’s Davidson Institute here to talk to you about ‘Managing your home loan to get ahead’. Our home is our castle, but it can be so much more than that. This video is about looking at our financial journey and thinking about how we manage our finances to use our home to get ahead.

0.25

We all want to ‘get ahead’ financially and I think the key to doing that is to understand how our finances change throughout our life and to be able to effectively plan for the future that we want. Let’s have a look at a typical financial lifecycle.

0.45

In the early years as we are starting out on our financial journey, we are increasing our income and assets with our first job, buying a car and so on. During this time, it’s important to start developing good money habits.

1.00

As our working life continues and we start to establish long term relationships and take on long term commitments our wealth tends to fluctuate depending on career and life events that contribute to, or use up, our cash flow. While we are getting established and starting to create some long-term wealth, we need to have a focus on saving to ensure our commitments can be met.

1.25

The next stage of our financial journey is where we are building and optimising our wealth as we are preparing ourselves for life after work … more specifically life after we stop earning an income! And during this time there are lots of different events that are going to take place … like putting the children through school, perhaps buying an investment property, there may be changes to the family situation, and then as our children move out of home we may need to help them financially as well.

1.55

But of course, throughout this time, for our own personal situation, it is about maximising our wealth as this is what is going to sustain us during our retirement.

2.10

Then of course comes the day when we finish work and life changes significantly. At this point, if we want to do all those things that we have saved for and built up our wealth for … if we want to travel the country or do community work or simply spend more time with the grandkids … we still need to manage our wealth and the income from it to ensure it lasts our lifetime.

2.35

This video on ‘getting ahead’ focusses on one of the most significant financial decisions many people will make … to buy a home. This commitment will often last most of our working life as we are establishing, creating, building and optimising our wealth, but by managing the debt that often comes with it and understanding how to use the equity we build up, we are better placed to make the most of the opportunities it creates.

3.05

Today we are going to: • explore ways to manage the debt that often comes with purchasing a home. • look at ways that we can leverage the value in our home to improve our wealth position. • and finally, how we can plan to make the most of our situation.

3.25

So, let’s start by looking at some ways to manage the debt we may have against our home. There are 3 key elements that we can use to reduce the cost of our home debt. • Interest rates • Repayments, and • Offset accounts. Let’s explore each of those in more detail.

3.45

Firstly, interest rates. Getting the lowest rate possible isn’t always the best scenario as we need to look at what we might be missing out on to get that lower rate. For example, other benefits such as the ability to pay more frequently. That said, it is worth exploring whether taking up a honeymoon rate at the beginning of a loan might be helpful in getting ahead. Be wary though of restrictions or other costs following on from the honeymoon period.

4.20

Many financiers now offer packages such as a bundle of products with discounted rates that attract an annual fee, such as Westpac’s Premier Advantage Package. Do the sums and check whether the discounts outweigh the cost of the package because these discounted rates can be a great way to reduce the cost of your loan and get ahead.

4.45

Finally, let’s look into fixed and variable rates. This is probably one of these most asked questions when it comes to home finance, “Should I go fixed or variable rate?” Well, what’s the difference? As their name suggest variable rates will fluctuate over time. Fixed rates on the other hand, are fixed for a specified period of time. This has the effect that repayments are also fixed for that period of time, making it easier to budget and manage your cash flow.

5.15

However, because your rate and repayments are set at a specific level you are generally not able to make higher repayments than those agreed without incurring a penalty. Locking into a fixed rate also means that if variable rates fall then you don’t get the advantage of the reduced rate.

Variable rates on the other hand, while it may mean that your repayments can increase or decrease, because you are not locked into a set repayment amount, as long as you pay the minimum required you can set your repayments to suit your situation – making extra repayments when you have the money available.

There are advantages and disadvantages to each, and it depends on what’s happening in the economy generally and your personal situation at that particular point in time as to which might be the best option for you.

6.10

In a bid to take advantage of the best of both worlds it is not uncommon to see people splitting their loans into a variable and a fixed portion. Let’s say we have a $400,000 home loan; this could be split into 2 loans of $200,000 each – one fixed and one variable. We’d then be able to make extra repayments on the variable portion or use an offset account. However, on the fixed portion we can be certain both the rate and repayments won’t change during the fixed term.

6.45

The next element to consider in managing your loan to reduce the costs is your repayments. What difference does it make if you make fortnightly repayments instead of monthly? And, what difference can additional repayments make?

7.10

Let’s start by looking at increasing the frequency of repayments, specifically paying fortnightly instead of monthly. In the example on the screen I’ve used the MoneySmart calculator to demonstrate the difference.

I’ve looked at a home loan of $500,000 at the variable rate of 4.58% with monthly repayments of $2,560 over 30 years. By making repayments of ½ the monthly repayment, that is $1280 on a fortnightly basis, we can significantly reduce the overall term of the loan and the interest costs. The overall term is reduced by 4 years and 6 months, and the interest saving $72,147.

8.00

The time and interest savings are generated because the more frequent repayments reduce the principle amount more quickly, which reduces the interest that is calculated.

8.15

Another option for some is to make repayments higher than the minimum required amount. Again, this has the effect of reducing the principal more quickly, and thus the interest calculated too. The example on the screen shows the same loan amount of $500,000, at the interest rate of 4.58%, with repayments of $2,560 over 30 years.

8.45

By paying an additional $100 a month, roughly $25 a week (or 5 coffees a week), again the savings in terms of time and interest are significant. If you’re able to squeeze some extra repayments out of your budget it’s worth it in the long run.

9.05

If you’re going to make additional repayments though check whether your bank has a “redraw” facility that will allow you to access those extra repayments should you need to. Remember too though, that if you decide to fix your interest rate you may not be able to make more frequent or additional repayments without incurring penalties. Make sure you check before making any changes to your repayment arrangements.

9.35

That then leaves an Offset account as the final element to help manage our home loan costs. So, what is an offset account, how does it work and what’s the benefit of using an offset account? Essentially an offset account is a savings account that is linked to a variable rate home loan, and the balances are netted against each other. The home loan interest is calculated on the netted balance.

10.05

Following on from our previous example where we had a $200,000 variable rate home loan, let’s say we also have a savings account with $25,000 in savings. When netted against the $200,000 variable rate home loan, interest is calculated on the net balance of $175,000.

10.30

If we had simply had the $25,000 savings in an account that earned 2.5% interest and we left the interest in the account to accumulate, then after 30 years we would have earned $27,884 in interest. On the home loan, if we simply made the minimum monthly repayments and there were no interest rate changes, then we would pay $168,244 in interest over 30 years. So, the net amount of interest paid over the 30 years would be $140,360.

11.10

If instead, we held the $25,000 savings in an offset account linked to the $200,000 home loan, made the minimum monthly repayments only, and there were no interest rate changes, with the interest being calculated on the netted balance then the term would reduce to 23 years and 2 months and we would pay $84,160 in interest.

11.40

Compared to the previous scenario in which $140,360 was paid, this is a saving of over $50,000. So, if there is an offset account available with your home loan then there are significant benefits that can be gained by using that feature.

12.05

Another great thing about these offset accounts is that they operate in exactly the same way as a normal transaction account. You can have your pay directed there and link up your access card, arrange direct debits, pay bills and so on. There is no need for another separate account, and all your money is working for you reducing the cost of your home loan.

12.30

If you are a disciplined spender, you could also add a credit card with an interest free period into the mix. By using the card for all your regular expenses and clearing it in full once a month from the offset account, your regular bill money is also working for you in reducing the cost of your home loan.

12.50

So, we’ve explored a few ways now that you can save some dollars on your home loan and get ahead. Let’s have a look now at how we can leverage that asset – our home – to earn more wealth for us instead of simply being a drain on our cash flow.

13.10

In theory, two very specific things happen with our home over time. Firstly, the value of the property itself generally increases. Secondly, we repay the home loan. As time progresses, the gap between how much the property is worth, and how much we owe on the home loan, increases.

13.30

Many homeowners are already increasing the size of that gap by using some of the tactics we’ve just looked at like offset accounts, accelerated repayments and so on. However not all of them are using that gap to their advantage by leveraging the growth in equity in the asset.

13.50

That’s what we are going to explore a little further because it’s no great secret it’s just about having a little more knowledge and the mindset of planning for a better financial future. So, let’s apply some numbers to that theory to illustrate the growth in equity.

14.15

Let’s say we have a property currently worth $400,000, property values in the area are growing at 4%pa, and the loan for the property is being repaid at the minimum monthly repayment over 30 years. So, on these assumptions, after 30 years, the property will be worth $1.2m and there’ll be nothing owing on it.

