According to the ATO, the average property investor is not even close to achieving financial freedom through real estate. Here’s what we know from the data:
About 73 percent of property investors own only one property.
About 19 percent of property investors own two properties.
Less than 1 percent of property investors own six or more properties.
No doubt the greatest hindrance to growing your property portfolio is the question of how to fund the next deal. Property is expensive, and even when you can get the bank to come to the party, you still need to come up with a deposit and closing costs.
There are four primary ways to fund the growth of your property portfolio:
Cash Savings
Equity Finance
Realised Profits
Joint Venture Partnerships
Let’s break each of these down and consider the pros and cons.
Funding Your Next Deal Using Cash
Using cash savings is the simplest way to fund your deposit and closing costs, but herein also lies the greatest potential hindrance: limited earning power.
Last year I was coaching a surgeon in Sydney who realised he could skip the growth phase or residential property investment, and jump straight to buying commercial properties for income.
This made perfect sense because he was earning about $30,000 per week, and could save over $1 million per year,while still living like a king.
For the rest of us to have hope of accessing such a vast stream of cash, we would need to get creative and build an income accelerator.In Steve McKnight’s recent book, From 0 To Financial Freedom, available free of charge here, he says,
By definition, an income accelerator adds to your income, but not on a per hour work basis. Instead, it tends to pay you in chunks, or slowly over time in recognition for applying intellectual property.
Perhaps your key to funding the growth of your property portfolio is not working out your property investing strategy, but figuring out your income accelerator.
Funding Your Next Deal Using Equity
You may have access to equity in other investments, ora personal residence that you can refinance. This is a common strategy for many investors to keep moving forward toward their goal, especially during periods of capital growth.
The Pros of Using Equity:
It can be tax-effective, as capital gains tax is only triggered upon realising a profit upon sale.
It is relatively easy to do.
It can be an inexpensive source of funding.
The Cons of Using Equity:
Additional interest costs will have a negative impact on your cash flow.
From the bank’s perspective, there is a limit to how far this strategy will take you.
Higher loan to value ratios (LVRs)will make you an increased credit risk.
Before you tap into the equity of your personal residence, you need to keep a few important points in mind:
It can be a good way to get started, but it’s unsustainable.
Your home is a lifestyle asset, not an investment.
If you’re willing to use your home as collateral, be willing to lose it if something goes wrong.
If you’re that desperate for cash, you may be better off selling your home and renting instead. You can always repurchase later using profits.
If you do take this path, be sure you have a plan to repay the debt as soon as possible.
Whether you’re refinancing an investment property or your personal residence, be sure that you’re aware of the dangers of cross-collateralisation.
Funding Your Next Deal Using Realised Profits
Your equity in an investment property that you currently hold is an unrealized gain. It only exists on paper. That equity becomes a realised profit only upon the sale of the underlying asset.
The Pros of Using Realised Profits:
Your profits flow through your tax return, improving your serviceability in the eyes of your lender.
You’ve locked in your gain, hedging against future price decreases.
The sale provides a much needed injection of capital.
The Cons of Using Realised Profits:
You eliminate the possibility of future profits in that property.
You create a capital gains event, and so you must pay the tax man.
It’s amazing how the fear of paying tax prevents most people from selling their investment properties. Many property educators teach that you should never sell. But is this always true?
The fact is, sometimes you need to sell in order to buy more. If you never sell, you’ll probably find it very difficult to own multiple properties. At the very least, you’ll end up holding properties that over time produce extremely low yields relative to other possible investments. Selling should be seen as an inevitable part of the investing cycle.
I’ll never forget hearing Steve share this obvious but profound truth: “If you’re not paying taxes, you’re not making money.”
Funding Your Next Deal Using a Joint Venture Partnership
Steve teaches an entire session on Joint Venture Partnerships in our Property Apprenticeship course. He talks about the difference between the “Me Investor” and the “We Investor.”
If you’re a “Me Investor,” your vision is restricted to what you can accomplish on your own, and with your available time and money. This attitude will ultimately hold you back, because once you’ve exhausted your resources, you’re finished.
To go beyond the limitations of yourself, you must become a “We Investor.” You need to involve other people in your vision, and as you do, new opportunities will open up for you. In a joint venture partnership, two or more parties combine resources with a view toward sharing the profits at the end of the deal.
In a typical joint venture deal, both parties will come to the agreement with complementary strengths. For instance, one may be a time or skills partner, and the other may be the money partner. The time partner finds and manages the project, and the money partner contributes the deposit, improvement costs and the borrowing ability.
If you’ve exhausted your cash and borrowing ability, and you have the time and skills to make the deal happen, then joint venturing with a money partner could be your answer to funding your next deal.
Conclusion
The most important rule of funding the growth of your property portfolio is to be proactive. Rather than acting like a powerless victim to current constraints, the proactive investor believes there’s always a way to keep moving forward toward the goal.
Sometimes the first step is to get around the right people. As Steve likes to say, “You’ll never fly like an eagle if you’re always hanging out with turkeys.” Cheesy I know, but that’s the way Steve rolls.
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