Author and property investor, Michal Yardney says “real estate investing is a game of finance with some houses thrown in the middle”.
People think that the scarce resource is investment-grade property. But the scarce resource is actually borrowing capacity – as everyone has a limit to how much they can and should borrow.
In a normal market, investors that seek professional advice from a buyers’ agent will eventually be able to identify and acquire a quality asset. And if you had an unlimited borrowing capacity, theoretically, you could keep buying property. However, the reality is that everyone has a limit to what they can borrow. Safely maximising that limit allows you to invest more and build personal wealth. That’s why investing is a game of lending, not investing.
My recent experience is case in point
My wife and I recently refinanced some loans from Westpac to ANZ. Most of these loans were established at Westpac in the past 3 to 5 years. One loan was established as a result of an unexpected, but advantageous, property acquisition in late 2016. To get the loan approved, we had to agree to making accelerated (additional) loan repayments to reduce debt.
However, over the past 3 years, our loan to value ratio has reduce significantly and our overall financial position has materially strengthened. Plus, we have been making substantial loan repayments thereby reducing our debt.
As such, I approached Westpac to (1) restructure our loans and (2) access some equity. In short, they said no! Whilst this was frustrating (and frankly nonsensical), it reminded me how important it is to know the rules of the lending game. You need to know when to push and when to walk. And most importantly, whether a ‘no’ is really a ‘no’ – maybe you are either talking to the wrong person at your existing bank or need to go to a different bank.
The short story is that we refinanced to ANZ, obtained a lower interest rate, almost all debt on interest only repayments (only one loan on P&I because we requested it, not the bank) and we obtained access to a large amount of equity.
To win at the game of investing, you need to first win the game of lending
I have always counselled my clients to do two things. Firstly, always borrow more money than you think you need (large buffer). Secondly, the best time to borrow is when you don’t need it.
When I started talking to Westpac back in September 2019 (yes, nearly 6 months ago!) in regard to restructuring our lending and accessing equity, I had no immediate plans for the further borrowings. However, as it has turned out, as a result of this refinance, I now have access to additional monies I can invest in the property and/or share markets if I want to i.e. there are much better buying opportunities now, compared to 6 months ago.
My point is that your ability to successfully invest to build wealth will be severely hindered if you are not able to proactively and efficiently maximise your borrowable equity.
The banks and government set the rules
In order to win the boardgame Monopoly, you firstly need to learn the rules of the game and secondly work out how to play them to your advantage. Winning the game of lending is no different.
It is important to understand that there are two types of rules.
The first category of rules is prudential lending standards – let’s call these ‘normal rules’. An example of this rule is that most lenders allow you to borrow up to 80% of a property’s value (without charging mortgage insurance). This is a hard and fast rule that cannot be bent. Some normal rules can be bent a little, assuming you can demonstrate to the lender that there are mitigating factors.
The unwritten rules of lending
The second category of rules are unwritten, which are typically only learnt by experience. For example, referring back to my Westpac refinance story above, a credit manager approved our loans back in 2016 on the condition that we were to make accelerated principal repayments. Therefore, for a credit manager to decide in 2019 that this is no longer required, would to some extent, be sticking their neck out. We know that the banks have really clamped down on credit managers and no employee wants to risk their bonus (or worse, their job) by approving a loan unless it appears to be very low risk. Overturning a past credit decision, albeit one that was made over 3 years ago, feels like a risky thing to do. Therefore, for a credit manager, its best to say no, even if it results in lost business.
Another example is challenging a bank valuation. It is near on impossible to get a valuer to change their valuation report, even if you present new evidence. No professional wants to admit they are wrong or initially did a poor job.
That is why you need to know the rules and when you can bend them and when you can’t. Sometimes, the best thing is to go to a different lender, even if you find a bank’s answer completely illogical.
3 ways to win the game of lending
Using the banks money to build your personal wealth is a powerful strategy if implemented correctly. This is even more true in the current low interest rate environment. To maximise the power of this strategy, you need to do three things successfully. I list these below in order of importance.
- Maximise your borrowable equity – in practice this usually means proactively restructuring lending every 1 to 5 years (depending on your circumstances) to ensure you can maximise your safe borrowing limits. The more money you can borrow safely and invest in quality assets, the more wealth you can build in the long run. The vital adjective here is “safely”.
- Make borrowings tax effective – borrowing for investment purposes is tax-effective, as you can claim the interest cost as a tax deduction. This is a substantial tax deduction over the life of an investment, and it should not be compromised. Actions such as ensuring loans are structured correctly, using offsets, not mixing loan purposes for example are all important steps to achieving this goal.
- Minimise interest and fees – this is an obvious one. However, most investors tend to unduly focus solely on this step at the expense of the other two above, which costs them dearly in the long run.
The rules have changed a lot of the past few years
When I started this business in 2002, lending was so easy. We could simply approach a bank, nominate a loan amount, receive the loan documents and the loan would be set up. Sometimes, a few days later, the bank might even ask the client to sign an application form just to “fulfill their compliance obligations”. Of course, that way of doing business was absolutely irresponsible and things definitely needed to be tightened up.
However, things have probably gone too far the other way. My recent refinance experience demonstrated this. I’m very organised and I know what’s required. But the amount of questions and paperwork that the bank requested was ridiculous. But there’s no point complaining about it. You just have to play the game.
Download a comprehensive chapter summary of my new book
This is why I have written my new book: Rules of the Lending Game. This book will help investors learn the rules of the lending game and how to play them to their advantage. This will help them avoid being locked out of the lending market which will ultimately put the brakes on their investment plans.
You can download this chapter summary (here) of the key points I address in this book. It will give you a good sense of what the book covers and how it will help you. Feel free to share this document with friends and family.
Since we have all been told to stay home for the next few weeks, it could be a wonderful opportunity to upskill yourself on this very important subject.
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