Buying Investment Properties, Another Home, Land or Piece of Real Estate? Need an alternative to a cash deposit?
Buying investment properties or for that matter real estate of any kind requires some form of security. Security for many can be an issue as most people don’t have a lazy 20, 30 or 40 K or more sitting at call in their bank account.
Enter Deposit Bonds
1. What are they?
2. Why would you use them?
3. Why will vendors accept them?
4. Who can use them?
5. Can they be used in all states of Australia?
6. Where can you use them?
7. Do you still have to pay the deposit at settlement?
8. What does it cost to obtain a deposit Bond
9. What happens if a purchaser defaults and fails to settle the contract for Sale?
10. When does the Deposit Bond terminate?
11. What happens if there is a dispute with the Vendor?
1) What are they?
A deposit bond is a ‘thing’ or ‘instrument’ that can be used instead of or in place of a cash deposit.
The ‘normal’ cash deposit required when purchasing a property is a minimum of 10%. (Yes, sometimes 5% or less and sometimes 20% - which will avoid loan mortgage insurance, but let’s for the moment work with 10%)
Therefore, lets assume your looking at buying investment properties in the range of say $300,000 which would normally require the need for a $30,000 deposit (+costs).
As already mentioned raising 30k (+ costs) can present difficulties for many people, especially at short notice. It may require you having to dip into savings or rearranging finances that you otherwise would not, perhaps cashing in or selling an investment short of its mature date or arranging a short term lone complete with expensive application fees and loan interest or similar.
2) Enter the Deposit Bond (Why would you use one)
Deposit bonds, (sometimes referred to as ‘financed backed guarantees’ when used for periods less than 6 months or ‘Equity backed guarantees’ when used for periods longer than 6 months) have been in the market for approximately two decades. They are an alternative to a cash deposit.
They enable you to in this case where you are looking at buying investment properties around the 300k mark, to secure an investment opportunity in a quick timely manner as it is presented and can also be used to purchase ‘off the plan’ properties - (deposit bonds can be secured for up to four years) and even at auctions (with vendor pre-acceptance).
While there should be no resistance to using a Deposit Bond, you should ensure that your solicitor or legal representative inserts the relevant clauses into the Contract of Sale stating your intention to use a deposit bond in place of a cash deposit.
A standard ‘Contract of Sale’ of land in NSW carries a clause that states the guarantee as a legitimate deposit transaction.
In other states, the ‘Special Conditions’, (found on the back of the Guarantee Certificate) amends the contract of sale enabling you to use the deposit bond instead of a cash deposit. Further… it also reads that the buyer is to pay all monies owing to the seller at settlement under the contract of sale which includes the bond value.
While we’ve stated that you are looking at buying investment properties, deposit bonds are good for many types of real estate purchase.
3) Why will vendors accept them?
It indicates a committed intention to buy as (normally) the seller has finance formally approved. And in the event that the purchaser fails to then purchase the property, the underwriter of the guarantee must still pay the monies to the vendor.
The purchaser is then liable to the underwriter for the repayment of the deposit paid and associated fees
4) Who can Use them
A deposit bond can be used by anyone who intends to purchase property including:
1) First home buyers
2) Home owners upgrading to a new property
3) Investors buying investment properties
4) Off The Plan property purchases
5) Can they be used in all states of Australia?
6) Where can you use them?
Deposit bonds can be used to purchase residential properties in all states and territories in Australia, and yes that includes buying investment properties.
7) Do you still have to pay the deposit at settlement?
Yes. A deposit bond is simply a security that the deposit will be paid at settlement. Hence the full sale price including the depositwill be met by the purchaser.
8) What does it cost to obtain a deposit Bond?
Deposit bonds are available from a variety of Financial Service companies like ANZ, St George Bank, Deposit Power and others.
The chosen underwriter (QBE insurance Australia Ltd, Vero Insurance Limited, St George to name a few) of the bond accepts the risk of paying the 10% deposit should you fail to complete purchase and therefore charges a premium for doing so.
This will vary according to the level of assessed risk the underwriter places on writing your guarantee.
However costs can vary between 2.3 to 3.5 per percent (of the value of the deposit bond) per annum. This could mean that a $30,000 deposit bond required for 6 months could cost around $350.
This represents a substantial saving in both money and time in organizing a loan to do the same thing and highlights why investors like them when buying investment properties.
It should be remembered that this is a product open to competition in the market so shop around for both cost and service as it can vary between the providers.
9) What happens if a purchaser defaults and fails to settle the contract for Sale?
Two things happen:
1) The vendor (seller) can present the Deposit Bond to the Insurer and claim the full value of the deposit.
2) Because the purchaser or applicant of the Deposit Bond is required to sign a legally binding document called a, ‘Counter Indemnity Agreement’ with the provider, it means that you the purchaser promise to compensate the Insurer for any loss that they may incur as a consequence of you defaulting on a Contract of Sale. This means that the Insurer will pay the deposit to the seller if required and then claim its reimbursement of its value plus associated costs and expenses to do so.
10) When does the Deposit Bond terminate?
Your Deposit Bond can terminate when:
1) The Contract of Sale is complete
2) At its expiry date (set at the time of application, and yes these can be extended in most circumstances)
3) The Contract of Sale is terminated
4) Payment is made to the Vendor by the Insurer
5) Payment is made to the Vendor by the Purchaser
11) What happens if there is a dispute with the Vendor?
A Deposit Bond for monies in excess of what is thought to be required at the time of application is normal. Should a dispute subsequently arise with the vendor in a purchase situation where the bond is used, then the terms of the Deposit Bond require the Issuer to pay the agreed deposit value from the bond upon request.
This means that the Insurer will not seek to verify or confirm any default. They are simply obliged to pay the deposit amount if you have purchased the property and have been requested to do so. (No, this does not present an opportunity for the seller to claim two deposits).
In summery, Deposit Bonds are ‘Gold’ for investors. They represent a cash deposit equivalent and are a very convenient, cheap and very useful tool to use.
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