Once you’ve established yourself as a homeowner, you might be thinking: okay, what’s next? If you’ve achieved your goal of getting into the property market and paid down some of your mortgage, you could start looking at other paths to diversify your investments and build wealth.
One way is to leverage some of the equity in your home to start investing in the share market. This kind of investment is more risky than investing in property, so it’s important that you proceed cautiously and seek out professional advice before you press ahead.
On the other hand, if you’re looking at borrowing to invest, equity may give you a way to do that at the interest rate you have on your home loan – which is likely much lower than those available on credit cards or margin loans.
But first, we need to determine how much equity you might have to work with.
What is equity?
Equity is the difference between the market value of your property and the amount you still owe on your home loan. For example, if your home is worth $600,000 and you have $400,000 remaining on your mortgage – your equity would be $200,000. Equity can build up over time as you reduce your loan amount with principal and interest repayments, and if the market value of the property increases.
What is usable equity?
When talking about equity, it’s important to note that there are two terms often referenced: equity and useable equity. Useable equity comes into play when you’re looking to use your equity to apply for another loan.
Useable equity is up to 80% of your property’s current value minus what is still owing on the mortgage. For context, let’s say your property is valued at $500,000 and you have $150,000 left on your mortgage. This is how the work useable equity would be calculated:
$500,000 x 0.8 = $400,000
$400,000 – $150,000 = $250,000 in useable equity
To get an estimate of the amount of equity you may have available in your property, you can use an online tool, like Westpac’s Home Equity Calculator.
Useable equity and investing in shares
Once you’ve established the amount of useable equity available, you may be able to use these funds to invest into the stock market. The most common types of investments are shares, individual stocks, managed funds, index funds, ETFs and retirement accounts (or superannuation).
There are a couple of options for accessing the equity in your home to invest, both with different pros and cons that you should weigh up in line with your financial situation.
Home loan top up
One way to access equity in your current property is to get a home loan top up or increase. This involves applying to increase your existing home loan account limit to give you extra cash in your pocket to put towards investing.
Supplementary loan account
If you don’t want to increase your current home loan balance, you may want to consider a loan increase to create a supplementary loan. This option uses your equity to create a separate loan account and may allow you to choose different features from those on your current home loan. A supplementary loan account could help you set up a new repayment frequency, a different type of interest rate (such as fixed rate) and a loan term that’s different to your main loan.
Once you have determined which loan type is right for you, you can then start to think about your investment and diversification strategy, as well as the types of brokerages and trading platforms you might be interested in. Keen to learn more about the ins and outs of investing? You can find more information on Moneysmart.gov.au.
Borrowing to invest: risks and benefits
As with any investment, it’s important to weigh up the risks and benefits. You need to assess if this is the right move for your financial situation – and this is especially true with shares and stocks. Let’s take a moment to explore some of the more common risks and benefits of using your home equity for investing.
Share market investing benefits
There are a few key benefits of using your home equity to invest in the stock market, including:
- accelerating the growth of your investment portfolio with returns and dividends
- diversification of your income streams
- access to a larger amount of money and building a stronger portfolio than if you were using just your own funds
- low-cost online brokers are making it easy and more accessible to start investing
- borrowing at a rate that’s likely lower than those offered by share trading platforms
- potential tax efficiencies.
Share market investing risks
While you might receive bigger returns when markets go up, it could also lead to larger losses when markets fall. You need to be aware of your own personal risk appetite and remember that just because shares have had strong past performance, this isn’t an indication of future performance or gains.
Some other things to consider:
- While borrowing to invest more money in shares, managed funds and ETFs increases your potential returns, it can also increase potential losses if the market falls.
- You still have to continue repaying your loan and interest, even if your investment falls in value.
- You will need to factor in the costs and fees associated with trading, such as brokerage fees.
- If the market falls, you could potentially lose more than the money you originally invested.
- The interest you pay on your loan may reduce your profits. Keep in mind that interest rates can fluctuate, and an increase could result in you paying more to service your loan (although your home loan rate will still likely be lower than a margin loan or personal loan).
Considerations before using equity to invest
Before accessing your home equity to invest, you should make sure that you can service the costs associated with the loan, including repayment of the loan principal. It’s also a good idea seek professional financial and tax advice regarding the potential risks and benefits of geared investing. The key thing is to do you research, have a clearly thought-out investment strategy and chat to your financial advisor.
Interested in using your equity to build wealth, but unsure if the stock market is for you? You could also consider investing in real estate and growing your property portfolio.