Keen to buy a second property? Whether it’s an investment townhouse or a beach house, using the equity in your existing home could be a great way to get there without saving a full deposit all over again.
What is home equity and how does it work?
Home equity is the difference between your property’s current market value and the amount you still owe on your home loan.
For example, if your property is worth $850,000 and your outstanding mortgage is $400,000, then your equity is $450,000.
You can build equity in two ways:
- Making regular repayments that reduce your home loan balance and/or
- Benefiting from property value growth over time
This growing equity can then be used as a resource to fund another property purchase, without needing to save a large cash deposit.
How to use equity to buy a second home
There are two main ways to access your home equity:
- Refinancing your current mortgage: This involves taking out a new, larger mortgage on your existing home, which pays off your old mortgage and releases the difference as cash. This cash can then be used as a deposit for your second property.
- Taking out a line of credit or home equity loan: This option allows you to access the equity in your home through a flexible line of credit. Generally, lenders will approve you for a set limit, and you can draw down funds as needed, similar to how a credit card works, but with your home as security. You can structure your line of credit so you only have to repay interest on the amount you borrow, making it a useful option for expenses or ongoing investment needs.
Once you’ve accessed the equity, you can use those funds as a deposit for your second home or investment loan. This can be used to buy an investment property, providing rental income and potential capital growth, or to purchase that ideal holiday home for personal use.
How much equity do you need to buy a second property?
Most lenders in Australia require you to retain at least 20% equity in your existing home before approving additional borrowing. This is known as usable equity.
Calculating usable equity
Let’s say your home is worth $850,000 and you owe $400,000 on your mortgage. Your lender’s policy is that you could potentially borrow up to 80% of the property’s value ($680,000). Subtract what you owe ($400,000) from 80% of the property’s value, and that leaves $280,000 in usable equity.
Lender policies do vary. Some may offer more flexibility around income assessment or require higher or lower loan-to-value ratios. It’s important to speak to an experienced broker or lender to understand your options.
The benefits of using equity to buy a second home
Using your home loan equity to fund a second home can offer several advantages:
- No large cash deposit needed: One of the most significant benefits is avoiding the need to save up a substantial cash deposit for your next purchase. You’re using the value you’ve already built in your primary residence.
- Potential tax benefits: For investment properties, there can be potential tax deductions on interest and other expenses, making it a more attractive financial strategy. Speak to your accountant about this.
- Faster portfolio growth: Equity helps you build wealth sooner by expanding your property assets.
- Lower interest rates: Using your home equity through a loan or line of credit often means paying lower interest rates than taking out a separate home loan or saving for a new deposit. This can make accessing your equity a quicker and more affordable way to finance your second property.
The risks and challenges of using equity for a second home
While using equity can be a smart move, there are also potential downsides to consider:
- Increased debt: You are essentially borrowing more money against your home, which increases your overall financial commitments and monthly repayments.
- Market fluctuations: If property values decline, you could find yourself in a position where you owe more than your property is worth, known as negative equity.
- Impact on lifestyle: Higher mortgage repayments across two properties could put a strain on your day-to-day finances and affect your disposable income.
- Risk of over-leveraging: Borrowing too much against your equity can limit your future financial flexibility and make it harder to access funds for unexpected expenses or other opportunities.
- Cross-collateralisation: If your lender ties both properties to the same loan, it could reduce your flexibility. For example, selling one property might require the lender’s approval or impact the loan on the other, making it harder to restructure or refinance later
Before proceeding, it’s wise to run the numbers and get professional advice to make sure the strategy suits your circumstances and long-term goals.
Equity loan vs refinancing: which option is better?
When using equity to buy a second home, you’ll usually choose between two main options: refinancing your existing mortgage or taking out a separate equity loan.
Both approaches use your current property as security, but they work in different ways.
Refinancing involves increasing the size of your existing home loan to release equity. This option can offer lower interest rates and a simpler loan structure, as you’re consolidating your borrowing into one mortgage. However, refinancing may come with fees, such as break costs or new loan setup charges.
A home equity loan, on the other hand, is a separate loan that uses your current home as collateral. It’s often available as either a lump sum or a line of credit and may offer fixed or variable interest rates. This option can give you more flexibility if you want to keep your original mortgage unchanged or need funds for different purposes.
The right option for you depends on your financial goals, how much equity you want to access and the terms offered by your lender. A mortgage broker can help you weigh up the pros and cons based on your situation.
How Axton Finance can help you use equity to buy a second home
At Axton Finance, we help busy, time-poor people unlock the potential of their home equity to purchase a second property. Whether you’re buying a second home as a holiday house or an investment, we’ll guide you through your options and explain the process clearly.
We compare hundreds of loan products from a wide range of lenders to find one that fits your goals. From calculating your usable equity to choosing the right loan structure, we’ll provide expert advice every step of the way.
Thinking about using your home equity to buy a second property? Axton Finance can help. As a trusted mortgage broker near you in Melbourne, we’ll guide you through your options and ensure your loans are structured for long-term success. Call us on today 03 9939 7576, email [email protected] or click here to get in touch.
