For many Australians, their first house is not their forever home. As they decide to grow their families, they would need to invest in a bigger property. But what things should they consider when they upsize their homes?
Younger families who have kids are always likely to move into a larger home and take on a larger mortgage. Then as people move into retirement they are naturally going to move into a smaller property.
Before you upgrade to a bigger home, you should re-assess your motivations for moving. A lot of upgraders mistakenly purchase a larger home because they assume a more expensive asset will increase their net wealth into the future.
The risk here is that you will pour your money into an asset that you are living in. If you are prepared to give it up in the future to get profit, then the strategy would work. However, your net wealth will be constantly tied up in the large family home and you could enter retirement with little or no money if you really have no plans of selling the property in the future.
This makes it a must to consider the same factors that you take into account the time you first entered the market when you are planning to upgrade your home.
Choosing the right property
If you are a savvy homebuyer, you might think that taking an investment outlook towards your upgrade will help you get the most out of your purchase in the future.
While this can be a great strategy for investors, these types of properties are not likely to be in areas where you would want to live.
When we buy to live, future growth is low on our list in terms of priority, and when we buy to invest it is high on your list.
Instead, you must consider your own needs when you upgrade your home: How many rooms would be enough if you are planning to grow your family? Are there good schools nearby? How accessible are hospitals from the property? Will you need a parking space?
A real estate agent can help you locate the properties and areas most likely to fit your needs when you upgrade.
Calculating the costs of upgrading
Other than the larger mortgage costs, you will notice quickly the out-of-pocket responsibilities of owning a larger home. You are likely to pay double the bills, increased council rates, and have more maintenance issues to attend to.
The entire process of purchasing your home will also increase with your property price. The 7–11% worth of costs you incurred when buying and selling your first home at say $250,000 would have been much less than the costs of buying a $600,000 home.
When you purchase, you will also notice the increased cost of stamp duty. Since this is your second (or even third) time buying a home, some of the state and territory support that will help reduce the costs of buying might not be available to you anymore. Straight away, that will eat into the equity that you have from the sale of your previous home.
Other costs of upgrading include:
costs to kick start your power, internet, phone, etc
costs of your time arranging for the transfer
possibly more lenders mortgage insurance (LMI)
new furniture and fittings to fill the additional space
Factoring in mortgage costs
Arranging a larger mortgage will occur through the same process as a regular loan, but your borrowing capacity and risk to the lender will need to be re-assessed. This is especially so if you want to borrow at a high loan-to-value ratio (LVR) of over the 80% mark. In many ways, it is like starting again – just with a higher deposit in hand.
Your history as a borrower will unquestionably affect your success as an upgrader. Raising a family can impact your ability to keep a clean credit history and could prevent you from taking a smooth ride into a bigger home.
If you are applying for a big home loan combined with a high LVR, you would want to be squeaky clean as your lender would take into consideration your history of paying off your debts. People do not realise that the way they conduct their entire financial situation and accounts will affect everything going forward
The key to upsizing is budgeting and understanding your increased obligations to your lender — make sure that you are not overstretching yourself and can meet the higher mortgage repayments.
There are many budget planning tools that can help you —they factor in things like your electricity bills, kids’ school fees, and others to determine your budget. Lenders do not ask for proof of a strict budget like this, but it can help to give them confidence with an application for the increased loan amount.
Interest rate uncertainties are also something you should consider when you upgrade and apply for a home. Your new rate will often tell you whether you can afford to upgrade a home or not.
This makes it a must for you to be more realistic with your asking price for your existing property — anything on top of your sale price is a bonus.
If you have an inflated view of the value of your existing home before you upgrade, you may get yourself into hot water purchasing a new property before selling the old.
There is no guarantee that there will be no more rate rises next year, so prepare for another few percentage increases on your mortgage interest rates and work on a higher buffer. Now is not the time to be stretching yourself.
Finding the right home loan
As far as your options for loan products go, the process will be the same as the first time you applied for a home loan.
You will benefit from going to a broker who you trust and who will work hard to meet your wants and needs for a home loan. Use your own experience being a homeowner and make sure that the final product you choose will work effectively for you now as well as into the future.
If you are looking to re-assess your home loan product it is worthwhile considering a professional package — these are generally used by homeowners who want a reward for borrowing large sums of money, usually over $150,000.
While they used to be restricted to high-income, low-risk ‘professional’ borrowers such as doctors and lawyers, professional packages are now available to most borrowers.
Most professional packages have the following loan features:
no application fees
no monthly or ongoing fees
no annual fee for credit cards
discounts on home and personal insurance
discounts for financial planning
having all home loans under the one package for one yearly fee
However, it is worth noting that the extra perks and interest rate reductions will cost you in yearly fees. Professional packages will incur a yearly fee of between $350 and $750.
It is best to seek expert advice and weigh up the benefits versus the annual fee to make sure your professional package works well for you.
Determining the best financial strategy when upgrading
If you have bought and sold at the same time, and the proceeds from your sale is part of the transaction for the purchase of the new property, your lender will arrange for the money to go directly to the transaction of that property.
At this point you can either continue with the same home loan and simply top up the borrowing amount, or refinance to another lender.
If you are happy with your current loan and have a portability feature – which allows you to transfer your mortgage to another security – you can continue on this loan taking on the extra borrowings to cover your new purchase.
One month after the settlement of your new home you will begin making your new repayments.
Increasing your existing loan will give you access to additional funds while keeping your debt altogether in the one account, with one repayment amount and schedule. You can also save money on establishment fees, stamp duty and other costs associated with setting up a new loan. If you apply for an increase online, you will also save time.
Another way is to pay out your home loan and refinance to a new lender — if you go this route, the sale proceeds will pay out your old mortgage at the settlement of your existing home and anything left over will go towards decreasing the amount you need to borrow for your new home.
There are ways that your real estate agent, solicitor, and lender can work together to ensure an easy transition from one property to the other. If you have not found the property you want to buy yet, you’ll park the money somewhere and pay off your current loan or park it in an on-call deposit account.
Before refinancing to a new lender, consider the cost of doing so. While refinancing can open your eyes to interest rates that are often 0.7–1% lower than your current rate, the process can also cost thousands of dollars. When exiting your existing home loan, you might be hit up for deferred establishment fees, exit fees and discharge costs.
Then you have got the establishment costs to set up your new mortgage – this is usually around $700 to establish a new loan – and then pay for lender valuations on your new home.
Of course, if you are borrowing more than 80% LVR of the purchase price of your new home, then you will also be hit for LMI.
If you do not want to take a high LVR home loan when upgrading, you might want to consider liquidating any other assets you might have.
This might include your investments in the share market or even that second car that you bought two years ago but isn’t being used enough to justify the extra costs such as insurance, registration and car service.
If you are still over your limit for the type of home you want, it is time to consider looking further out of your preferred area in order to afford that home you want.
Often being one or two suburbs away from your key area can make a huge difference in price. You might be sacrificing on your location, but you will find that you are close enough to the major resources, amenities, and lifestyle factors of your top choice anyway.