14.40

From a banking perspective this equity is valued at 80%, meaning that the equity in the property is $960,000. But that’s in 30 years’ time. What if you want to access some of that equity sooner? Throughout the life of the loan, there is an ever-increasing amount of equity available. So, based on our assumptions of 4% annual growth in property value, minimum monthly repayments are made on the home loan, and that equity is valued at 80% let’s have a look at the equity as it builds.

15.15

After 3 years, there’s approximately $50,000 in available equity. After 7 years, there’s approximately $130,000 in available equity, and after 15 years, $475,000.

15.35

Let’s now overlay this diagram with our financial lifecycle segments. For most people, the segments that are relevant will be creating, building, and optimising wealth. This is where our planning for how we can use the equity, or leverage the equity in our home, can now kick in.

15.55

By considering what the likely events may be that will occur throughout the asset’s lifecycle, we can gain an understanding of approximately when you are likely to need access to additional money. For example, we will have a rough idea of things such as marriage, travel, kids’ education and so on. Then, we can consider what potential opportunities exist to use the equity to grow your wealth.

16.25

For example, at about 7 years maybe the children will start school which provides the option to use some of the equity built up in the home to pay for private schooling or tuition, or if you wait a little longer, say 10 years, there may be enough equity to help purchase an investment property or build up a share portfolio.

16.45

By recognising that our home is not just our castle but an asset that we can use to improve life in other ways, we are then able to plan for the options that this opens up for us. To be able to make the most of these options though is going to require some careful planning. But I do believe it’s worth planning for the best.

17.10

So, we started out this video by looking at how our finances and the way we manage them change over time. When we’re starting with all those firsts if we establish some good money habits, they’ll stand us in good stead for the rest of our life.

17.30

Then we spend a number of years working. Our financial position will fluctuate throughout this time depending on how we are using our money, but we need to be conscious throughout this time of steadily building then optimising our wealth so that when we are no longer working we have sufficient to provide for the lifestyle we want.

17.50

As we have seen today, our home can help us improve our financial situation if we’re aware of, and take advantage of, the equity we can accumulate there.

18.10

I’d encourage everyone to take a look at where you are currently on this cycle and to consider what actions you are currently taking, what you have coming up, and whether you need to change anything. It’s only through actively planning for our future that we can potentially have the future we want.

18.30

In this video we have looked at some techniques to manage your home loan and reduce the costs. We also looked at leveraging the equity in your home to generate more wealth. Both of which will help you to plan for the best.

18.45

Thanks for watching our video on ‘Managing your home loan to get ahead’. We trust you found this information helpful and I encourage you to check out the other videos and resources on the Davidson Institute website to help build your financial confidence. Bye for now!

0.00

Hi, I’m Bronwyn Lawson from Westpac’s Davidson Institute here to talk to you today about ‘Borrowing money’. Borrowing is an integral part of our financial journey however if not managed well it can have a detrimental effect on our financial position instead of enhancing it. This video addresses the basics of borrowing to help you get on the right footing when using credit.

0.26

The three key areas that we are going to focus on are: Firstly, why borrow? Looking at the reasons people borrow money. Then, the different types of credit. Different types of loans have different purposes and should be matched to the purpose of the borrowing. Then finally, what you should be aware of. If you are going to borrow, what are some of the things you should take into consideration when making that decision?

0.54

Firstly, I want to look at “Why borrow?” because a common reason for people getting into financial difficulty is because they have borrowed for the wrong reason or they have the wrong type of borrowing for their original purpose. There are three main reasons we borrow money The first and most common reason for borrowing is to buy things now rather than later. Whether it’s a house, a car, furniture, computers, or simply that new pair of shoes or the latest tech gadget

… we want these things and are not always prepared to save up to buy them because the time taken to save means we potentially miss an opportunity.

1.37

The second reason people borrow is to invest to boost wealth generation. This may be to buy an investment property, share portfolio, increase our super contributions or invest in a business. Investing is a means to increase wealth so we can buy more stuff in the future by selling the investment or using the income from the investment.

2.03

The final reason people borrow is to cover a mismatch in cash flow timings. For instance, perhaps your pay is due to be deposited in the bank account on Thursday, but a bill, such as rent, rates, school fees, insurance and so on, needs to be paid a few days beforehand. You will have the cash in a few days, but you need it today. This is where credit cards and short-term debt may be useful. You can pay for stuff now, knowing that you can repay the debt when you receive your pay.

2.33

Whatever the reason for borrowing the key thing you need remember is it does need to be repaid, and it does come at a cost. Credit is a useful tool when used wisely however, I must admit, it isn’t always used well. But let’s see if we can set you off on the right foot.

Essentially, both saving and borrowing are two different ways of achieving the same goal: getting something that you need or want. The key to determining whether to use your savings or get a loan lies in understanding when you need to have the thing that you are purchasing and how borrowing will change the total cost of the purchase.

3.15

Ultimately, it’s about getting the right balance between saving and borrowing, then borrowing well to ensure the credit supports your overall goals. So, let’s have a look at the example of buying a car. If you were to save up to purchase a car that cost $25,000 and you could save $470 per month, it would take you a little over 4 years to save up $25,000.

3.47

On the other hand, if you were to borrow to purchase the car now on an unsecured loan it would take you roughly 7 years to pay off the loan at the same rate as you are saving, that is $470 a month. Including interest and fees, this would actually use about $39,580 of your money to repay that loan.

4.10

Don’t forget, whether you save or borrow, during the time of ownership you will also have to pay for the running of the car … fuel, maintenance and so on, which is another thing that needs to be budgeted for. This may mean you are not able to repay at the same rate as you were saving and thus it would take you longer to repay the loan and it would cost even more.

4.36

The second reason we borrow is to invest. Borrowing increases the amount of capital we have to invest with the intent of also increasing returns. Some examples of borrowing to invest include taking out a mortgage for an investment property or borrowing money on a margin loan to purchase shares.

4.58

Let me take you through an example to illustrate the benefits of borrowing to invest. Let us say you invest $100 of your own money - this is sometimes referred to as your equity. Let’s keep the maths simple and say that you can get a return of 10% … which will make you a profit of $10.

5.16

However, if you use your $100 equity as a 20% deposit and borrow $400 you would have $500 to invest. If you could still get a 10% return this calculates out to earnings of $50. Of course, you will have to pay interest on the $400 borrowed. Again, for ease of calculating, let’s say the interest rate on the loan is 5% therefore costing $20, and leaving a profit of $30 – higher than the original $10 in earnings on your $100.

5.52

Borrowing to invest can provide a positive outcome where the returns are higher than the cost to borrow. Borrowing to invest is also known as ‘leverage’ or ‘gearing’. You are said to be ‘positively geared’ when the income from your investments outweighs all the costs of borrowing to invest. You are said to be ‘negatively geared’ where the income from your investments doesn’t cover all the costs of borrowing to invest.

6.21

There may be possible tax benefits when you borrow to invest, which include being able to claim interest and fees, as well as franking credits – but you should seek appropriate financial advice before using this strategy. Whilst gearing can magnify gains it can also magnify losses if investment returns are negative. Borrowers are liable for the interest cost and repayment of the loan, regardless of whether their investment makes or loses money.

Given greater risk is involved you should be comfortable that gearing is consistent with your risk appetite. Borrowers should ensure they have sufficient income to service the loan and any interest rate rises from other sources.

7.08

The third reason people borrow is to cover mis-timings in cash flow … that is, when you have an expense that needs to be paid before you have the cash available to pay for it. Many people will ration their money from payday to payday to ensure they have enough for known expenses, but what if the car breaks down? Or you need to have some emergency plumbing done? If you don’t have enough cash available, then you may choose to borrow to cover the shortfall.

7.35

For example, Josie gets paid on a fortnightly basis, so she has her rent set up to come out of her account the day after payday; she does her grocery shopping and any errands the weekend after she gets paid; as well as allocating money for her phone, electricity bill and car rego. So, the balance of her account tends to fluctuate like the graph on the screen. But then last week her car needed some emergency repairs

… while she knew she would have the money once she got paid again, right now she needed to pay for the repairs and she didn’t have enough cash available, so she needed to borrow to cover the shortfall, but then repaid it as soon as she got paid.

8.20

This is where people can sometimes run into trouble. If these little mis-timings are not repaid as soon as possible but continue to accumulate, say on a credit card, it’s possible to end up with an unnecessary debt that can become costly and even detrimental to your financial profile. Debt created by cash flow mis-timing should be repaid as soon as possible, and if they’re becoming a regular occurrence then it might be time to look at how you’re spending your money.

