Last month I said that lending policy had normalised… How wrong was I? Since making that announcement, the Westpac group (Westpac, St George and Rams) have announced major changes to Low Doc loans and want to see Business Activity Statements with all new applications.

Now I know I’ll get chastised by investors, but in my opinion this is a good move. The fact is Low docs have been abused by brokers and consumers for too long and I can comfortably make this claim because we fielded many phone calls from investors we simply couldn’t help because of decreasing property values and the fact that they were too highly geared in the first place. With the new rules in place, if you want a fair interest rate on your low doc loan, you need to provide BAS statements for a 12 month period. There are still Low Doc loans about that don’t impose this BAS requirement, but the interest rate reflects the risk, with the average rate on one of these packages currently at around 6.87%.

Now on to this month’s gossip that we are hearing around the traps…

• NAB has been given the all clear from the ACCC to acquire the Challenger group
• The Bank of Queensland is still for sale
• Suncorp still cannot find a buyer

To keep you informed and in the bank loop, so to speak, here’s a snapshot of some the lending policy changes we’ve seen recently;

Adelaide and Bendigo Banks

With rising interest rates, these two banks are well positioned to reclaim some market share this new calendar year, as they are 96% retail funded by depositors; meaning as rates rise, so too will their margins ahead of deposit rates. They have reported that their focus this new calendar year is on growth through home lending via their third party and direct channels. Let’s hope they can create some competition for the majors.

ANZ

ANZ have made a change to their professional package, reintroducing the 0.7% discount if you borrow over $250,000 in aggregated borrowings. Whilst they are saying this is a special offer, the last special they ran lasted for 2 ½ years!

Bankwest

Bankwest withdrew their rate tracker product, which guaranteed to be 0.9% below the 4 majors for the first 3 years before reverting to their basic discounted rate. This has been a popular product, but due to poor service levels in processing the loan wasn’t supported as well as it probably deserved.

ING

Released their online everyday account (Orange Everyday) which will become very popular; it doubles as a Visa debit card and soon to be announced offset facility. There are also some very attractive features like access to 26,000 ATM’s in the country fee free (as long as you do cash outs of more than $200). In addition, there are a bunch of other attractive offerings including a payment from ING to you, the customer, if you withdraw funds via EFTPOS. ING finally have a full banking solution for investors. Look out majors here come the Dutch!

Actually I’m so impressed with it that I’ve opened one myself! If you want to know more about this facility, please click here.

NAB

I usually don’t have much to write about the NAB because they are a relatively bland lender when it comes to investor offerings, but this month they have brought something out which is of interest to the beginning investor. If you borrow over $250,000 and keep your Loan to Value Ration at or below 75% they will give you 0.8% off their standard variable rate. Usually this sort of “extra” discount is reserved for someone borrowing in excess of $1,000,000. Well done NAB!

St George / Westpac

The Westpac group tightened Low Doc qualifying criteria by requesting Business Activity Statements for all new loans where self certification of income is used. Unfortunate, but it is a sign of the times. If you need a low doc loan there are still options available outside of the majors.

Rams

Increased their rate by 0.35% off the back of the RBA (everyone else just went the 0.25%). The media gave them some negative press, but neglected to mention that they still have a cheaper rate than the majority of lenders! No more low docs in company names over 60 % and all require BAS’s.

Collateral

Last month we discussed the second “C” of credit – Capacity and this month we’ll take a closer look at the third critical “C” – Collateral. Put simply, collateral is what you offer the bank as security over the loan you are applying for and could be a term deposit, a business (as security for a business expansion loan) or commercial or residential real estate, to name a few examples.

All of these represent potential collateral that you can offer your lender as security, in the unfortunate event that you cannot honour your repayments.

The type of collateral you present to the bank will dictate the lending percentage they will approve against that security for your new loan. This is known as the “Loan to Value Ratio” or LVR. Essentially, the lender will assess the security you are offering over the loan (generally by sending out an independent valuer to conduct a sworn valuation) to determine whether its value is sufficient to cover your required borrowings, as well as how easily they can liquidate (or release) it to recover their debt if necessary; the latter being of the most significance to the lender because let’s face it, that security is their only fall back option if you default on your loan and they need to recoup their loss.

