Self-employed borrowers often come up against the challenge of not being able to present a raft of payslips and tax returns to back up their loan applications. But this need not stop you buying your dream home or an investment property.
Many lenders offer low-doc loans for self-employed borrowers who can’t hand over payslips and employment records. This means that, rather than the usual documentation, you prove your ability to service a loan using bank statements, declarations from your accountant and financial records.
Of course, as with any mortgage application, you must still prove that your income outstrips your spending and you can service the loan. Getting this right is more than presenting a lender with a few quick sums on the back of a napkin; it takes solid preparation.
Here are some quick tips:
- Reduce debt: pay down credit cards and personal loans, and be sure to lower the credit limits as they are
paid down, as lenders assess the total credit available to you as a potential debt level, not just the
amount you owe.
- Speak to a finance broker about how the structure of your business and your taxable income will impact your ability to borrow.
- Do your taxes when you should, and always pay your tax assessments on time.
- Save. Saving a deposit is obviously important, and showing your ability to live within your means and save
is as well. This is key to serviceability – you want to show at least a six-month history of high income
and low expenses.
- Go to a finance broker, rather than a bank. Finance broker have access to specialist lenders that assess
applications on a case-by-case basis and tailor their products to self-employed borrowers and contractors,
while many bank lenders do not.
Low-doc loans do differ from standard loans in a few ways, apart from the application process. Lenders offset the extra risk they are taking by lending to a self-employed borrower or contractor by charging slightly higher interest rates and placing some extra rules on loan-to-value ratios (LVR) and insurance requirements.
Most lenders will also insist on an LVR of no more than 80 per cent – meaning that under no circumstances will they lend more than 80 per cent of the property value, as assessed by the lender.
The debate on whether it’s better to invest in residential over commercial continues to divide investors.
Proponents of investing in residential say it’s the least risky option, while those who are in favour of commercial would argue that commercial is safer due to its cash flow potential.
Many investors of course don’t choose between the two: They look at both to see how it may fit their portfolio.
The case for investing in commercial property
Higher returns on investment
The average rental return for residential properties across Australia’s capital cities is 3.6% according to CoreLogic RP Data. In contrast, it’s not uncommon to get anywhere between 8% and 12% gross rental yield for commercial properties.
While a residential tenancy can turn over every six to 12 months, a commercial tenancy can be anywhere between three and 10 years. Tenants also tend to stay longer especially when they’ve invested some capital customising the premises.
No rates and other outgoings
Unlike residential properties where landlords are liable for paying rates, such as council, water and body corporate, commercial tenants often pay these outgoings for you.
Commercial properties at the lower end of the range are generally lower priced compared to residential properties so you need a smaller capital outlay. For example, a car park may cost $80,000 as opposed to $400,000 for a small bed-sitter. Investing in commercial property could be a great way to get into the market sooner compared to saving for a residential property investment.
Potential risks associated with Commercial Property
Commercial properties are sensitive to economic conditions
When the economy is strong, businesses flourish and demand for commercial properties generally rises. But when there’s an economic downturn, demand for commercial premises usually falls.
It takes longer to find a tenant once it becomes vacant
While commercial properties attract long-term leases of three to five years or more, it can take longer to find a tenant. It’s not uncommon for commercial properties to have long vacancies, which means you will need to cover all the cost during this period.
It’s vulnerable to changes in supply
Changes in supply conditions can create potential problems for investors. An increase in new property coming on the market in the same area creates a threat to existing tenancies as tenants may look to upgrade or expand. Strong supply can also reduce potential yields.
Changes in infrastructure in the area can be detrimental
While major infrastructure changes in the area can attract commercial investments there, it can also lure tenants away from existing areas and older commercial premises. This could result in your property becoming vacant.
Values can drop sharply
The value of commercial properties closely correlates with the lease on the property. If a commercial property becomes vacant, or the lease is about to expire, the value of the property would generally be expected to fall. In contrast, any price falls associated with residential properties are generally less dramatic and usually happen progressively over a longer period.
So, should you buy commercial or residential?