8.53

Now that we know why we borrow, let’s take a look at the different types of borrowing or the different types of credit available. Now before I talk about the different types of borrowing, a cardinal rule you should always remember when borrowing money is to ‘Match the life of the loan to the life of the asset’.

9.15

Let me give you an example. Some years ago, my mate Zac wanted a new car but didn’t have enough cash to buy it, but he did have the money available in a redraw facility on his home loan. Now Zac thought using this money was a great idea, as the home loan had a lower interest rate than he would have paid on a personal loan, and he didn’t have to increase his repayments.

9.40

On the downside though, the car died recently, however he still has another 10 years left to pay off his home loan. Because he didn’t increase the repayments on the home loan, he’ll continue to pay this car off and be charged interest for the remainder of his home loan. And because he had no room left on the home loan, or savings, to buy another car, he’s had to borrow for a new car and is now effectively paying off two cars.

10.05

Always think about what you are buying and how long it will last and aim to pay it off before it reaches the end of its useful life. The first type of credit we’ll look at is short-term loans. These types of loans should be used for timing differences. I need to pay something now, that I can afford to pay from my regular income, but I will not get paid for a few days.

10.30

A payday lender will advance you money against your next pay. The interest rate is often high and the penalties for not repaying are also high. You may be able to get an overdraft on your bank account. This may be arranged or unarranged. Unarranged means a payment comes out of your bank account which does not have enough money in it, but the bank allows it to go through putting your account balance into debit. You will be charged interest until you put the money back into the account.

An arranged Overdraft, on the other hand, is an overdraft you apply for and a limit is put in place. You will generally be charged a lower interest rate than an unarranged overdraft and it would be unlikely that an overdrawn penalty fee would be applied as long as you stay within your approved limit.

11.25

Credit cards are another form of short-term credit, though unfortunately they often turn into longer term debt. There are a number of different types; some with interest-free periods and a higher interest rate or no interest-free period but a lower interest rate. Some offer different reward programs, but these are generally the most expensive in terms of fees and rates.

If you have a card with an interest-free period and will pay the balance off within that period, then you should only need to pay the card fee. If you do not think you will pay it off in the interest-free period, you would most likely be better off with a card that has a lower interest rate.

12.05

A recent addition to short- term borrowings are ‘buy now pay later’ services such as AfterPay, ZipPay, and the likes. These services are often offered by the retailer, who gets paid directly by the lender, and then the borrower (you) repays the lender via a series of direct debits to your account, which is set up when you register with the lender. The attraction to these services is that some offer interest-free purchases with no credit checks and automatic repayments.

12.40

While this might seem like a great deal, if you are going to use these services please make sure you understand the terms and conditions and ensure you have the money available in your account when repayments are due. You don’t want your purchase to end up costing you more in the long run due to late payment fees by the lender, and dishonour fees from your bank.

13.05

When buying larger items, that will take more than one pay period to pay back you may still use your credit card, but it may be more appropriate to use some type of personal finance, or vehicle finance if you are purchasing a car. Personal loans are mid-term finance (often 2 to 5 years) with regular repayments that can be used for a variety of purposes – travel, furniture, debt consolidation and so on.

13.30

They often have a fixed interest rate which means repayments are fixed for the term of the loan too. Very handy when you’re working with a budget. They may be secured or unsecured but when unsecured may have a higher interest rate, which may mean higher repayments too.

13.50

Another type of personal finance is ‘Rent to Buy’. With this type of finance, you are paying a rental for the item with the intent of buying the product at the end of an agreed term. This is often used for furniture or household appliance purchases. Take care to add up the total rental and the amount to pay at the end to see how much it will actually cost you. A consumer lease is like rent to buy, but you may not have the option to buy it at the end.

14.20

With Interest Free Periods or buy now pay later you should look closely at the terms and conditions. Quite often you get charged ongoing fees instead of interest and there can be severe penalty rates if you miss a payment. Similar to a Rent to Buy, you should check if the repayments add up to the total cost or whether you may a large payment to make at the end.

14.45

Car loans are like personal loans and are often secured by a charge over the car being purchased. Home loans are just longer-term personal loans secured by a mortgage over your home. They may have a loan term of up to 30 years as you would expect a home to last that long.

15.05

An investment loan is used to purchase income-producing assets or assets that will get capital growth. The interest rate will be higher than a home loan and the term of the loan may be shorter than a home loan but generally longer than a personal loan. As we looked at earlier, if you are borrowing to invest, check whether the investment is likely to return you more than cost of the borrowing and be careful of investing in assets whose value fluctuates a lot.

15.35

These are the main types of borrowing, now let’s look at some of the things to be aware of if you do make the decision to borrow. First of all, borrowing does not come free. There are various costs, including interest and fees, that will need to be paid. Some of the costs that you might incur are:

16.00

Set up or establishment fees that the financier charges to set up the loan. The amount will vary depending on the type of borrowing and complexity of the transaction. Interest is the premium you pay to use someone else’s money. There may be ongoing fees or charges as many financiers apply a monthly account keeping fee or something similar.

16.20

There may be exit fees when you pay off the loan. Because a financier borrows the money for your loan, they may have to break that borrowing if you repay early so they’ll want to recover their costs. And finally, penalty fees may be applied if you do not pay on time or you breach the conditions of the borrowing.

16.45

The amount and type of fees charged will depend on the type of borrowing, the terms and conditions of the borrowing and the security provided for the borrowing. When comparing different types of borrowing or different financiers’ offerings make sure you have taken into account all interest, fees and charges as some lenders may make it sound better by offering you a cheaper interest rate, but their fees and charges may be higher.

Most of the larger lenders promote a comparison rate which includes all interest and fees charged over the term of the loan. This makes it easier to compare between different lenders.

17.20

Once you enter into a borrowing arrangement with a bank or financier it incredibly important to ensure you meet the repayment arrangements. Make sure you know when your payments are due and that you have the money available. Let’s face it sometimes we do run short and may not be able to make a repayment. Instead of just hoping for the best, be proactive and let them know you are going to be late.

By making other arrangements they know you are committed to making the payment but just can’t make it right now. The more you communicate with the lender the less likely they are to take action that could be detrimental to your credit history.

18.05

The key pitfall or cause of bad borrowing is when our repayments and interest can’t be met from our budget. Some people may be tempted to pay for this shortfall with their credit cards. Let me tell you this is a slippery slope that can lead to financial ruin. If you find yourself in this situation go back to your budget and work out what expenses you may be able to reduce.

Remember all borrowing should be repaid from your regular income or sale of assets. If you understand why you borrow and know it fits within your income, then you will generally be engaging in good borrowing.

18.45

I’d also caution to be wary of just paying the minimum repayments, particularly on your credit cards. If you had a $10,000 balance outstanding and you paid the minimum 2% each month, with a 20% interest rate it will take you 77 years to pay it off and cost you $43 thousand in interest. With any loan, paying as much as you can helps to reduce your interest cost and shows you to be a good borrower.

19.15

When it comes to borrowing, your credit history is incredibly important as this forms a large part of the credit providers decision to lend you the money or not. It’s simply a record that is kept by credit reporting agencies, such as Equifax, Experian, and Illion, of all your past credit enquiries and applications, details of any existing borrowing, your repayment history, and if there are any court judgements or bankruptcies filed against you.

19.45

These records are accessed by a credit provider whenever you apply for a loan or take out a mobile phone payment plan. It tells the credit provider about your past conduct and helps them decide whether you are a good risk and are likely to repay a loan. These records are often summarised as a credit score. The higher your credit score the better.

20.10

You are also able to access the information kept about you and it’s advisable that you do so on a regular basis to ensure it remains accurate and healthy. You’re entitled to a free credit report each year which you can obtain directly from the credit agencies online. Some even offer a subscription service to advise you when your credit report is accessed to help reduce instances of fraud.

20.40

Given the vital role it plays in any loan application, it’s important to keep your credit history clean and your credit score healthy. You can do this by keeping your repayments and bills paid on time, not making unnecessary credit applications, and reducing any unused limits on credit cards or loans. To find out more, visit creditsmart.org.au or the credit reporting agencies.

21.10

Borrowing money to buy things, to invest or just to cover timing differences can enhance your life, but please make sure you are getting the right type of loan for what you are borrowing for and remember the cardinal rule ‘Match the life of the loan with the life of the asset’. It’s important to understand the full cost of any finance and ensure you can afford the repayments from your regular income.

