What stage are you in life? Stop. The answer doesn’t matter because regardless of whether you own a home, are renting, or have decided to travel Australia in a van for the next year, knowing how to buy your second home long before you are in a position to do so is vital to your success.
A good business owner will start their business with a strong understanding of where that business is going, where it will be in five years and when/if they are going to sell it. The same goes for buying your second home.
Before you have bought your first home, if you know that you are someone who will want to use property to find financial freedom, then knowing the steps you need to take over the next 10 years is key.
Key steps to buying your second home
1. Develop your financial plan
Just as you did when buying your first home, you need to develop a long-term financial plan for buying your first home. Just waiting for the market to give you the capital gains to borrow on your equity is just about the most dangerous way to manage your finances. The market fluctuates and could be in a weaker position when you do come to a stage where you want to buy your second home.
How do you help your finances along?
- Create a budget. Boring but necessary. Set a Saturday afternoon aside for it and just do it. List all of your expenses and income channels and get a really good idea of your financial situation. Map it out on a big piece of paper so you can visualise it in front of you.
- Find ways to increase your income. Easier said than done, right? But are there ways you can add a little extra to your income. Can you adopt the ethos of a minimalist and sell some possessions? Can you find income through extra work, i.e. freelance work? Can you devote time to investing to help your income? How about leasing out a room in your home or constructing a cheap but nice granny flat for the purpose?
- Segment your finances. You should already be doing this, but segment your income to keep better track of it (i.e. monthly expenses, savings, emergency).
- Look at where your finances will lie once you buy your second home. Will it be negatively geared? Will you have sufficient cash flow? What fluctuations in the market will your finances be able to ride out?
- Be realistic in your savings goals, but look in the long term. You may need to save for another 10 years, but knowing that this is where you want to be by that time will give you goals and a strategy in the construction of your wealth.
2. Utilise equity to buy your second home
One of the most common ways of investing in a second property is by leveraging your equity. It may be harder to borrow on your existing equity in weaker markets with tighter lending conditions, but it isn’t impossible. The key to successfully buying a second home, whether it is a holiday or investment property, is to find the right balance between having a strong equity base and a strong income.
A lender is less likely to finance you if you do not have this balance. If you have a high income but low equity, a lender will be wary of whether or not your income will stay high for the duration of your mortgage. If you have a low income but a high amount of equity (say, you inherited a property), then a lender will again be wary of your ability to pay off the monthly mortgage. You want to be in a position to show a lender that you have found this balance between your income and assets.
3. Buy where you can afford
The financial load of having two mortgages can place significant stress on your finances. Don’t make it worse by investing at your limits. Consider buying a home interstate where the market is more affordable, or buying a holiday home that you can lease out. Again, this may be about finding a balance. A more affordable property in the country, by the coast or interstate may allow you to attract a higher income from it through short-term holiday leasing, but your capital gains may not be high. Alternatively, a more expensive property may not give you high yields if you lease it out full time (expect a rental yield of between 3-4 per cent), but may enjoy stronger capital gains. You’ll never know until you do your research and find properties that achieve that balance.
4. Buy a second home with friends
This is an increasingly common option. Sharing the ownership of a home with friends or family comes with its typical pros and cons. Once you do your research you will quickly discover whether or not this is a path you want to go down. The biggest advantage, and one worth keeping in mind throughout your consideration of this option is that it will allow you to enter the market for the second time much more quickly than if going it alone. Investing with others is a great way to also spread the burden/financial risk of an investment, relieving you of some of the stress that comes with making such a large investment of your money.
5. Speak directly with your lender
This may seem obvious, but you would be surprised how many borrowers in the recent past have bought homes through a mortgage broker and had zero to little engagement with their actual lender. Get to know what types of loans are available to you and how you can restructure your existing loans (especially how this will affect your rights and tax obligations). Become an expert in home loans, as buying your second home effectively means that you have decided to run a business (if you plan to lease the home, if it is a holiday home then this is a different story). You cannot succeed as a business owner if you do not know your product, and your loan is a fundamental part of your product.