What interest rate is available for an investment property mortgage?
Finding a suitable mortgage is typically one of the first steps you take when considering property investment. A crucial decision factor is securing a low interest rate.
As it ultimately determines your profitability, you need to scrutinise your options carefully when reviewing various financing options.
Property can be a rewarding investment option. It offers long-term capital growth with a minimal financial burden if your rental income covers the property-related expenses. However, typical property investments require a considerable amount of research. Locating the ideal property, identifying any needed improvements, and finding the right contractor can take time. Getting the best-suited loan to finance your investment is also a critical part of this research.
However, a typical owner-occupier home loan may not be a suitable instrument to fund your property investment. It may not offer the features you need, and the interest rate may differ. As this cost ultimately determines your investment success, you need to understand the various options available.
Positive and Negative Gearing and Investment Profitability
Any property investment has one financial goal – to increase investor wealth. As with any other financial undertaking, there are income and expenses to consider. Typically, rental is the primary revenue source for property investment. Taking this income and subtracting it from all property-related costs will result in either a positive or negative balance.
If your property-related income is higher than your running expenses, the result is a profitable investment with cash flowing into your portfolio. If your investment goals are to increase your disposable income, this scenario is ideal as it means more money in your pocket every month. However, as costs fluctuate, the profit you receive each month may vary.
An investment where operational costs exceed your rental income will result in you making a loss each month. However, even though this scenario may not seem ideal, your property-related expenses are tax-deductible. In some instances, this outcome may meet specific financial portfolio goals. If you have the means to fund the shortfall, the net result taking the tax-deductibles into account may still fall in your favour.
What is clear from both scenarios is that costs play a vital role in determining your profitability. As your investment property’s interest rate is such a significant factor in determining your total cost, understanding its mechanisms is critical.
Current Rate versus Comparison Rate
When banks and other financial institutions price an investment property interest rate, they typically quote two numbers: the current and the comparison rates.
The current rate is the interest you will pay for financing the mortgage.
Financial institutions also quote a comparison rate. This percentage includes the interest rate as well as other relevant mortgage fees. Examples include loan fees, mortgage registration, and transfer duty, among others.
Using the comparison rate when calculating your total investment cost is vital. Depending on the financial institution, the comparison rate could be as much as 1% higher than the nominal interest rate.
Fixed Rate versus Variable Rate
Another interest rate decision you will need to consider for your investment property is whether you want the rate fixed or variable.
As the name implies, a fixed rate offers you a fixed interest rate over a particular term. They provide better predictability giving borrowers the ability to budget with 100% accuracy. However, they do have a few drawbacks.
As the financial institution is taking the risk, the cost is typically higher than a variable rate. The length of the fixed term also needs consideration. The shorter the period, the lower the difference between it and a variable rate. The duration of a fixed rate also expires after a set period. If it falls before the end of the mortgage, you will need to start paying the variable rate or negotiate another fixed term rate with the financial institution.
Financial institutions also offer mortgage loans that have variable interest rates. Contracting a mortgage of this type comes with a certain level of risk. As the cost fluctuates with the prevailing bank rate, your monthly repayments could increase. However, the opposite is also possible, with them decreasing when bank rates fall.
Deciding whether to opt for a fixed or variable rate depends on your financial circumstances, prevailing market conditions, and risk appetite. If you and your financial advisor believe rates will remain steady or fall in the future, a variable interest rate would be the obvious choice. However, a mortgage loan typically covers a period of 15 to 30 years. Trying to accurately predict the prevailing bank rate over that length of time comes with a certain risk level. Should the rate increase dramatically, it will affect the profitability of your investment.
Interest Rate factors to consider
Investing in property offers several benefits, including financial freedom and wealth creation. However, your investment property mortgage’s interest rate plays a significant role in its total cost and affordability. When deciding on financing options, you must consider the various associated costs and risks involved.
For expert advice on the right property finance solution for your investment, visit our Finance Service page.