Investment Property Mortgages - How do They Differ?

When you shop around for investment property mortgages you will look to compare interest rates, fees and services just as you would for a home loan. There are however some additional criteria you'll need to take into account because these can have a huge impact on your return on investment.

Lending criteria for Investment Property Mortgages

Most banks will treat loans for investment in single family homes at par with ordinary home loans and charge similar interest rates and fees. They will lend to 80-95 percent of the property value. But if you're buying an apartment or invest in a residential property in suburban towns the lending criteria will be far more strict and the lenders will ask you to put in a much higher deposit and may charge you a higher interest rate reflecting the risk.

Lenders including banks will also look at your repayment capacity. Most lenders only include 35 percent of your gross personal income and 75 percent of the gross rental income towards your ability to repay the loan.

In case you do not meet any of the bank criteria they will ask you to pay 'mortgage indemnity insurance' fee or a 'low equity premium'. This will add to your cost of borrowing the funds.

Tax on Investment Properties

The main advantage of an investment property mortgage is that the interest on the loan is tax deductible. Some countries extend this facility towards home loans as well.

You may not be permitted to deduct the interest for tax purposes in case you rent out your existing home and borrow money to build or buy another home to live in because the purpose of the loan is not to buy an investment property. Similarly you will not be permitted tax deductions if you borrow against the equity on your investment property to buy say a boat or a car.

It is advisable to consult your tax adviser because tax laws can differ from country to country.

There are lenders, mortgage brokers and tax consultants who have particular expertise in investment property mortgages. It is advisable that you contact the right people and organizations.

How Investment Property Mortgages affect your Return on Investment and Risk

The larger your loan to equity ratio higher will be your return on investment but will also increase your risk . Fall in value can wipe out your equity in the property.

The other risks that you need to consider are increase in interest rate and vacancy periods when you have no tenant and there is no income from the property. You should have income from other sources to overcome this short fall.

In the initial years the income you earn from an investment property may be less than the expenses on the property. This is called 'negative gearing'. Some investors deliberately buy properties to make a loss on their investment property in the initial years. This is called 'negative gearing'. They buy these properties to offset the loss against income from other sources such as salary and business. Investors who buy negatively geared property hope to make a profit with capital gain to more than offset the loss they will make due to short fall in monthly cash flow. They are prepared to lose money in the short-run for long term capital gain.

Interest Only Loans

In case you wish to build a portfolio of a large number of properties then it is advisable to take an interest-only loan. This will improve your cash flow. This money can be used make improvements to properties so that you can increase rents or use the cash to make deposits to buy more property.

The additional cash flow can also be used to pay off the mortgage on your house. The best utilization of additional money is to pay off your home mortgage loan because you can not claim tax break on this loan.

If you are close to retirement then paying off investment property mortgages will help you reduce risk and give you peace of mind.

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