Saturday, January 12, 2008

Paying off your house vs. buying an investment....

Oh, the eternal debate continues!!! Two general trains of thought say this: 1. Pay off your house (PPOR) and thus save interest and 2. Leave repayments as they are and buy an investment property (IP), making money by the capital gain. So here we are presented with two valid ways of "making money" by using extra funds. I am of the belief that either method is worthwhile, however there is one factor that I believe tips the favor of acquiring additional IP. Think about the theory....

Making extra repayments = reducing interest in 1 property, which is increasing in value.
Buying an additional IP = rental income helping make repayments and 2 properties increasing in value + tax benefits.

So lets look at it for those who like numbers.

Extra Repayments
$400,000 loan, making extra repayments of 300/week = Approx increase of 34K/year + value of property lets say a conservative 6% approx. $24K/year, total $58K annual benefit.

Buying 1 other IPBuying another IP of $400K making extra repayments at same increase:
You have 2 times the increase because you are holding 2 properties = $48,000/year and remember that you are still reducing you home loan and maybe even your second loan if its P+I also.

But hang on, making extra repayments is worth more, isn't it?Here is where it gets a bit tricky. There are numerous factors which make IP more attractive, such as increases in rental return, the ability to improve the property, get a tax break and increase growth faster and following the theory of equalisation (buying at the bottom, or near the bottom of the market, if you follow this strategy) also strengthening growth. Overall, this will yield greater returns.

The beauty of this system, is that once the rental increase starts kicking in, it costs you less to hold this IP and that's when you can buy another. Lets not forget, that you can continue to acquire and acquire and acquire, multiplying your yearly gain. Essentially this allows you to diversify your portfolio, allows you to access property markets that are not necessarily near you and, if you are making informed acquisitions, can yield much better returns (I've been lucky with approx. 16% on my IPs). Multiple properties increasing in value is much better than one only. However, with a single house, you are basically "stuck" with the one property market and the singular value growth.

So in essence, three main points to sum up my ramblings:

1. Paying off your PPOR is a safe way of "making money" by reducing your interest.
2. Making informed purchasing decisions allows you to enter different markets and diversify your investment portfolio.
3. Tax breaks and rental increases along the way are possible gateways for making IP a better proposition.
4. Multiple IP acquisitions make it worthwhile.

Ciao for now...

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