Top Strategies for Smarter Mortgage and Investment Decisions

In this episode Kan and I explore mortgages, property investments, building wealth, and everything in between. 

We discuss how to avoid emotional pitfalls in financial decision-making, the benefits of buying your first property within your first few years of working, and the need for a solid debt management plan. 

Kan and I also cover key considerations for determining mortgage affordability and stress the importance of “sensitivity analysis” for navigating financial uncertainties.

Connect:
Website: https://www.inkosiwealth.com/
Facebook: https://www.facebook.com/iamSalenaKulkarni
LinkedIn: https://www.linkedin.com/in/propertystrategist/
YouTube: https://www.youtube.com/c/FreedomWarrior

TIME STAMPS:

00:00 – Intro

01:11 – The Exciting Path of House-Hunting and Financial Planning

05:50 – From Negotiation Mind Games to Genuine Deals

09:28 – Challenging Misconceptions and Embracing Leverage

15:53 – Understanding Financial Velocity

23:07 – Lifestyle vs Financial Reality

28:46 – Exploring Options for Young Investors

33:50 – Blueprint for Smart Real Estate Decisions

39:48 – Realistic Approach to Property Investment

46:50 – Outro

The journey of buying a home is marked with excitement, anticipation, and many essential considerations. 

I recently sat down with my friend Kan to discuss his experiences and insights into house hunting, which offers valuable lessons and insights for potential homebuyers. 

Here’s what we unearthed in our conversation.

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The House Hunting Journey

Kan is currently on the cusp of getting pre-approval with a phenomenal rate of 5.97%, a great P&I variable with ANZ.  

He mentioned that this journey is laced with anticipation but also filled with excitement, especially when considering potential offers and auctions.  

During our conversation, we delved deep into the balancing act between what the bank is willing to give, what one can afford, and what one is willing to pay. 

This spectrum is crucial for prospective homebuyers to understand, as it significantly impacts one’s financial comfort and lifestyle.  

For instance, if your mortgage consumes 70% of your income, how would that make you feel?  

For some, such a financial commitment may be overwhelming, while it could be a manageable endeavour for frugal individuals.

Kan is candid about his approach, noting that his potential mortgage repayments would be roughly 70% of his wages, excluding dividends from other assets. 

Despite such a significant commitment, he and his wife, Iris, find it within their grasp after considering their frugal living and careful expense management.

Future Financial Changes and Risks 

Kan and I both acknowledged the importance of trading out of your current financial situation, considering prospective rate rises, and adjusting to evolving economic landscapes.

You must be conservative and consider factors that may not stay static while forecasting your financial future. 

Being cautious and considering worst-case scenarios enables more responsible and informed decisions, forcing you to manage money more meticulously.

Risk Tolerance and Financial Elasticity

How far you are prepared to push yourself depends significantly on your income’s elasticity and risk tolerance. 

If your income is fixed with no buffers or additional earning capacity, playing a more conservative game is usually more comfortable and safer. 

Kan, having the flexibility to generate dividends and the wisdom to implement a debt management project, felt comfortable with a well-considered level of risk. 

Having a good amount in an offset account and savings buffers also played a role in their risk assessment, allowing them to be ultra-conservative and prepared for unforeseen circumstances.

Property Options and Negotiations

Kan also opened up about his experiences with property options and the learning curve he is navigating. 

He has been exploring various properties and finding the negotiation and decision-making process particularly interesting, especially since this is his first solo acquisition.

Dealing with different agents has highlighted the importance of being forthcoming and straightforward. 

He shared instances where being honest about his budget yielded frank responses from agents, enlightening him about his standing compared to other offers.

Our discussion also emphasised the importance of transparency and establishing long-term relationships in property dealings. 

We agreed that every potential buyer is a potential seller, and how agents treat buyers reflects their long-term service quality. 

Being transactional versus establishing relationships is a fundamental principle in property dealings and life in general.