Finally, make sure you pay all your commitments to keep a clean credit record to ensure you can continue to borrow money as and when you need to.

21.45

Thank you for viewing this video on ‘Borrowing money’. I trust you found the information useful and relevant and I encourage you to check out the other financial education resources on the Davidson Institute website to help build your financial confidence.

0.00

Hi, I’m Lisa Gissing from the Davidson Institute, here to talk to you today about ‘Planning for your financial future’. Ever wondered why the good things in life seem to come easier for some than others? In most instances it’s not just luck, it’s because they have a plan for life. They know what they want and have actively worked to make it happen.

0.27

This may be from a career perspective or a personal perspective but generally needs to be supported by a financial plan as well. This video looks at each stage of your financial journey and explores some of the key elements to help you plan for the financial future you want. Our agenda today follows a financial lifecycle. Moving through Getting started, Establishing foundations, Growing wealth, and then Using that wealth.

1.00

So, let’s get started by fleshing out a typical financial lifecycle, with all its ups and downs. In the early years as you are starting out on your financial journey you are increasing your income and assets with your first job, buying a car etc. During this time, it’s important to start developing good money habits.

1.26

As your working life continues and you start to establish long term relationships and take on long term commitments, your wealth tends to fluctuate depending on career and life events that contribute to or use your cash flow. While you are getting established and starting to create some long-term wealth, you need to have a focus on saving to ensure your commitments can be met. The next stage of your financial journey is where you are building and optimising your wealth as you are preparing

yourself for life after work … more specifically life after you stop earning an income!

1.56

And during this time there are lots of different events that are going to take place … like putting the children through school, perhaps buying an investment property, there may be changes to the family situation, and then as your children move out of home you may need to help them financially as well. But of course, throughout this time, for your own personal situation it is about maximising your wealth as this is what is going to sustain you during your retirement.

2.26

Then of course comes the day when you finish work and life changes significantly. At this point if you want to do all those things that you have saved for and built up your wealth for … if you want to travel, or do community work or simply spend more time with the grandkids … you still need to manage your wealth and the income from it to ensure it lasts your lifetime. So, let’s get into it with Getting Started.

2.55

This is where you are starting to experience the freedom of your own money. Up until this point someone else has generally been taking care of you and your money but this is where you start to take on that responsibility for yourself. It is at this stage that you start to develop money habits that may stay with you for the rest of your life. As you move through this stage of your financial lifecycle the things you want from life are going to change.

3.24

But no matter which stage you’re at you are going to have some personal goals … whether that’s a new car, a home, maybe your own business, or perhaps just some travel or a bit of fun … and your financial plan for life is about having your finances sorted to be able to do all those things as and when you want. A great starting point to building good financial habits is to keep a money diary.

3.54

Record every single cent you spend for let’s say one month … whether it’s your daily coffee, the weekly rent, or even treating yourself to a night out … whatever it is write it all down (don’t cheat!) … and this will then give you a very clear picture of where you are spending your money. It can be any old notebook, or you can download one from the Davidson Institute website.

4.17

You can then start to categorise your spending. If it helps, think of a pie chart to represent every $ of the money you earn. From your spending diary work out how much you spend on each wedge of the pie. The pie on the screen is reminiscent of many young adults just starting out with the majority of money being spent on enjoying life.

4.40

Now there’s nothing wrong with that in the short term however if you have other goals you are looking to achieve then perhaps you need to re-think and plan for how you want your pie to look. When deciding how to divvy up your pie, the first things you need to consider are any commitments whether that’s loan repayments, phone plans or the like. Then you need to look at how much you need to allocate to ‘live’ … that is, essentials such as housing, transport, food, clothing, and health.

5.13

Then there will be the expenses you choose to pay to support a certain lifestyle … sport, entertainment, designer clothes, and so on. This will then indicate how much you have left over to save up to achieve your dreams and goals, and how long it might take. If this amount isn’t enough, or its going to take too long to save up, then you may need to adjust some of your other spending.

5.38

By prioritising what’s most important, you’ll then be able to construct a manageable budget for yourself to help get the things you want out of life. Our Budgeting webinar covers budgeting in more detail. Having developed good money habits, the next stage of your financial journey is where you start to consolidate and establish your foundations.

6.05

Your personal goals will continue to drive your financial decisions however the focus or priority of those goals may change over time. During this stage of your financial lifecycle some of your goals, or the things you want, start to get larger and more expensive … like a new car, a house, or even children. So, this is where instead of saving up to buy the things you want you are also going to potentially need to borrow to be able to buy those things.

6.35

So, both saving and borrowing, are two different ways of achieving the same goal … getting the thing that you want. The key to determining whether to use your savings or get a loan lies in understanding when the thing you want is needed, and the difference in cost. It may take you some time to save enough money for bigger ticket items, but you may need to have them sooner. If you decide to borrow to make your purchase now, it will cost you more and potentially take longer to pay off.

7.10

So, let’s have a look at the example of buying a car. If you were to save up to purchase a car that cost $25,000 and you could save $470 per month, it would take you a little over 4 years to save up $25,000 … but in 4 years’ time is your $25,000 going to purchase the same type of car that it will now? Prices will have increased most likely so your $25,000 will potentially only buy an inferior car. The good news is, it will only have cost you roughly $23,800 of your own money (the other $1,200

is the interest that accrues on your savings over that time).

8.00

On the other hand, if you were to borrow to purchase the car now on an unsecured loan it would take you roughly 7 years to pay off the loan at the same rate as you are saving, that is $470 a month. Including interest and fees this would actually use about $39,580 of your money. And once you have paid that nearly $40,000 you have a 7-year-old car and potentially have to pay a higher price again to replace it.

8.30

There’s more information in our video on ‘Borrowing’. So, now that you are spending some serious money on assets, and have some long-term commitments in place, it’s time to think about protecting your assets and your lifestyle. Insuring your assets is effectively placing the risk of loss or damage of those assets into someone else’s hands – the insurer. Take time to do the research to get a policy that is best going to suit you.

9.03

The next thing to think about protecting is your income … after all if you are not able to work for a period of time then not having an income is going to place some serious stress on your finances. Income insurance, sometimes known as Income Replacement or Salary Continuance, pays a percentage of your fortnightly or monthly income for a specified period of time should you be unable to work due to illness or injury.

9.32

The third thing to protect is your health … so you can continue to earn an income. Now this actually starts with a healthy lifestyle but also includes understanding what you are covered for under the government health scheme Medicare and then considering what other health related expenses might be worth covering through private health insurance.

9.54

And finally, you want to help protect your family’s future. If the main income earner unfortunately dies or becomes permanently disabled, how will the family pay off any borrowings, and continue to fund living expenses? This is where life insurance can help. Once you have established a strong foundation for yourself you then need to build on that and ‘Grow your wealth’.

10.23

Throughout the ‘Maximising Wealth’ phase of your life there are many things that are going to impact on your ability to do that because of course, life goes on. There are the children to put through school and university, there may be changes to your family situation, you may invest in a property … and while all this goes on, you only have a finite time to prepare yourself for life after work. One of the key tools you’ll use to build wealth is investing.

10.57

That is earning more money, whether it’s in the form of capital growth or cash flow, from the things you own. When it comes to investing there is nothing truer than the old adage “It’s time in the market, not timing the market that counts”. In investing, as in life, time is our most valuable asset. One of the best decisions you can make is to start sooner rather than later. It doesn’t matter whether you invest in property, shares, or simply cash … time allows for 3 things to happen.

11.31

Firstly, it allows for compounding. Compounding refers to adding the earnings from your investments back into the investment – for example, earning additional interest on the interest reinvested in a deposit. Time also allows us to make additions. Regular additions over time will build up the capital value of the investment, which will increase earnings on the investment too.

12.00

And time, gives us time to ride out volatility. Volatility is one of the risks of investing. On any given day investment returns can fluctuate and sometimes even be negative. By spending time in the market, you give yourself the opportunity ride out volatility. One way to manage volatility is to have a diverse investment portfolio. There are a number of different types of assets that you can invest in and they all have different levels of risk and return.

12.35

By spreading your invested dollars across each asset type, we reduce our exposure to any volatility within any one asset class. The first investment type is cash … like the money in a savings account. Cash is a flexible investment. It is considered a low risk investment but generally doesn’t provide as high a return as some other investment types.

13.00

The next type of investment is fixed interest. In return for locking your money away for a fixed period of time, fixed interest investments will generally pay a higher return than cash. Residential property is considered medium to high risk. Partly because it can take longer to sell the property and get your cash back compared to other investments, but also because there is volatility in property prices and the rental yield is not guaranteed.

