We all know that real estate is an illiquid instrument. Depending on the type of property you have, it may take weeks or even months to sell. There may be a situation where you may need the cash urgently, but most of your money is locked inside an asset like real estate. During times of crisis, the demand for real estate is always weak. Priorities for other things come first. In circumstances like these, you might be forced to sell your property cheap. And lose a significant amount of money to unlock that cash.
Normally, I would advise that you set aside six months of mortgage payments to prevent yourself from getting into that situation. However, things may not always go according to plan, and you might need more funds. What can you do then?
The Borrower Will Always Need A Collateral
Whenever you borrow money from a bank, they will always want to understand how you can pay them back. The bank will want to find out if you have an item of value that you can use as collateral. The most conventional “item of value” would be your monthly income. Also, there are instances where you can pledge other valuable items such as gold, stocks, foreign currency to get the loan. Of course, interest rates may be higher if you use these unconventional items.
Using Your Property as A Collateral
When you borrow a considerable sum of money and pay it slowly over 30 years, most people will have the impression that they are servicing a debt. However, real estate is an asset at the end of the day and can increase in value. When this new value surpasses significantly of what you pay for in the beginning, you would have made a profit. By taking a new loan against this new property price, it would be possible to cash out the remaining difference between this new and old debt. Are you confused? Let us look at this example.
Usage of The Equity Home Loan to Free Up Cash from Your Property
Let us assume we were back in 2017 and you happen to buy this new launch at $1,354,000. LTV was 80% back then, so you will need to come up with a cash component of $270,800 while the remainder of $1,083,200 can be borrowed from the bank.
Today the developer is selling a lower floor unit at the same stack for $1,683,000. Due to the recent transactions supporting this pricing, we can safely assume that the current valuation for your unit is the same if not higher. As a result of this increase, it is now possible to take a new loan of 70% off this new pricing. Or a loan amount of $1,178,100 if you translate into numbers. Since this new loan amount is higher than that of your original home loan, it is possible to cash out the difference.
Cashing Out Due to Increase In Property Value
New loan ($1,178,100) – Existing Home Loan ($1,083,200) = Cash ($94,900)
With this liquidity, it is now possible to hold on to the property for a more extended period without having the urgency of selling. However, do take note that this cash out is also dependent on how much CPF you use. If you used more than $94,900 of CPF in the initial payment back in 2017, then it is not possible to withdraw any cash at all. Also, the development must obtain TOP as well.
Cashing Out Is Not Possible Due To CPF Usage
New loan ($1,178,100) – Existing Home Loan ($1,083,200) – 15% CPF Usage ($203,100) = Cash ($0)
The above scenario only applies when the property you purchase go up in value. Alternatively, you can also make use of the equity you have accumulated over the years through those monthly instalments. Let us assume that you bought a $1mil condo ten years ago and the prices did not go up. You need the cash urgently but do not want to sell your condo at the same price you bought ten years ago. Why can you do? Well, during the last ten years, you would have contributed around $200k to your principal. Depending on the scenario, it is possible to take extract this $200k equity as cash to help you tie over this challenging time. Of course, that would mean that your debt for the property just went back to what it was ten years ago.
Always Prepare For The Future
I always believe in getting prepared for the future. Understanding how much liquidity you can extract from your property will give a better picture of how much you should set aside on rainy days. So, the more CPF you use, the more cash you should set aside. In addition, understanding price appreciation and purchasing the right property will give you an advantage in terms of holding power. Why not book an appointment and speak with us today? Because sometimes making the right decision, in the beginning, can mean a whole lot of difference in the years to come.
Article contributed by Jerry Wong.
Jerry Wong is a realtor with Propnex Realty. He loves coffee, cookies and condos and has been in real estate for ten years. Most importantly, he loves connecting people to properties and gets enormous satisfaction when they acquire their dream home. Or making well-informed decisions that see their assets grow. Book a video call appointment and Jerry will share with you the following.
- How certain factors affect real estate prices. Why some condos can make a million dollars while others can lose that same million.
- Why timing is not the most important thing. Because some people can buy the same condo at the same time, but one end up making $100k to $200k while the other suffers losses of the same amount!
- Understanding your requirements and craft a solution for your real estate needs. Be it in the form of asset progression, tax planning, etc.
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