The Power of Real Estate for the Young Workforce

I am passionate about empowering people, especially those just entering the workforce. 

One of the primary pieces of advice I advocate for is buying real estate as early as possible. 

The motivation behind this is clear: I’ve come across far too many individuals reaching retirement without having invested in real estate, leading to potential homelessness or severe dependency in their later years.

But it’s not just about buying any property but finding the ‘right’ one. Whether it’s a home to live in or purely for investment, the objective remains the same – to feel confident about the decision and ensure it’s well-informed.

The Real Estate vs. Share Market Debate

Now, consider this: you invest $50,000 in the share market, and if you’re lucky, after a decade with a 10% annual return, you end up with a significant lump sum. 

Contrast this with real estate, where, given that most banks are generally willing to lend 80% on properties, that same $50,000 could be used as a down payment for a $250,000 property.

If we play out the scenario with the same 10% growth rate, the returns from the real estate investment can be five to six times more than the share market. The game-changer? Leverage.

While figures like Dave Ramsey caution against debt, real estate’s leverage can be immensely beneficial if managed wisely. 

With property, you don’t necessarily need the entire value upfront; a fraction can help you own a substantial asset. If harnessed correctly, this concept can amplify financial results exponentially over time.

Velocity in Real Estate

Kan brought up an interesting term during our conversation: velocity. He shared his personal journey, detailing how he’s leveraging the equity from one property to finance another. 

The advantage of understanding tools like offset accounts, which can reduce the required upfront, further accelerates one’s property acquisition journey.

But you have to understand the limitations set by the banks, especially concerning your income. 

While the potential to borrow might be high, the practicality of servicing those loans becomes a predominant concern. 

Especially in uncertain times with fluctuating interest rates, you have to maintain flexibility in financial planning.

The Importance of Sensitivity Analysis

Real estate is undeniably attractive in a booming economy, with rising markets allowing for more aggressive financial strategies. However, in uncertain times, one should tread with caution.

You need to be rooted in the present economic scenario rather than overly speculating about the future. This doesn’t mean we shouldn’t be prepared or informed. 

Instead, you can gauge your capacity to withstand market downturns by applying a sensitivity analysis to financial decisions.

Presently, the world is witnessing significant changes that could swing the economy in various directions. 

Three or four years ago, the situation was different. Thus, while leveraging to grow wealth is vital, ensuring that if unfavourable circumstances arise, you remain afloat is equally important.

The recent cases of individuals losing homes due to unforeseen economic downturns during COVID-19 is a testament to the necessity of this cautious approach. 

Investing without considering potential risks, like rising interest rates, can lead to financial catastrophes.

Banks, Risks, and Our Borrowing Capacity

When banks assess our borrowing capacity, they add a buffer to it. During the pandemic, this buffer was around 2.5% to 3%. 

Banks are safeguarding against potential risks in the market. Interestingly, while banks are playing safe, many individuals are not, and that’s where the real question arises.

Banks’ assessment is based on the premise that even if the rates went up by about 2.5% or 4%, we should still be able to service our loans. 

But why do we often hear about people struggling financially if that’s the case? 

Are individuals genuinely facing challenges, or are they merely witnessing a decline in disposable income? 

The True Struggle Behind the Facade

The financial struggle is very real for many. People often bite off more than they can chew, especially when it comes to housing. 

Many dream of owning a lavish house right out of the gates without considering the long-term implications.

Kan humorously pointed out that maybe we should be a little embarrassed about our first property. And I completely agree! 

Often, there’s an unnecessary pride associated with owning a grand house or car. 

But if I had to start from zero today, I’d prioritise securing my financial future over keeping up appearances. This means going for more modest choices, like a one-bedroom unit, which could be seen as a financial safety net.

The Dilemma of Younger Generations

For younger individuals starting their financial journeys, the situation seems even more daunting. 

As Kan rightly pointed out, properties have become outrageously expensive. 