When a valuer visits one of your properties to make their assessment, they are not just putting a price on it. Rather, there are a number of factors taken into consideration when they write their report to the lender, including;

• recent comparable sales that have occurred in the area,
• the likelihood of the value of your property reducing over a given time.
• the marketability of the property if a sale is required
• overall location and neighbourhood and how these factors could impact on resale
• a risk rating
• any environmental issues that could impact the value of your property over time

As you can see from the above list, the valuer’s assessment is largely seeking to determine how well the property offered as collateral would retain its value, along with its potential for resale over the long term. From the valuer’s report and depending on the property’s liquidity, the bank will determine its acceptability as sufficient collateral for the loan you are applying for. However a word of warning – not all lenders like all forms of security and many have certain preferences.

Because liquidity is really the key to the lender’s acceptance of any type of collateral over your loan, let’s consider this factor in more detail. The term deposit you offer as security would be able to secure a loan of equal value because it is highly liquid – in other words the funds can be released and secured by the lender relatively quickly. On the other hand, that small student accommodation you’re looking to buy and offering as collateral may only be able to support around 50% of the loan because it is perceived as a risky investment that could be difficult to resell given certain market conditions. All of this is about liquidity.

So how is liquidity determined? Here are some of the common factors considered by lenders when assessing the liquidity of the collateral on offer by loan applicants;

• How many comparable properties have sold in the last 3 months? In other words – is the area popular with buyers and therefore do properties move within a reasonable amount of time on the market?
• Can the market absorb the sale in a timely manner?
• Is this a common type of property for the area or is it an orphan that could take longer to move?
• Are there buyers willing to purchase this property?
• How might the local economy impact on the property’s resale potential? Eg. Regional areas that have only one industry propping up the local economy can be seen as carrying higher resale risk and less liquidity by the banks.
• Market segment conditions, ie. what segment of the market is this property in and how is that segment performing overall?
• What is the state of the market at the time of valuation – buoyant, balanced or declining?
• What is the predicted state of the market for the next 2 to 3 years?
• What other properties of a simular nature are coming up for sale? Ie. A large release of units in a CBD area?
• What condition is the property in? Does it need major repairs, is it tenantable, etc?

Collateral is one of the easier “C’s” to grasp because there are some general rules of thumb when it comes to determining loan to value ratios and it is quite a simple issue to discuss with your lender. Basically, all you have to ask of your bank is, “Do you lend against this type of security and if so what LVR would you borrow up to?”

So what are those general rules of thumb that the bank considers when it comes to collateral assessment? They include;

• Term Deposits – up to 100% equal loan to value ratio
• Median priced residential real estate – up to 95% LVR
• Fixed and floating charge over a franchise business – around 50 to 70% LVR
• Commercial office space with a tenant – up to 70% LVR
• Single student accommodation – around 50% LVR
• Speciality security like gymnasiums, caravan parks, service stations, hotels, rural holdings, vineyards and undeveloped vacant land is all assessed on a case by case scenario, but as general rule – maximum funding of around 50% LVR

With the radical shake up that has occurred within the lending market off the back of the global economic crisis and last year’s mortgage meltdown in the US, banks are undeniably beginning to reduce their appetite for risk and tighten their purse strings. As a result, we have recently seen a marked reduction in the types of security they will accept and a much more cautious assessment of collateral offered by finance applicants. An example of this is properties held in regional, single industry towns where the LVR has been reduced in many instances from 95% to 90% or sometimes even 80 to 85%.

The bottom line is; the more attractive, sellable and marketable and therefore the more liquid your collateral is, the more likely the bank is to say yes to a higher loan to value ratio and your overall application.

As I present each of these four critical “C’s” of Credit, you are probably beginning to realise that the initial 3 “C’s” – Character, Capacity and Collateral all play an important role in your loan application. Next month, I’m going to cover the final and fourth “C” of Capital. This is the one “C” that is the most negotiated within your loan application and if you are deficient in any of the other three “C’s”, Capital represents your bargaining chip to get the bank to buy your deal.

Like the idea of revamping an entire block of units to make a tidy profit? Chris Gray, TV property expert and CEO of Empire Property Portfolio, explains how he upped the investment stakes by teaming up with five like-minded individuals who now stand to make a whopping $1 to 2 million profit, just by thinking outside the square.

Investing in a block of units that have the potential to add extensive value through cosmetic refurbishment is often the dream of many aspiring property investors. But the reality can represent a very costly exercise. If this is your ambition though and you have the tenacity and drive to give it a go, there is a way to get into the lucrative unit development game without breaking the bank.

