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3 Main Variables Of A Housing Loan That Affects Investment Viability
Your ability to finance your property acquisitions is essential to expanding your real estate portfolio. And unless you are a master at sourcing for creative financing opportunities, you are going to be getting a housing loan to fund most of your purchases. It is therefore essential knowledge to understand the basic variables affects your housing loan and ultimately, you. The 3 variables are the interest rate, amortization breakdown, and the loan quantum. A noteworthy change in any of these variables can materially alter your cash flow projections which will shape the feasibility of your property as a rental investment.
Interest rates are always the very first item most property buyers look at when evaluating a housing loan. This does not need a lot of explaining why. You want to take up a loan at 1% interest rather than 2% under normal circumstances. The 2 most common types of interest rates that your housing loan is structured around are fixed rates and adjustable rates. The term “adjustable” is interchangeable around the world with words like “floating”, “flexible”, “variable”, depending on where you are operating. In this article we will just use “adjustable” to describe rates that are not fixed.
For adjustable mortgages, a lot of loans are structured around be pegged to a benchmark rate. The London International Bank Offered Rate (LIBOR) is among the most recognizable index in the world. In Singapore, the Singapore Interbank Offered Rate (SIBOR) is widely used. Mortgages pegged to these indexes often include a spread on top of the index rate. E.g. LIBOR + 1%. So when the index rises of falls, the final rate that you will be paying follows suit. The impact on your wallet will be minimal if your loan is a small amount, but it can be a significant number of you are on a bigger loan.
Fixed rates are exactly what they sound like. A fixed interest that you will be paying on the loan. So if a lender is offering you 5% throughout 20 years, that is exactly what you will pay. However, in many parts of the world, lenders do not offer fixed mortgage rates throughout the lifetime of a loan. Fixed rates could be charged for the first few initial years from commencement of the loan. But after that, the loan will be converted to an adjustable mortgage. It is around this time where a lot of home owners will be exploring the options of refinancing.
While the interest rates directly relate to your cost of funds, the amortization will clearly indicate to you the accumulated interest that you will pay over the years. It will also show your principle reduction after every repayment. As the tenor you take up for a housing loan will greatly affect the amortization table, you have to spend time deciding on a tenor that is best suited for you. The longer you tenor, the smaller your monthly payments. And although the monthly payments get bigger when you take up a shorter loan tenor, you will also be paying for a smaller accumulated interest charges as well.
An amortization breakdown can help you plan and organize your cash flow. For example, by having an overview of the breakdown, you can determine when would be a suitable time in future where you can make a strategic redemption of the mortgage.
Hardcore investors who play on leverage usually accept loans with maximum tenor. They might even do so at a higher interest rate as cash flow is the name of the game for them. But if you do not have the appetite for risks, be more prudent in your loan selection.
This simply refers to the loan amount that you are borrowing. While a traditional home buyer will want to borrow as little as possible to minimize interest costs, an investor will want to borrow as much as possible to maximize returns on investment (ROI). By borrowing more the capital outlay for the investor decreases. Thus the ROI will increase.
There are many alternative avenues to get your hands on funding for property investments. But we are solely talking mortgages in this article. The maximum eligible loan to value (LTV) varies from place to place. Usually you should be able to obtain 75% to 100% on your first property when entering a new market.
After assessing these 3 variables, you will be able to work out how changes in any of these variables can make an impact on the feasibility of the property you want to buy. The better you understand how these 3 factors interlink with each other, the better your buying decisions become.