13.30

For the increased risk property in Australia generally gives a better return than cash or fixed interest. The fourth investment type is shares. Shares also have a medium to high level of risk. The share market is subject to the most volatility of the investment types but generally provides a higher return than cash or fixed interest. Have a look at our Investing video for more information.

14.00

One of the most important investments we’ll have is our Superannuation or retirement savings. Super is a great place for long term investing as there are attractive tax advantages. To encourage people to invest in super (and save for their retirement) legislation allows you to salary sacrifice your contributions, up to a specific amount. This means that not only are you reducing your taxable income, but your concessional contributions are taxed at 15% instead of your marginal tax rate.

14.35

Remember though the super is aimed at saving for retirement, so you cannot access your money until you retire. Most people will have a mix of super and other investments that can be accessed pre-retirement. To find out more about taking care of your super, view our ‘Managing your super’ video. Having developed good money habits, laid sound foundations, and built your wealth, the next phase of your life begins.

15.04

For some, retirement may happen at 55 but for others it could be much later depending on things like your health, finances, work availability and enjoyment. Whatever age you decide to retire this is when you start using the wealth you have accumulated to provide you with an income. With retirement, comes increased time for yourself, allowing you to achieve new goals.

15.35

It may be the time for travel or spending time with the grandchildren or volunteering at the local charity or dedicating more time to your favourite hobby. The choice is yours. But what you can and can’t do in retirement will depend heavily on how successful you have been with your plan for life, your health and how long you will live for.

15.58

So, take the time much earlier in your life to work out your finances for this stage of your life to give yourself every chance of having the retirement you want. Our video on Retirement Planning covers this in more detail. So, to sum up our time together today …we started out by looking at our dreams and goals and what you want to achieve out of life … then starting a spending diary and budgeting for the things you want.

16.28

We then established solid foundations by obtaining the assets you need to live, borrowing where necessary and protecting the things that matter most to you. We then started to grow your wealth by investing your money and we finished by briefly looking at retirement and planning out how to spend the wealth you created throughout your working life. By having a financial plan for life, you put yourself in a much better position to achieve the things you want out of life.

17.00

Thanks for viewing ‘Planning for your financial future’. We trust you found the information useful and relevant and I encourage you to check out the other webinars and resources on the Davidson Institute website to help build your financial confidence.

0.00

Hi, I’m Bron Lawson from Westpac’s Davidson Institute. Here to talk to you about ‘Investing in property’. The Australian love of property means it often forms a significant part of many people’s investment portfolio. But, as with any investment, there is always an element of risk involved so getting informed on the basics of investing in property will help to minimise those risks and help you make the most of your investment.

0.30

Now, before I get into the good stuff, I do need to let you know that the information in this video is general in nature and has been prepared without taking your objectives, needs and overall financial situation into account. For this reason, you should consider the appropriateness of the information to your own circumstances and, if necessary, seek appropriate professional advice.

0.55

There are actually a number of ways that you can invest in property. The first way that most people think of is to purchase a property or properties to then rent out to someone else. Another option is to purchase a property to renovate then sell hopefully at a profit, or you can also purchase units in a property trust or a managed investment that purely invests in the property market.

1.20

The focus of our series of videos on Investing in property is the first option – to purchase a property to rent out. And we focus on residential properties, not commercial. This video looks at the basic principles of investing in property. We recommend that you also watch ‘Financing an investment property’ and ‘Measuring returns on your investment property’ to help get a broader spectrum of knowledge on investing in property.

1.50

Every investment has the elements of risk and reward. And property seems to fit the bill in having a good balance of the two. While sections of the Australian property market are somewhat subdued at the moment, others have experienced strong growth, historically it performs well compared to other investment types. And in terms of risk? The old adage ‘safe as houses’ rings true with many Australians – the solidity of that very tangible asset provides comfort and builds confidence.

2.30

But that balance of risk and reward isn’t the only consideration when thinking about investing in property. You also need to consider whether this type of investment fits with your overall financial goals and plans for your financial future.

The most successful investment strategies start with a clear understanding of what you want to achieve from investing. An important question to ask yourself is “What type of strategy makes the most sense for me and my financial future? Should my investment strategy be capital growth, cash flow, or a combination of the two?

Having this clear understanding is vitally important, because it gives you a solid purpose. Understanding exactly what you want to achieve from an investment then makes the ongoing decisions more focused and straight forward.

3.25

When it comes to property investing, one of the most common terms that you’ll hear is “negative gearing”, with the inference that it’s a core part of the investment property puzzle. The question that I get asked most often is “what is it?”

3.40

Gearing is simply the relationship between the income and the costs of an investment. The purpose of investing of course is to make more money on the money you have invested. In the case of investing in property that income is a combination of the rental income you earn throughout your ownership of the property, plus any capital growth, or increase in value.

4.10

Whether you’re positively or negatively geared depends on whether your income from the property covers your costs. Those costs being things such as property maintenance, property management, and interest on any loans. If your rental income exceeds your costs, you’re said to be positively geared. Because you’re receiving more cash than you’re paying out then this creates additional cash flow for you. Positive gearing supports a cash flow strategy.

4.35

If your rental income is less than your costs, you’re said to be negatively geared. This would support a capital growth strategy as you’re relying on the property growing in value over time. This does mean though that you’re making losses each year that you’ll need to cover from your other personal resources.

4.55

So, looking more closely at why you would choose either of these strategies. What is the appeal of a capital growth strategy, and why would you base your strategy on growth? Simply, as the value of the investment increases over time you can then use that to build further wealth.

5.00

The aim of course is that when you sell the property, the increased sales price will make up for the years of losses. You may also be able to offset annual losses against other income in your tax return to reduce your taxable income, but as always, we encourage you seeking professional advice about your specific circumstances before committing to either strategy. So, let’s look closer at why you would choose either of these strategies.

5.25

What is the appeal of a capital growth strategy, and why would you base your strategy on growth? Simply, as the value of the investment increases over time you can then use that to build further wealth.

But, of course, capital growth is not guaranteed. So, if this is our strategy then there are a couple of key questions to consider. Firstly, what is the realistic expectation for growth in the area where the property is located? And secondly, why will this property grow in value? What is it about this property that will enable it to grow in value?

6.05

To answer the question of why a property might grow in value, we need to understand the different factors that might come into play for the particular location. Population growth is a key driver of property value growth. As the demand for properties grows and supply dwindles, prices increase. While this isn’t the only driver of growth in the region, it’s a good example of the types of factors that influence changes at the local, suburban level.

6.35

Other examples include the demographics of the local neighbourhood. Such as whether the population is an aging one, full of young families, has high employment levels, and so on. Additionally, things such as proximity to public transport and amenities, future plans for development and major projects can be key influencing factors of whether a property increases in value over time.

So, it pays to do some research about the area that you’re looking to purchase in and be comfortable that the prevailing conditions suit your investment strategy.

7.15

Then, there’s the property itself. What features does it have, or what improvements can you make, that will enhance its value? It also helps to understand the historic trends for the area. For example, what have been the growth patterns in the past few property cycles? Is there an obvious period where it makes sense to buy, versus making sense to sell within that area? And check out recent property sales in the area to get a sense of how potential buyers are viewing this location right now.

7.45

You can find this information by keeping track of prices in the local real estate pages, or by accessing specific reports that either give insight into the local market or provide a more detailed price analysis of properties similar to the one that you’re looking for. The example on the screen comes from the realestate.com website and is a sample of the type of data that is now readily available and very useful in helping to select a property that supports your investment strategy.

8.20

The second strategy that can be employed is cash flow, or rental yield. Again, if a positive rental yield is your investment strategy, there are a couple of key questions to ask about the property. Questions such as, ‘what is a realistic yield for the area? And what features of the property are going to continue to enhance the yield?’

8.45

The yield from an investment property is simply the rent received less any expenses. There are 3 different types of yield outcome that can be achieved. These are positive, negative and neutral. Neutral simply means that the expenses equal the incoming rent. Negative means that you don’t earn enough in rent to cover the costs, and positive is the opposite, meaning that the incoming rent is greater than the outgoing expenses … creating positive cash flow.

9.20

In looking at what a realistic yield is for a particular area or location, there is plenty of information available online, such as the graph on the screen that shows data from CoreLogic of the average annual rental yield across the country to September 2021. The other question to consider is whether the yield that could potentially be achieved is comparable with other investment types. Given the risks associated with investing in property, is the return greater than a less risky investment.

