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Climbing the ladder
Most realtors will tell you to sell before you buy particularly during a downturn. But what if you can’t get your timing in synch and still want to take advantage of the super-low property prices? Gillian Bullock reports
"What if you were to hold on to the two properties until the market recovered, renting one of them out to help meet your repayments. With a rental crisis in many areas, it might not be such a foolish option"
Many of us will find 2009 the ideal time to buy property but we will need to be in it for the long haul as prices are not expected to recover fast. Analysts expect property prices to bottom out in the second quarter of this year.
Despite the global economic uncertainty, the conditions in Hong Kong for those seeking to enter the property market are close to ideal. Low interest rates and subdued property prices combined with government initiatives have made entering the market easier, particularly for first-time homebuyers. In addition, prices have been sluggish across the region in the past two quarters, so a growing number of homeowners are looking to sell at bargain-basement prices.
In a falling property market one of the questions to ask yourself is should you buy first or sell first? The logic would say that selling first is the way to go as you get the higher price and then buy at a lower price. But unless you synchronise these transactions or organise an extended settlement period you could find yourself renting.
This brings with it its own set of problems including the need to move twice, organise two lots of utilities and in many cases live in a place that is of a lower standard than your home.
But those who believe you should sell first say such a strategy means you know how much money you have to play with when it comes to buying your new property.
Nevertheless, it can be tricky and it begs the question of whether you should you buy first and worry about the selling later. The key issue here is that it is not such a clever strategy in a falling market. Such a scenario would mean that you would have paid more for your new place when prices were higher but then you would get less for your old one when you sold it at a later date.
And if it’s a flat property market you may have difficulty offloading your original home. As a result you could well see yourself having to finance two properties at the one time.
The traditional way to deal with this situation is through bridging finance, which tends to carry the standard variable interest rate. Usually a bridging loan is up to six months although lenders these days appear to offer many more options such as borrowing against your existing home.
There are two potential problems with bridging finance. Firstly, your ability to service two loans and secondly your actually being able to borrow a large sum in the current credit crunch with the tightening of the criteria for borrowing.
But what if you were to hold on to the two properties until the market recovered, renting one of them out to help meet your repayments?
After all, you may have two mortgages but you also have two properties. And with a rental crisis in many areas, it might not be such a foolish option.
You can choose which home will be your principal residence for tax purposes and which you will use as an investment property. Your principal residence will be free of capital gains tax, while your second property will be subject to the tax.
It’s worth noting that you can physically move to your new home and rent out your existing one but maintain the original property’s status as your principal residence.
You will then be liable for capital gains tax on your new property but if you have bought into a falling market, chances are you may even realise a capital loss down the track to offset any other investment gains you may have.
By law, you can maintain this position of renting out your principal home for up to six years.
The important thing here is to make sure you claim the interest deductions on the correct borrowings. Even though your old home is still your principal residence, it is these borrowings on which you can claim the interest as a tax deduction as this is the property that is rented. As a result tracing your funds is vital for tax purposes.
Of course if you have paid off much of the mortgage on your principal residence already, then you won’t be able to claim as much as you might had you rented out your new property, which unless you were downsizing is probably dearer. But there would be few people who could buy a new home and then elect to stay in their original property so they could claim the higher interest deduction.
Say you were to follow this strategy of renting out your original home for three years before you managed to sell it. At this point your new property would then become your principal residence. If you were then to remain in this new property for another seven years making a total of 10 years then you would only be taxed on 30 percent of the capital gain (three out of the 10 years).
In addition you would want to hold onto the second property for at least 12 months so you can enjoy the 50 percent reduction in your capital gains tax liability.
Buying and selling property is always fraught with dangers and timing is essential. But if your timing is off, then at least consider your options very carefully and be realistic about the practicalities.
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