Using Equity to Fund the Next Purchase

One of the main ways experienced property investors grow a portfolio without needing to save a fresh cash deposit for every purchase is by using the equity they’ve already built up. Understanding how this actually works is worth doing before you rely on it as part of your strategy.

What is Equity?

Equity is the difference between what your property is worth and what you still owe on it. If your property is worth $700,000 and you owe $450,000, you have $250,000 of equity.

Not all of that is necessarily usable though. Lenders generally won’t let you borrow back up to 100% of your property’s value, most will lend up to around 80% without requiring Lenders Mortgage Insurance, sometimes higher with LMI. So your usable equity is typically calculated as 80% of the property’s current value, minus what you still owe. It is best to speak to a mortgage broker who can value your home and figure out what usable equity you have. 

Case Example: Steven’s property is worth $700,000 and he owes $450,000. At an 80% lending limit, the bank would be willing to lend up to $560,000 against the property (80% of $700,000). Since he already owes $450,000, his usable equity is $110,000, money he could potentially access to put toward another purchase.

How It’s Accessed

You generally access equity by refinancing or increasing your existing loan, sometimes called a cash out refinance, or by setting up a separate split or line of credit secured against the property. The bank reassesses the property’s current value (often through a formal valuation) and lends you the difference between what you already owe and the new, higher lending limit.

How It’s Used to Fund the Next Purchase

Rather than saving a fresh cash deposit, you use the funds released from your existing equity as some or all of the deposit on your next property. This is sometimes called equity recycling, using the growth in one asset to fund the next, then letting that new asset grow and eventually fund the one after that.

A Few Important Caveats

The bank still checks you can service the debt. Accessing equity increases your total loan amount, so the lender will reassess your borrowing capacity for the combined debt across both properties, exactly as if you were applying for a brand new loan (see my post on Ways to Boost Borrowing Capacity).

Watch out for cross-collateralisation. Some lenders will want to secure the new loan against both properties at once, which can make things messy later, if you want to sell one property or refinance with a different lender, having both tied together can complicate things considerably. It’s usually worth asking your broker to structure things so each property and its loan stand independently, even if you’re using equity from one to fund the other.

Purpose matters for tax deductibility. If you use released equity to fund an investment purchase, the interest on that portion of debt is generally deductible. If you use it for something personal, like a car or a holiday, that portion isn’t deductible, even though it’s coming from the same property. Keeping the funds and their purpose clearly separated and documented matters here (this is the same “tainting” issue that comes up with redraw facilities, see my post on Offset Account vs Redraw Facility).

The Bottom Line

Using equity is one of the most powerful tools for building a property portfolio without needing to save a fresh deposit every time, but it’s not free money, it’s still debt, and the bank still needs to see you can service it. Get your loan structure right from the start, ideally with a broker who understands how to keep things clean for future flexibility, and keep the purpose of each dollar borrowed clear for tax purposes.