9.55

The second question about why use a cash flow strategy, related directly to the features of the property that will attract tenants and rental returns. Improvements such as air-conditioning, car accommodation, or entertainment areas can set the property apart from its surrounding competition. Take care though that if you need to spend money on improvements that the improved return outweighs the cost.

10.25

Before investing in property, it pays to be aware of the risks. I’m going to start this discussion with the broader market and some important macro-economic factors. These are the factors that you’ll hear about on the daily news. Things such as GDP, unemployment and inflation. These indicate the general mood of the economy, and whether people are more likely, or less likely, to act in a particular way.

10.55

For example, if unemployment is high, then people may not be as willing to purchase new property, which might mean the value of our investment property may flat line for a period of time, or perhaps even go backwards. It’s also important to consider when you’ll make the purchase. Property values generally run in cycles. For example, if you buy at the peak of the cycle, you may be paying a high price for the property, and either the value may not grow as quickly as you like, or even at all.

11.30

Economists often talk about a ‘clock’, which walks through the various stages of the cycle. It’s useful to understand the nature of this economic clock, and what it might mean for when you choose to invest in a property. Let’s start where prices are at their peak. This is the top of the investment cycle. As people are attracted to sell at good prices, it tends to lead to having a high supply of properties.

With a potential oversupply this then leads to a slowing investment environment and flattening rents.

12.05

Meaning that prices soften. As investors become more inactive developers slow their work as well and housing stocks start to decline. Then comes the lowest point of the property cycle where prices trough, leading to a lower supply of houses. With a low supply of houses, rents start to rise. This of course is attractive to investors, and they tend to start to increase their activity again.

12.35

Causing prices to rise. Developers return in force, there is strong investment and housing stock builds again as prices increase. This clock is driven, in part, by macro-economic factors such as Gross Domestic Product, jobs growth and inflation. But understanding this cycle will help give you some insight into when is potentially a good time to buy.

13.00

There are also some more localised risks. Remember the drivers of growth we looked at earlier? If these drivers are absent, or reversed, then the property may be in an area that will not provide the right environment for growth at all. So, do your location research thoroughly before committing to buy.

13.20

Then there are the risks associated with the property itself. Firstly, not having a tenant is going to impact your cash flow and rental return. The type of tenant you have is also important. If you have the wrong tenants in your property, you may run the risk of late payment of rent, or even damage to the property. Ensuring you have Landlord’s insurance is one way of mitigating these risks. It’s also worth discussing the best strategies for managing this with a professional property manager.

13.55

Which brings us to our next consideration of ongoing management of the investment. Property, unlike some other forms of investment, is not ‘set and forget’. There are a number of things that need to be regularly addressed in order to get the most out of your investment. How are you going to manage things like:

• marketing the property?
• tenant selection?
• rent collection?
• and maintaining the property?

14.20

If the property is vacant for any period of time this could cause a significant impact on your cash flow. How do you manage this? Do you have sufficient income from other sources to cover the shortfall? Do you need to adjust things such as your tenant criteria, preferred lease term, or even the rent to keep your property tenanted? Then you also need to understand and consider the legal aspects of the landlord/tenant relationship.

14.50

With regard to the ongoing property management, you have a choice as to whether to manage the property yourself, or to engage the services of a professional property manager. The answer will depend on your cost/benefit viewpoint.

15.05

So why might you choose to manage the property yourself? To start with, you might simply have a desire to do it yourself. You may live close enough to keep an eye on it, or you may have family or friends for tenants. You may have the skills to take care of maintenance, rent collection and even marketing the property. Remember though that this is going to cost you time, energy, and focus and you’ll need to do your own market research to stay informed.

15.40

On the other hand, you may not have either the skills or desire to do this yourself, so you’ll engage a professional property manager. Consider carefully both the costs and benefits involved. For a fee, a property manager can take care of the various components of your investment property, which should enable you to focus your energies on growing your investment portfolio.

16.05

So, to round out this video let me share with you our top 5 tips for successful property investing.

Number 1 – remember property is a long-term investment. No matter whether you’re looking for capital growth or cash flow, both of these should continue to improve over time. Number 2 – speaking of capital growth or cash flow, to be successful for you, it’s important that you’re clear on the strategy for this particular property and that investing in property suits your overall investment strategy and risk profile.

Number 3 - That strategy will also dictate the type of property that you decide to invest in. Remember the property needs to be in a location and have the features to attract good tenants and provide a sound return for you. Take the time to do plenty of research to give yourself the best chance of a good result.

Number 4 - For your property to achieve the financial returns you’re looking for then you’ll need to ensure that ownership and property finance are correctly structured to suit your situation. We’ll cover structuring of finance in more detail in our next video in this series on ‘Financing an investment property’.

And finally, remember this is an investment … a business if you like, intended to make money for you. Don’t buy the property because you like it and may like to live in it yourself one day. This rarely ends up being the case and potentially means you may not achieve the return you’re looking for from the investment. It’s not personal, it’s a money-making venture and needs to be viewed as such.

17.50

We’ll also cover more about measuring the returns on your investment property in the 3rd and final video in this series, because for it to be a successful property investment you need to understand how the property stacks up against your goals and in comparison to other investment types. So, the key points we’ve covered briefly are …

18.15

The different strategies you might employ when investing in property and we looked at some of the ins and outs of capital growth and cash flow strategies. We had a look at some of the risks associated with investing in property – both macro-economic factors and those closer to home. And finally, we looked at some of the ongoing considerations around property management.

18.40

We hope you’ll take the time to watch the other 2 videos in this series on ‘Financing an investment property’ and ‘Measuring returns on an investment property’ as getting your finance correctly structured is one of the keys to achieving the returns you’re looking for from investing in property.

19.00

Thank you for watching our video on ‘Investing in property’. I hope you found it helpful and I encourage you to check out the other resources on the Davidson Institute website to help build your financial confidence. Bye for now.

0.00

Hi, I’m Bron Lawson from Westpac’s Davidson Institute here to talk to you about ‘Financing an investment property’. This is the 2nd video in our 3-part series. The first video ‘Investing in property’ explored things such as ‘why invest in property’, the different strategies you might employ, and some of the risks involved with investing in property. This video looks at for financing an investment property purchase.

Getting the cost and structure of your finance right is one of the key elements of successful property investing.

0.35

One of the keys to successful investing lies in understanding what you are looking to achieve from the investment, or what your strategy is. Are you looking for capital growth, cash flow, or a combination of the two? This strategy will also have a big influence on how you finance an investment property and help answer questions such as ‘How much finance?’, ‘What type of finance?’ and so on.

1.05

So, in terms of financing an investment property, we’re going to start here by firstly looking at how much money is required, then consider where it will come from. Firstly, of course, there is the price we will pay for the property, however there are quite a number of other additional costs that need to be accounted for as well.

1.25

Then, in terms of where the money will come from, we have a couple of sources. You will need to have your own savings or contribution, and for most people they will require a home loan. The purchase price is fairly self-explanatory, but let’s have a look at what some of the other costs are.

1.45

There are a range of other costs that you’ll need to factor in – all of which will impact your affordability. Stamp duty is potentially the biggest additional cost. Stamp duty is collected by state governments and is calculated based on the purchase price of the property. The rate differs from state to state. Your legal representative will inform you of the amounts or you can find the information online from your state government website.

Be aware that these stamp duty costs can be in the 10’s of thousands of dollars.

2.25

Other government fees include registration fees for changes to the Land Titles register. Again, these differ from state to state but your legal rep or financier will be able to provide you with specific information. Your solicitor/conveyancer will charge for their time and recover any costs they incur, such as property searches.

2.50

It’s advisable to have at least a building inspection, if not a pest inspection as well, and of course the relevant inspectors will charge for their services. Your financier may have a loan application fee, and you may require Lender’s Mortgage Insurance or LMI.

3.10

Also, it’s very important that when you sign a contract on the property you insure the property. As soon as you have signed the contract you can potentially suffer financial loss should something happen to the property. Don’t wait until you settle, insure immediately. Then you may have some renovations or improvements you wish to make prior to getting a tenant in the property. Take care that any improvements you do are actually improving your yield from the property too.

3.45

I highly recommend researching each of these costs and factoring them into your planning. Next, we’ll look at your contribution, which can come from a number of sources.

4.00

To illustrate we’re going to look at an example of purchasing a property worth $540,000. Lenders will generally lend up to 80% of the market value of the property, meaning that the purchaser needs to contribute at least 20% plus cover the upfront costs we just looked at.