It depends where you are now in your portfolio. If you’re looking to diversify and want a cash flow injection, a well-located commercial property might be a good addition. Just make sure you do thorough due diligence and understand the risks involved.
By: Nila Sweeney
Some of the most important decisions a business owner will make are about their premises: whether to rent or buy, where to base the business and even the style of the property are important to get right. For those with a self-managed super fund (SMSF), there is one more option to consider: landing business premises and an investment property at the same time.
Figuring out whether buying your commercial premises through your (SMSF) is an option that’s suitable for you is imperative to the success of your investment.
There can be many gains through purchasing commercial property through your (SMSF), including creating a certain level of freedom by smart use of resources.
“It frees up capital for the business owner. They are unlocking super to do more for them,” explains a finance specialist.
Further to this, the property is protected against insolvency. Depending on the type of business, this can be particularly appealing.
“There’s a tremendous level of protection of assets within super, so it ticks the asset protection box for a lot of SMEs that may be subject to litigation due to the nature of what they do,” the specialist says.
Then there are the tax benefits.
“While it is in accumulation phase, income tax is only $0.15 in the dollar. In retirement, as the law stands, its zero,” says the industry employee. This means that the money accumulated in an SMSF through the investment does not get taxed.
On the flip side, there is an absolute element of responsibility on compliance matters. You are the trustee of an SMSF and you need to understand what those responsibilities entail.
You must pay commercial rates for rent through a prearranged lease agreement and, although having a protected asset is great for some businesses, it also means that equity is locked within the fund. You can’t take earnings elsewhere.
Having a SMSF means you can’t give all this work to someone else to do for you, but you can seek advice.
At Brickhill Financial Solutions we work with accountants and financial planners to form an experienced team to assist you with your requirements.
Give us a call on 1300 252 088 to find out more.
Many people dream of running their own business but four out of five never do it. If you’ve got a good idea, develop a business plan, then talk to an accountant or business adviser about your finance options.
Your business finance or commercial finance options include:
- Business loans
- Commercial loans
- Lines of credit
- Home equity loans
- Franchise funding
- Venture capital
How much money does your business need?
A lot of small businesses fail not because they’re offering a poor product but because they run out of cash. How much money do you need for your business? Not just to pay for set-up costs but to cover your living expenses while you get established? Don’t even think about going into business until you’ve done a detailed business plan and cash flow projection. Otherwise you’re planning to fail.
Business finance vs commercial finance?
Both business finance and commercial finance are generally secured by either commercial or residential property. However, business finance is probably more associated with small business or SMEs (Small to Medium Enterprises). Commercial finance tends to relate more to the financing of commercial property.
Business loans are where the finance is for business purposes and the interest cost associated with the loan is tax deductible against the profits of the business. Small business operators provide security by way of residential or commercial property.
A commercial loan is where the finance is for the purchasing of a commercial property, commercial property development or business purchase.
Similar lending requirements apply to both business and commercial loans. Commercial loans are secured either by commercial or residential property. With larger corporate borrowers, lenders can rely purely on the assets of the company as loan security e.g. trade debtors.
Lines of credit
With a line of credit, you’re given a borrowing limit by the lender and you draw down money – up to that limit – as you need it. The advantage of a line of credit is that you only pay interest as you draw down money. The disadvantage is that the rate of interest may be higher.
A line of credit should be “fully fluctuating”. ie It should only be used as a short-term financing option rather than for the purchase of major commercial plant or equipment.
Home equity loan
Many people have limited cash reserves but have built up equity in their homes. That is, their homes are worth more than they still owe on their mortgages. You can tap into this equity to help finance your business or investment by taking out a home equity loan.
Start-ups versus existing businesses
If you’re thinking of running your own business, you should be aware that it’s generally easier to get business finance for an existing business rather than a start-up. Lenders tend to view start-up businesses as inherently risky whereas an existing business has a track record they can review. However, there are business finance options for start-ups.
Franchise finance or franchise funding
To meet an emerging need, new business finance products have come onto the market to help people buy franchises and equipment. Lenders can be more inclined to provide franchise finance because, while your business might be new, it could be based on a proven formula.