With all the added costs, like stamp duty, inspection reports, and more, how can an average wage earner afford a property?

There’s a prevailing notion that land is the ultimate investment, leading many to overlook apartments or units. 

But, with soaring house prices, especially in places like Sydney, younger generations have limited options. 

Should they opt for a one-bedroom unit or continue chasing the land ownership dream?

The Real Estate Growth Paradigm

Everything in real estate grows over time; no property stays still. 

Generally, land and houses tend to appreciate more aggressively than units. 

When considering an investment, the location and the potential growth are critical aspects to consider. 

But, the immediate concern for many young people is how to get off the rental ladder. 

The appreciation rate is not a priority for those who simply desire to own a home to live in and escape the perpetual cycle of rent.

The Intermediary Step in Property Investment

During our conversation, Kan brought up a significant point, highlighting how people tend to transition from renting to seeking the best possible investment property, often overlooking the intermediary step of securing an owner-occupied residence. 

He has found himself contemplating whether a good investment property could also serve as a satisfactory living place for him and his partner, Iris.

The realisation dawned on them that even a two-bedroom apartment could serve their immediate needs, making the pursuit of a house not as urgent.

Setting Expectations Right for First-time Buyers

Setting the right expectations for the first piece of real estate you buy is crucial. 

Many young couples live in rented three-bedroom apartments, lamenting that they will never be able to afford to own a home. 

But they could potentially afford a more modest unit based on their income. This disproportion between desire and reality often causes delays in property purchases. 

For instance, a young, well-paid professional I met delayed buying real estate, fixated on owning land and dismissing units due to a misconception that they depreciate. 

Spurred by the desire for a certain standard of starting point, this delay has considerable opportunity costs.

Defining Purpose in Property Acquisition

I want to emphasise the concept of a property purpose tree, outlining four reasons why one would buy real estate:

1. Cash Flow: Investing in a property primarily for revenue.

2. Growth: Investing with an expectation of future value appreciation to increase wealth.

3. Profit: For instance, buying to develop or flip for a profit.

4. Personal Reasons: Buying for personal use, to support family and friends, or as a holiday house.

When the purpose of acquiring a property is clear, it aids in refining the details surrounding expenditure and other variables. 

Unfortunately, many own underperforming properties without a clear understanding of why they bought them in the first place, leading to financial strain and regret.

The Initial Real Estate Purchases 

Aiming for a phenomenal real estate deal that will make you rich instantly is generally unrealistic thinking for a first purchase. 

If you’re younger, I advocate buying your first piece of real estate within three years of entering the workforce, focusing on affordability. 

Regardless of your investment preferences, this approach serves as a backstop, allowing you to get off the rental ladder. 

Balancing Emotion and Logic

People often buy with emotions and justify with logic. 

Especially when purchasing a first home, emotions tend to cloud our judgment. 

So, you need to understand your financial metrics because discerning the ceiling and floor for your decisions becomes challenging without a solid grip on your numbers.

It can also lead to potential overcommitments and future struggles, especially when the market doesn’t remain static, which it never does.

The Importance of Pragmatism

Being pragmatic about why you are buying and understanding the value of the purchase to your future self is crucial. 

Buying a modest one-bedroom unit now might lack glamour, but it acts as a safety net, protecting against potential future financial disasters. 

The escalating number of individuals finding themselves in dire straits due to poor decisions accentuates the necessity of pragmatic and rational investing.  

As someone privileged to be friends with top investor strategists, I’ve learned that rationality and a lack of emotion in investing often lead to more success, devoid of the influence of fear or greed.

Real Estate as a Fundamental Need

At its core, real estate serves to fulfil a basic human need—a roof over one’s head. 

However, the propaganda surrounding it has skewed this perception, portraying property as a rapid wealth accumulation tool. 

Stripping it back to its essence and understanding the ‘why’ behind buying property can lead to more informed and content decisions. 

If a property serves its purpose and you are happy living there, everything else is a bonus.