So, in this scenario that means the lender could lend up to $432,000 (based on the property value) and the purchaser needs to provide a deposit of $108,000 … plus cover the upfront costs that we have estimated in this case to be $22,000. Meaning the total contribution by the purchaser would be $130,000.

4.50

Saving that deposit is often one of the biggest challenges for any intending home buyer. The good news is there are some alternatives that you may be able to use. Now, if you’re already paying off another home you could potentially use the equity you’ve built up in an existing property as an alternative to a cash deposit.

5.15

So, let’s say you have an existing property worth $500,000. Applying the 80% LVR means that this property has a lending value of $400,000. The difference between the lending value and existing loan balance is equity. So, let’s say in this case that the existing loan has a balance of $290,000 leaving $110,000 in equity that could be used in lieu of a deposit to purchase an investment property.

This works by linking the security (ie your mortgage) over the existing property to the new home loan as well.

5.55

Another alternative is to use lender’s mortgage insurance or LMI. LMI is used where less than 20% of the value of the property being purchased is available as a deposit. It’s an insurance that covers the lender in the event of a loan default by the borrower. The cost of that insurance though is borne by the borrower. So “why would I pay for insurance for the bank?” you might ask. There are a couple of good reasons why you might choose to have a smaller deposit and incur the LMI cost.

6.35

Firstly, it can help new investors get into the market with a lower deposit. Relating this back to the example we have been looking at … let’s say you’ve only been able to save a deposit of $54,000. Either you would only be able to purchase an inferior property worth $270,000 or using LMI the financier may be able to lend to a higher % of the property value. This of course is dependent on you being able to afford the higher loan repayments as well.

7.10

Secondly, it may allow the purchase of a higher priced property than you may otherwise be able to afford. Let’s say your $108,000 is now a 10% deposit. With LMI providing a 90% LVR, this may allow you to purchase a property worth $1,080,000. This of course is dependent on you being able to afford the higher loan repayments and interest on a larger debt.

7.40

LMI does significantly increase the up-front costs but it may be worth the extra money to take the opportunity to purchase a better property that will potentially provide better returns in the long run. So that’s some alternatives for your contribution, but let’s now have a look at some of the ins and outs of getting a home loan for your investment property purchase.

8.10

So, the first question on many people’s lips is ‘How much can I borrow?’ In general, how much you can borrow is dependent on 2 things. Firstly, how much the property is worth; and secondly, how much you can afford to repay. We’ve already had a look at how much lenders may be able to lend depending on the value of the property, but this is only one half of the equation. Let’s have a look now at repayments.

8.40

In assessing an applicant’s ability to repay finance, the lender will consider all the household income including the rent that will be received on the new investment property; what other commitments need to be met, for example other loan repayments or phone payment plans; and regular household expenses.

9.10

They’ll also look at the spending behaviours and patterns of those reliant on the household income – this includes things like regular use of Buy Now Pay Later schemes like ZipPay or AfterPay, regular contributions to betting accounts, or even using multiple streaming services. Based on the number of people in the household, reliant on the income, and the family makeup there is a minimum surplus that households need to have.

9.40

Many financiers will also build in a buffer of 1 to 2% to accommodate interest rate increases. All this information also needs supporting documentation to verify it. Things like payslips, bank statements, superannuation statements and so on. This brings us to the next question around affordability - of how the repayments will be structured.

10.10

There are 2 common repayment structures: Firstly, Principal, Interest, and Fees (PIF) is probably the one most people are familiar with. This type of repayment includes a reduction to the principal amount of the loan as well as covering accrued interest and fees. By reducing the principal amount of the loan, assuming the property value doesn’t decrease, then equity in the property is increased. This type of repayment structure supports a long-term strategy to grow equity.

10.45

PIF repayments are often structured on a monthly basis however equity can be improved more quickly by making the repayments on a fortnightly or weekly basis. Because the loan principal is being decreased sooner, less interest accrues. Over time this can make a significant difference. There are a number of online calculators available that can calculate the savings for you. We’ll have a look that in the next video where we are looking at maximising returns on an investment property.

11.15

The other type of repayment is Interest Only. Interest Only is where payments only cover interest accrued and fees, usually on a monthly basis; the loan principal remains the same for the Interest Only period. This type of payment is often used when an investor is relying on capital growth of a property or wishes to keep costs to a minimum to suit their cash flow situation.

11.45

This option is often only available for 1-5 years with the loan then converting to PIF repayments over the remaining term. Some financiers will also charge a higher interest rate for this repayment structure as it is riskier for them. This, in addition to the principal amount not reducing during the interest only term, means that with this repayment structure you will usually pay more interest over the term of the loan.

12.20

By way of illustration, let’s say we have a $500,000 loan being repaid over 25 years with an interest rate of 5%. Assuming there are no changes over the life of the loan then the PIF repayments would be $2,923 a month over the 25 years and total interest of $376,885 would be paid over that time.

12.50

On the other hand, if the repayments were structured as Interest Only over the first 5 years, then switched to Principal, Interest and Fees over the remaining 20 years, then for the first 5 years the interest only payments each month would be roughly $2,100. The PIF repayments would then increase to $3,300 for the remaining term. In total $416,947 would be paid in interest. That’s an additional $40,000 over the life of the loan.

13.30

The repayment structure you select will depend on your investment strategy for the property and the anticipated income that the property will generate. Another important aspect of your loan is whether your interest rate is fixed or variable.

13.45

As their names suggest variable rates will fluctuate over time. Fixed rates on the other hand, are fixed for a specified period of time. This has the effect that repayments are also fixed for that period of time, making it easier to budget and manage your cash flow. However, because your rate and repayments are set at a specific level you are generally not able to make higher repayments than those agreed without incurring a penalty.

14.20

Locking into a fixed rate also means that if the variable rate falls then you don’t get the advantage of the reduced rate. Variable rates on the other hand, while it may mean that your repayments can increase or decrease, because you are not locked into a set repayment amount, as long as you pay the minimum required you can set your repayments to suit your situation – making extra repayments when you have the money available.

14.45

To illustrate fixed versus variable interest rates let’s take our $500,000 loan over a term of 25 years but go back in time to 15 years ago. If we kept our whole loan as variable for the first 5 years our repayments would have started just under $3,600 per month, soared to almost $4,400 per month and dropped to almost $3,200 per month. However, if we had fixed the interest rate for 5 years our repayments would have remained at around $3,500 every month for the 5 years.

15.30

For this 5-year period, fixing the interest rate would mean we saved some money on our loan. However, if we fixed for the next 5 years, when the variable rate dropped, we would have saved more money by being variable. For the last 5 years it looks like fixed may have been slightly better than variable.

15.50

Nobody knows for sure what future interest rates will be, they are dependent on what is happening in the economy and world financial markets. In a bid to take advantage of the best of both worlds it is not uncommon to see people splitting their loans into a variable and a fixed portion, providing both repayment certainty and a level of flexibility that can be tailored to suit your personal situation and goals.

16.20

As an example, let’s say we have a $400,000 home loan. This could be split into 2 loans of $200,000 – one fixed and one variable. We’d then be able to make extra repayments on the variable portion. However, on the fixed portion we can be certain both the rate and repayments won’t change during the fixed term.

16.45

Getting your finance structured in a way that suits your investing strategy is a large part of successfully investing in property. The 3 key things you need to consider carefully when financing an investment: • How much cash or equity will I contribute to the purchase? • How will I structure the repayments? Is Interest Only or PIF going to suit my purposes better? • Is a fixed rate or variable rate, or a mix of the 2, going to work best for my investment?

17.20

The costs of your finance on an investment property have a direct impact on the return you’ll achieve on the property, so I hope you’ll watch the next video on ‘Measuring returns on an investment property.

17.40

Thank you for watching our video on ‘Financing an investment property. I trust you found it helpful and I encourage you to check out the other resources on the Davidson Institute website to help build your financial confidence. Bye for now.

0.00

Hi, I’m Bron Lawson from Westpac’s Davidson Institute here to talk to you about ‘Measuring returns on an investment property’. This is the third in our series of videos on investing in property and today we are talking about measuring the return on our investment property. Why? Because just like any other investment the reason we invest in property is to help create additional income, build wealth, and work towards a better financial future.

0.30

In this video we are going to explore the concept of how we know when an investment property is profitable. And achieving the goals that we wanted it to. In the other videos in this series, we covered things such as ‘why we invest in property’, investment strategy, the risks of investing in property, and financing the property. This video looks at some of the financial aspects of property investment to get a clearer understanding of whether the property is performing as an investment.