Venture capital (VC) describes where a lender gives you funds in return for a stake in your business. The further your idea is from fruition, the less likely the venture capital or VC firm will be to give you the money, and the more equity they’ll want in return.
To discuss your business finance options, call us on 1300 252 088.
Small business owners often don’t have the funds available to purchase business assets outright without impacting their cash flow. Yet ownership can be attractive. So should you lease or buy?
You may not always have timely access to cash to buy business assets outright, or you may have more productive uses for your funds. There’s a range of options when it comes to buying and financing business assets.
Equipment loans: If you want to immediately own a business asset such as key plant or equipment, then you might opt to take out an equipment loan. The interest payable on the loan generally attracts a tax deduction.
HP agreement: A hire purchase (HP) agreement may be more suitable if you ultimately want to own the asset, but don’t want to tie up available cash. With HP agreements, the bank or financier purchases the equipment and initially hires it to your business for an agreed period of time.
Finance lease: A finance lease can also ultimately result in ownership of the asset, whereby the bank initially owns the asset and agrees to lease it to you for a prescribed period. The rental payments on a finance lease can be structured with a residual value balance, allowing you an option to purchase at the end of the agreement. This has the advantage of making the initial cash flows more manageable.
Or you may simply choose to lease an asset for an agreed term, which can have its own advantages, such as flexibility and certainty of cash flow.
Should you buy your premises?
Potentially one of the most significant decisions facing a small business is whether to buy or lease business space. Owning commercial real estate can be appealing; the premises may become a significant asset for your business, bringing potential for capital growth whilst negating the need to pay rent.
Owning your premises may also bring a welcome feeling of security. It also means you have control over how the space is laid and fitted out.
Purchasing your premises may also allow you to borrow against the asset in order to fund business expansion, while in some circumstances there may be advantages to purchasing business premises as part of your superannuation fund.
Disadvantages to ownership
One of the hurdles to purchasing of business space is the large cash injection that is typically required. The lender or mortgage company may also require a personal guarantee, which could put your home at risk in the event of business failure.
Naturally this could place additional pressure on your business and its cash flow; and not only at the point of purchase, since there will likely be fit-out and set-up costs to account for.
Cash flow is also less certain with ownership, as borrowing costs may be variable. The owner also retains responsibility for other variable costs such as rates and repairs.
Ownership may also present reduced flexibility if your business needs to relocate, upsize or downsize. If your business is specialised in its nature or operations, it may also be difficult to quickly sell a niche asset.
Finally, the injection of cash into a premises purchase can have an opportunity cost; it could reduce the potential for investment in other productive parts of your business. Small business owners need to question whether they should focus on their core business competencies instead of real estate ownership and fit-out.
For younger businesses and start-ups in particular, flexibility gained through a shorter-term lease may be preferable until the business is established.
Tax and structure
It is vital to understand all of the different tax and ownership structure implications before making financial decisions. Therefore you should consider engaging a licensed taxation accountant or financial planner to advise you where appropriate.
For example, the small business owner who purchases a business asset may be able to claim depreciation of fixtures and fittings, but when leasing assets the rental cost may instead attract a tax deduction in the financial year to which the cost relates.
Different purchase or financing strategies may be appropriate for various business asset classes. For example, where the employees of a business use cars, a novated lease agreement between the business owner, employer and financier may offer flexibility for the employee, as well as reduce administration costs.
On the other hand, in the fast-moving world of information technology, a small business may choose to lease assets for shorter time periods, to reduce the risk of obsolescence since some IT equipment dates quickly.
Cash flow needs
The decision whether to rent or buy business assets will ultimately be decided by the type of business you operate and which method provides opportunities to optimise your cash flow.
Consider how and when your business assets will generate cash for you. As a rule of thumb, it does not make sense to finance an asset for a term longer than its useful economic life.
Also consider your cash flow. Do you have predictable and steadily consistent cash flow, or is your business subject to wide seasonal variations? Ideally you need to prepare detailed forecasts to compare scenarios and plan accordingly.
Choosing how and when to purchase assets are key financial decisions and expert advice should be thought.
By Peter Wargent MYOB