Why it's not always a good idea to put a 20% deposit towards your property

Jamie Moore

So you've saved your 20% deposit and enough funds to cover the purchase costs and are ready to venture out and buy your first property.

This might sound crazy, but have you considered the downside to using all of your hard earned savings to cover the 20% deposit towards your first purchase?

Most people believe it's in their best interest to save the large 20% deposit and put it all towards their first property because that way they can avoid paying Lenders Mortgage Insurance (LMI).

What a lot of people don't realise is that this can be a costly mistake in the future - particularly if the property turns into an investment property down the track.

Let's look at a scenario.

By paying a 20% deposit, John is reducing a large portion of this future tax deductible debt. For instance, if the loan was $500k and John put $100k towards it, he would be left with a future deductible debt of $400k which he can claim against. If he decided to use a smaller deposit, say 10% or $50k, then he would be left with a future deductible debt of $450k that he could claim against.

In this instance, some LMI would be payable as the Loan to Value Ratio (LVR) would be 90%. However, the ability to claim the additional loan interest should see John better off in the long run if he plans on holding onto his investment property for a while.

In this structure, it's important that John sets the original loan up as interest only with an offset to preserve the principle.

Also, by holding back on some of the savings that John was going to use as the deposit he has established a “contingency fund” which is always important when building a portfolio. He can place that spare $50k savings into the offset account against his current property and he'll be paying less interest on the loan and when he does decide to convert it into an investment property, he can move the cash out of his offset account (increasing his deductible debt back to its original level) and move it onto his new owner occupied home (and reduce his non-deductible debt).

Happy investing.

Jamie Moore

Pass Go Home Loans Pty Ltd

Canberra, Australia

info@passgo.com.au | www.passgo.com.au | 1300 656 299

This information is of a general nature only and does not constitute professional advice. You must seek professional advice in relation to your particular circumstances before acting.