1.00

We are going to look at how the property might impact our personal cash flow and how to put together a cash flow forecast for the property to ensure it is either self-sustaining or we know when we are going to need to dig into our own pockets to support it. We’ll also look at how we measure the return we are getting on the money we have invested, and finally what are some of the things we can do to maximise those returns?

1.30

Investing in property is not a set and forget investment. There are lots of moving parts, an important one of which is your personal cash flow. So, let’s delve into how an investment property can impact your cash. Cash flow is as simple as ‘cash in’ less ‘cash out’. ‘Cash in’ will generally be rent collected, most commonly on a monthly basis. Cash going out is quite a number of different things that we will look at shortly.

2.00

Understanding your subsequent cash position – either surplus, deficit, or neutral – and managing that, is an important part of getting the most out of your investment. So, we have cash coming in from the investment in the form of rent. Looking at the investment holistically we’ll also have cash in when we sell the property and exit the investment.

2.30

Then in terms of the cash out … Firstly, there are a number of up-front costs, including the property purchase. This was covered in the ‘Financing an investment property’ video so I won’t go into those details again here.

2.45

Once we have established the investment, there will be some ongoing costs … these include things like your loan repayments and interest, property management costs if you have the property managed by an agent, your council rates and utilities such as water, repairs and maintenance, and it’s important to insure the property too, not just for loss or damage to the property but for loss of income as well. Depending on the ownership structure and value of the property you may incur Land tax too.

3.20

When it comes time to sell the property, or exit the investment, there will be other costs such as agents’ fees to sell the property, solicitor costs for the conveyancing, there may be costs to exit your finance, and you should consider, and get advice from your accountant, as to whether you might incur capital gains tax on the sale too. We’re going to focus here for the moment on the ongoing day to day management of cash flow.

3.50

An effective way of getting an understanding of whether you have a positive or negative cash flow is to put together a monthly cash flow forecast. This matches up the cash in, your rent, against your cash out such as management costs, loan repayments etc. Thus, you can see where there may be peaks or troughs in the cash flow from the investment, so you are aware of when your own cash flow might be impacted. That is, when you may need to put you hand in your own pocket to support the investment.

4.25

Let’s have a look at an example of a month by month cash flow. So, let’s say this property is receiving $300 per week in rent which is ‘cash in’ of approximately $1300 a month. ‘Cash out’ is most likely to be things like management costs, let’s say roughly $90 a month, loan repayments of $1200 a month, and insurance of $60 a month … meaning that each month the cash flow from the property is in deficit by $50 and will need to be supported from other resources.

5.00

Then in this example, in August there is some maintenance due on the property which will need to be provided for from other resources as well. Isn’t it great though to have that visibility and to then be able to make considered decisions on how to supplement the cash flow beforehand rather than be surprised at the time and have to scramble around to find the cash?

By doing this for a whole year you will have a much clearer view and can plan more effectively for how you are going to cover shortfalls, as well as what might be the best use of any surplus cash.

5.40

So, that’s looking at how an investment property might impact our cash flow however it is equally important to measure the overall return from our investment as well. There is considerable time and effort involved in selecting and managing an investment property, not to mention a number of associated risks, so we need to assess whether the property is providing sufficient return in line with our overall investment strategy.

6.10

One way of measuring returns on the investment is to calculate the Gross Rental Yield. This ratio simply compares the amount of rent received with the amount of money invested. It gives an indication of how effectively the investment property is generating an income. To calculate the Gross Rental Return, take the annual rent received on the property and divide that by the purchase price of the property and multiply by 100 to get a % return.

6.40

By way of example, a property rented for $300 per week calculates out to annual rent income of $15,600 (assuming it is tenanted 52 weeks of the year); divide that by the purchase price of $300,000 and this property is achieving a 5.2% return. This can then be compared to other rental returns in the area to determine whether the property is performing in line with others, and with the investors’ own anticipated return from the investment.

7.15

Remember though that this ratio doesn’t take into account capital growth of the property, nor the expenses associated with the property. I’d suggest it’s also worth looking at another common measure, Net Rental Return, which does take into account the holding and managing costs including the effects of depreciation and tax.

This is a more complex measure that we won’t go into today, but I highly recommend discussing with your accountant or financial adviser which measures are the most appropriate for your investment strategy.

7.50

So, how can we then measure the return including the capital growth in the property? To realise capital growth of course you need to sell the property so this next set of measures we’re going to look at includes the income and outgo of buying and selling the property as well, providing a comprehensive measure of overall performance.

8.15

One way to do this is to develop a profit and loss statement, or P&L. An investment property is a vehicle intended to make money for us and as such can be treated like a business. A P&L looks at what income has been received over the life of the investment, less the costs that have been paid, to determine how much money has been made from the investment.

8.40

For example, let’s say this investment property has sold for $395,000 and the rent received over the life of the investment is $47,000. This is total ‘cash in’ of $442,000.

9.00

Then record all the costs associated with the property over the life of the investment … the purchase price of $300,000, upfront costs of $35,000, interest and fees of $50,000, annual maintenance, rates and so on of $15, 000, and final exit costs of $5,000. A total of $405,000. Take the costs away from the total income and we’re left with a profit of $37,000.

So the investors have made a profit from the investment of $37,000 (not taking into account any taxation benefits or costs). But let’s take this a step further and see how this stacks up in terms of % returns.

9.50

Return on Investment ratio or ROI is really useful when you are considering the entire investment, including the sale of the property. To calculate it, simply determine the profit from the investment using the P&L format that we just looked at and then divide that by the total costs spent on the investment, and multiply by 100, to get a percentage return.

10.10

In the example we just looked at, the profit was $37,000, and if we divide that by the total costs (let’s call it funds invested) of $405,000, this calculates a Return on Investment of 9%. This return can then be compared with other investment options, such a term deposit or shares, to establish whether this investment has performed well or not. Was the money invested well here in property or could a better return have been achieved in another type of investment?

10.50

Let’s now look at some of the things we can do to maximise the returns on an investment property. This means maximising the income and minimising the costs so here’s a few hints on how. In terms of maximising income: • Your property selection is vitally important. You’ll want to select a property that is in a sought-after location, that has the features that are going to be attractive to tenants, and keeping it well maintained will help maximise your occupancy rate.

11.35

Setting the rent can be a tricky part of the equation. After all, in most instances you’ll be looking to cover the majority of your costs but you’ll also need to take into account the local market conditions. Ideally, you should aim to set the rent at a level that is going to attract good paying, long-term tenants • Ensure you have landlord’s insurance to cover both damage to the property and loss of income should something go wrong with a tenant.

12.10

Now, how can help keep costs down? • The biggest cost with most investment properties is interest so shop around to ensure you get a competitive rate of interest on your finance. • Reduce your finance as quickly as possible to keep interest costs down. Let me show you an example how the simple actions of making fortnightly repayments instead of monthly can make a significant difference to the costs over the life of the loan.

12.45

In the example on the screen I’ve used the MoneySmart “How can I repay my home loan sooner?” calculator to demonstrate the difference. I’ve looked at a home loan of $400,000 at the variable rate of 4.52% and we can see that by making repayments of ½ the monthly repayment on a fortnightly basis we can significantly reduce the overall term of the loan and the interest costs. In this example, the overall term is reduced by 4 years, and the interest saving over $40,000.

13.20

The time and interest savings are generated because the more frequent repayments reduce the principal amount more quickly, which reduces the interest that is charged. So, if it suits your cash flow to make the fortnightly repayments as opposed to monthly you can achieve significant savings on the interest costs for your investment property.

13.45

Continuing with our ways to minimise costs … • Regular maintenance helps to keep the property in good condition to hopefully avoid any significant unexpected repairs. • Keep your agent honest. Shop around for competitive property management fees. But also remember that you get what you pay for. You may choose to pay a little more to ensure you get a property manager that is going to take care of your property and your tenants as they’re likely to achieve better results in the long run.

14.20

In this video we have looked at how the property might impact our personal cash flow and how to put together a cash flow forecast for the property, how we measure the return we are getting on the money we have invested, and finally what are some of the things we can do to maximise those returns?

14.45

We hope you’ll take the time to watch the other 2 videos in this series on ‘Investing in property’ and ‘Financing an investment property’ as getting your finance correctly structured is one of the keys to achieving the returns you’re looking for from investing in property.

15.05

Thank you for watching our video on ‘Measuring returns on an investment property’. I trust you found it helpful and I encourage you to check out the other resources on the Davidson Institute website to help build your financial confidence. Bye for now.