Trading up / Trading Down / Bridging Finance – Where do I start?
One of the more difficult things in life financially is trading up your owner-occupied house. Most people have no idea where to start.
The first thing to work out is how much you want to spend on the new house and will that mean an increase in mortgage. For example, if you want to go from an $800,000 value house to a $1,100,000 house, that may mean an increase in mortgage of $300,000, or around $750 a fortnight based on a 30-year term. So, is this affordable based on your current financial position?
The next stage is working out how you want things to play out. Are you going to offer on a house, subject to your house sale? Are you going to sell first, potentially needing to rent somewhere temporarily, then buy? Are you going to offer unconditionally on a new house before you have unconditionally sold your house? Are you going to rent out your existing house, then 100% finance the new house purchase?
Offering on a new house subject to unconditional sale of yours (and the other usual due diligence clauses such as finance) is probably the most common and least risky. We can get pre-approved by the bank for this scenario, and you want to make sure your house is ‘sale ready’. Usually, you get about 4-6 weeks to obtain an unconditional sale of your house, and there is often provision (“better offer”/ “cash out clause”) that another party could move in front of you with a better offer. I often advise clients to be relatively generous with your offer price to make it attractive to a seller to accept your conditional offer involving a house sale.
Ideally the settlement date of the current house and the new house need to be same day or settle on the new house after settling on the current house. If, once both sale and purchase are unconditional, you want to settle on the new house before the current house, we need to obtain closed bridging finance from the bank. But it’s not a ‘given’ this can happen and requires approval.
You need to make sure you have access to deposit money on the new house if your offer ends up going unconditional, so try and keep this to a minimum if you can and be ready with a top up from the bank all ready to pay it or use available cash. This may mean pre negotiating a lower than the usual 10% down payment.
Selling first would normally make the most sense as it helps get you in a ‘cash buying’ position on the new house. Pre-approval for the end position can also be obtained early on. The downside to this option is if the market is rising, you can end up selling ‘low’ and having to buy ‘high’ if it takes you a while to find a house. A second downside is finding temporary accommodation and moving twice, especially with kids and pets which can make it all too hard.
You can potentially put your house on the market with a vendor sale clause giving you a few months to find a new house before you officially go unconditional. But this may put some buyers off. Alternatively, you negotiate a long settlement and hope you find something to buy before settlement on the existing house.
Offering unconditionally on a new house before you have sold unconditionally (subject to bank approval with open bridging!), in theory seems a good way to go for convenience. But it is highly risky if your house can’t sell and you need to settle on the new house with an expensive open bridging, floating interest rate loan on hundreds of thousands of dollars. Banks are not falling over themselves to offer this type of finance, and some don’t officially do it at all. To have a chance, you would need a lot of equity across the two properties (think maybe 20-30% at least), strong income and likely a pot of cash savings that could service 6 months’ worth of interest.
Putting yourself under pressure with buying unconditionally first can sometimes force you to take a lower-than-expected sale price on the existing house. Some banks will allow for that happening in their assessment, perhaps as much as a 20% shaving of the current house value, which often eliminates it as an option for most borrowers.
A couple of non-bank lenders out there have an appetite for open bridging finance, but you will be paying a higher interest rate, fees, increasing the risks and servicing cost.
Finally, renting out the existing house and buying a new one is typically a scenario a lot of borrowers think of first. Whilst again this may seem convenient, it can inadvertently tie up a lot of equity with an average return. It also means borrowing more than you would have, had you sold your property instead. So, you need to run the numbers on whether turning yourself into a property investor is a good decision and the best return from the value of your current house. It could be that owning a rental is a good idea for you, but maybe not the house you currently own. If you did go down this path and it was a long-term plan, speak to an accountant to see if its worth selling your existing house to a Look Through Company or Trust to maximise tax benefits (if any) and have as much debt as possible attributed to the current house and new ownership vehicle.
No matter what path you choose, it pays to talk to Craig Pope Financial for the best plan to suit your particular circumstances.