When to Consider an Investment Loan for Property

An investment loan is a residential mortgage where the property is rented to tenants rather than occupied by the borrower.

The loan application process, borrowing capacity and ongoing costs differ from an owner-occupier home loan because lenders treat rental properties as higher risk and apply different servicing criteria. You can still use equity from an existing property to fund the purchase, but the debt-to-income limits that took effect in February this year now apply separately to investor and owner-occupier lending, which affects how much you can borrow across your portfolio.

How Lenders Calculate Borrowing Capacity for Investment Loans

Lenders assess investment loan applications at a rate that is at least 3.0 percentage points above the actual product rate. This serviceability buffer has been in place since October 2021 and applies to all new borrower applications at regulated banks, credit unions and building societies. If you are applying at current variable rates, your repayments will be assessed at around 9 per cent or higher, depending on the lender's policy. The buffer does not change what you pay, but it does change what you can borrow.

Rental income is included in the assessment, but lenders typically discount it by 20 per cent to allow for vacancies, maintenance and periods without a tenant. Some lenders apply a higher discount depending on the location or property type. Consider a buyer looking to purchase an investment property where the expected rent is $600 per week. The lender will likely assess serviceability using $480 per week, not the full amount. If the property is located in an area with higher vacancy rates, or if it is a non-standard dwelling such as a studio or a property requiring body corporate approval for short-term rentals, the lender may discount the income further or exclude it altogether.

From February this year, each lender can approve no more than 20 per cent of new investment loans to borrowers with a total debt-to-income ratio of six times or greater. The limit applies across all your borrowings, not just the new loan. If your total debt, including the proposed investment loan, exceeds six times your gross annual income, you may still be approved, but you will fall within that 20 per cent threshold and may face additional scrutiny or a requirement to reduce other debts first.

Interest Rate Structures and Repayment Options

Most investment loans are structured as variable rate or fixed rate, or a combination of both. Variable rates move with the market and generally offer more flexibility, including the ability to make extra repayments or redraw without penalty. Fixed rates lock in your repayment amount for a set period, typically one to five years, but come with restrictions on additional repayments and early exit penalties if you refinance or sell before the fixed term ends.

Interest-only repayment periods are more common on investment loans than on owner-occupier loans. Under an interest-only arrangement, you pay only the interest portion of the loan for a set period, usually up to five years, and the loan balance does not reduce. At the end of the interest-only period, the loan generally reverts to principal and interest repayments unless you renegotiate. Interest-only can improve cashflow in the early years, but it also means you are not building equity through repayments, only through any increase in the property's value or rental income you use to pay down the loan separately.

Under the current prudential rules, a long-term interest-only residential loan is classified as non-standard where the loan-to-value ratio is greater than 80 per cent and the contractual interest-only period is greater than five years or not specified. Non-standard loans attract higher capital requirements for lenders, which typically flows through to higher rates or stricter eligibility criteria for borrowers.

Tax Treatment and the Changes from 2027

Interest on an investment loan is deductible against your rental income and other assessable income, provided the property is rented or genuinely available for rent. Other holding costs, including council rates, insurance, property management fees, repairs and depreciation, are also deductible under existing tax rules. If your deductible expenses exceed your rental income, the property is negatively geared, and that loss can be offset against your other income such as salary or wages.

From the 2027-28 income year, losses on established residential investment properties acquired after 7:30pm AEST on 12 May this year can only be offset against income from other residential properties, including capital gains on residential properties. Losses can be carried forward to future years but cannot be used to reduce your salary or wage income. Properties you already own, or were under contract to purchase at that date, are not affected and continue to be negatively geared under the current rules until you sell. New builds, which include dwellings constructed on previously vacant land and dwellings that replace existing properties where the total number of dwellings increases, remain fully negatively geared regardless of when they are purchased.

Capital gains tax treatment is also changing from 1 July 2027. For the portion of any gain that accrues from that date, the 50 per cent discount is replaced by cost base indexation using the Consumer Price Index and a 30 per cent minimum tax rate on the real gain. Investors will index the cost base of their assets in line with inflation and pay tax only on above-inflation profits. For properties owned before 1 July 2027 and sold after that date, gains are split between the old rules and the new rules, either by obtaining a market valuation as at 1 July 2027 or by applying a formula the tax office will publish. Investors in eligible new builds can choose between the 50 per cent discount and the indexed treatment at the time of sale.

Deposit Requirements and Lenders Mortgage Insurance

Most lenders require a minimum deposit of 10 per cent of the property value for investment loans, though some will lend at higher loan-to-value ratios if you meet their servicing criteria and pay Lenders Mortgage Insurance. LMI is a one-off premium that protects the lender, not the borrower, if you default and the sale of the property does not cover the outstanding loan balance. The premium is calculated on a sliding scale based on the loan amount and LVR, and in some states, stamp duty is payable on the premium itself.

You can use equity from an existing property to meet the deposit requirement rather than providing cash savings. The lender will assess the combined loan-to-value ratio across all properties used as security. If you are using equity from your home to fund an investment loan top-up, the lender will generally treat the portion of debt used to acquire or construct the rental property as an investment loan for rate and servicing purposes, even though the security may include your owner-occupied home.

Offset account balances do not reduce the loan amount for the purpose of calculating the LVR under the prudential rules, though they do reduce the interest you pay. If you have a loan of $500,000 and an offset balance of $100,000, the lender calculates risk-weighted capital on the full $500,000, and you pay interest on $400,000.

How Foreign Investment Rules Affect Lending

Foreign persons, including temporary residents and foreign-owned companies, are currently banned from purchasing established dwellings in Australia. The ban runs from 1 April last year to 30 June 2029 and was extended by just over two years in the most recent Budget. Limited exceptions apply, including for certain Build to Rent developments, properties that significantly increase housing supply, and purchases by foreign companies employing workers under the Pacific Australia Labour Mobility scheme. Temporary residents can still apply for Foreign Investment Review Board approval to purchase new dwellings or vacant land, subject to conditions that construction be completed within four years and that the land not be sold until construction is complete.

Foreign owners of residential property who do not occupy or make the property available for rent for at least 183 days in a vacancy year are liable to pay an annual vacancy fee. The return is lodged with the tax office within 30 days of the end of each vacancy year, and for vacancy years starting on or after April last year, the fee is double the foreign investment application fee that applied to the property purchase. Compliance and enforcement is funded through an audit program targeting land banking.

Most lenders will not approve an investment loan for a foreign purchaser unless the relevant FIRB approval has been obtained and provided to the lender before settlement. Some lenders do not offer investment loans to temporary residents at all, regardless of FIRB status.

Portfolio Growth and Refinancing

Once you own one investment property, you may consider acquiring a second or third to build wealth through rental income and long-term capital growth. Each additional purchase is assessed on its own servicing, deposit and LVR criteria, but the debt-to-income limit applies to your total borrowing across all properties. If you are close to the six times income threshold, paying down existing debt or increasing your income may be necessary before you can expand your portfolio further.

Refinancing an investment loan can release equity for further investment, reduce your interest rate, or switch you from interest-only to principal and interest if you want to start paying down the balance. Refinancing does not change the tax treatment of the loan, provided the funds are used for investment purposes. If you refinance and draw additional funds for private use, only the portion used to acquire or hold the rental property remains deductible.

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