The inescapable fact is that the cost of buying a block of units on your own can be prohibitive unless you have a lot of cash to begin with, especially if you intend to purchase in a blue chip area. In order to overcome this obstacle, teaming up with other investors in an arrangement whereby each of you buy individual units, can be a great way to go.

However the challenge is finding investors who want to buy into the same block as you and have the economic capacity to not only acquire the investment, but renovate it as well. Then of course you have to find someone with the right expertise to manage the entire project and minimise budget blowouts.

The trouble with most blocks of units that hit the market is that they have not yet been strata titled, which can make such an investment more difficult and risky, as each investor cannot buy their own unit on an individual title. This increases the probability of ending up in a scenario whereby multiple owners of the one apartment block all have different agendas; potentially creating costly and time consuming issues when it comes to determining exactly how to go about refurbishing the project.

If you happen to be lucky enough to find an elusive strata-titled block, it is likely you will have to compete with cashed up professional builders and developers who are attracted to such “diamonds in the rough” and have the financial capacity to renovate and on-sell these properties at a fraction of what it will cost the individual (or team of) investors.

The upside of overcoming these initial hurdles is that rundown unit or apartment blocks often have massive potential for improvement. There are endless possibilities, depending on what the council will allow you to do and which professionals you hire to manage the process on your behalf and at the end of the day substantial profits can be generated.

Following is a real life case study that illustrates exactly how every day investors with an average purchasing capacity can get into the unit block development game and in doing so, use residential real estate to create a handsome income.

Case study: Sydney unit block
In my travels as a buyer’s agent seeking properties with potential on behalf of clients, I happened to come across a block of seven units in the Sydney suburb of Coogee one day, where two of the units were listed for sale. They were on the market for $700,000 each at the time, so I dismissed them as too expensive and simply moved on.

Two weeks later though, an agent I had bought many properties from in the past and developed a good relationship with, approached me to advise that he knew a developer who owned a further three units within the same block. The developer had spent a tiring three years attempting to persuade the other unit owners to build a penthouse on the roof, but his pleas had fallen on deaf ears. Becoming disillusioned at the apparent lack of foresight from the other unit owners; he was now looking for a quick sale of his three units.

Suddenly the unit block had fresh appeal; with two units listed for sale and three potential silent sales, I saw a great opportunity to own three quarters of the entire block.

As a buyer’s agent who specialises in building property portfolios for time-poor professionals, I always have a number of clients looking for these kinds of deals, so it was fairly easy to find some common-thinking investors who had ready cash to buy into the investment as well as additional money for renovations. I made some calls and soon had one client who agreed to purchase the two listed penthouses and three others who each bought one of the units that were offered as silent sales.
When applying to make any structural refurbishments or alterations to an apartment block, if more than 25 per cent of the strata vote goes against your plans, you can’t proceed. Given that another owner in the building held two units (giving him a 26 per cent vote) I sought to make an offer on these units as well, thereby giving my newly formed investment consortium full control over the entire block.

Over the coming weeks I tried to contact him every way I could – through his strata manager, through the property manager and even via agents who had his details. After persisting for three months, I received a call from the agent who had managed to list these final two units and as they represented such a great potential deal, another of my clients bought one and I bought the other, final unit.

I hired a town planning firm to help me navigate a pre-Development Approval meeting with the council to get them onboard with our plans and discovered that another penthouse level (cost circa $1m and worth $2m+) may well be possible. They also suggested that we extend our balconies in line with the neighbouring buildings, which would not only improve our ocean views, but also increase the unit areas by 10 per cent (adding $50-100k in value to each unit). Additionally, we plan to render the exterior of the block, adding a further $25-50K in value to each unit, and increase the off street parking capacity by three to four car spaces (worth $150-200k overall) as well as landscaping the entire site.

The next step was to hire an architect and of the four I interviewed, one presented an exceptional idea. The block is L-shaped, which included a spare piece of land between two other buildings that served no real purpose. He suggested building an additional four-level block, which could host an impressive entrance foyer and three whole-level studio apartments (costing $750k and worth $1.2 -1.5m in value). Since drawing up the plans, this architect also reconfigured the car park level to increase the car spaces from 9 to 22 (adding a potential value of $650k). We are currently in the throes of another pre-DA process with council to discuss these new additions.

So essentially, what started out as two overpriced units turned into a goldmine of opportunity for six investors. And as we all own our individual units, we have each managed to acquire a very profitable little asset at a fraction of the risk (and price) that would normally come with a deal of this nature.