The Pros and Cons of Using Equity for Investment

Using the equity in your home to fund a deposit on an investment property remains one of the most common wealth-building strategies for sole traders in Australia.

Borrowing against your home lets you enter the property market without needing to accumulate another cash deposit, which is particularly useful when your income fluctuates or you prefer to keep working capital in your business. Before you commit, understand how lenders assess sole traders when equity is used as security, how the new negative gearing quarantine affects properties purchased now, and what the actual borrowing capacity looks like when you add a second loan to your existing commitments.

How Lenders Calculate Usable Equity

Usable equity is the difference between your property's current value and what you owe, minus the amount the lender requires you to keep as a buffer. Most lenders will lend up to 80 per cent of your home's value without requiring Lenders Mortgage Insurance, which means your usable equity stops at that 80 per cent threshold, not at the full market value.

Consider a sole trader who owns a property valued at $900,000 with a remaining loan balance of $400,000. The lender will allow borrowing up to $720,000 (80 per cent of $900,000), leaving $320,000 in usable equity. After setting aside funds for stamp duty and settlement costs on the new purchase, roughly $280,000 to $300,000 may be available to use as a deposit, depending on the state and purchase price of the investment property.

If you want to borrow beyond 80 per cent, Lenders Mortgage Insurance applies, and the premium is calculated on the full loan amount above that threshold. For sole traders, LMI can add between $10,000 and $40,000 depending on the loan size and the lender's risk assessment of your income stability.

How Sole Trader Income Is Assessed for Investment Borrowing

Lenders assess sole trader income by averaging your last two years of taxable income, taken from your tax returns or your accountant's financial statements. If your income has been trending down, some lenders will use only the most recent year. If it has been rising, the average usually applies.

Serviceability is tested at the loan's actual interest rate plus a 3 percentage point buffer, as required under APS 220. That buffer is applied to both your existing home loan and the new investment loan you are applying for. In addition, lenders now apply debt-to-income caps: no more than 20 per cent of new investor lending can exceed a DTI ratio of 6 times your gross income. If your total borrowing pushes you over that threshold, your application will likely require a larger deposit or be declined unless you can demonstrate rental income that materially improves serviceability.

As an example, a sole trader with an average taxable income of $110,000, an existing home loan of $400,000, and a proposed investment loan of $550,000 reaches a total debt of $950,000. That produces a DTI ratio of 8.6, well above the 6 times threshold. Unless the property's rental income can be added to your income at between 70 and 80 per cent of the lease amount (depending on the lender's policy), this scenario will not meet the DTI cap and the application will be declined or require a material reduction in the loan amount.

Negative Gearing Quarantine from 1 July 2027

From 1 July 2027, net rental losses on residential investment properties purchased after 7:30pm AEST on 12 May 2026 cannot be offset against your sole trader income, salary or other non-property income. Those losses can only be offset against other residential rental income you earn or carried forward to offset future rental income or capital gains when you eventually sell the property.

Properties you already own, or those you exchanged contracts on before that date and time, remain unaffected and can continue to be negatively geared in the traditional sense. The transition period allows properties purchased between mid-May 2026 and 30 June 2027 to be negatively geared until 30 June 2027, after which the quarantine applies.

The exception is for eligible new residential dwellings, defined as properties built on previously vacant land or developments that increase the total number of dwellings on a site. A knock-down rebuild that does not add dwelling numbers does not qualify. If you purchase a newly constructed dwelling that meets the definition, you can continue to offset losses against your sole trader income.

For sole traders who have historically relied on negative gearing to reduce their taxable income and improve cash flow during the first few years of ownership, this represents a material change in after-tax return. If you are purchasing an established property now, the tax benefit of deductible interest is delayed until the property generates a profit or until you sell and apply the losses against the gain.

Interest-Only Repayments and Cash Flow Management

Most investors who use equity opt for interest-only repayments on the new loan, particularly in the first few years. Interest-only periods typically run for one to five years, after which the loan reverts to principal and interest unless you negotiate an extension or refinance.

An interest-only structure reduces the monthly repayment and improves short-term cash flow, which matters when your income as a sole trader is variable or when the rental yield does not cover the full loan cost. All interest paid on a loan used to purchase an income-producing property remains tax deductible, subject to the quarantine rules above.

Keep in mind that lenders assess your application on a principal and interest basis regardless of whether you take interest-only repayments. Serviceability is calculated as though you were repaying both principal and interest from day one, so the interest-only election does not increase how much you can borrow but it does improve your cash position once the loan settles.

Variable or Fixed Rate for the Investment Loan

Investment loans are typically written on a variable rate or split between variable and fixed. A variable rate gives you access to offset accounts and allows unlimited additional repayments without penalty, which is useful if your business generates irregular income that you want to park against the loan to reduce interest.

Fixed rates lock in your repayment for a set term, usually one to five years, but most fixed products do not offer offset facilities and limit additional repayments to $10,000 or $30,000 per year depending on the lender. Break costs apply if you pay out the fixed portion early, refinance, or sell the property before the fixed term ends.

If you expect interest rates to remain stable or rise, a fixed rate provides certainty. If you value flexibility or want to take advantage of offset accounts to manage your cash flow, variable is usually the right choice. Many investors split their loan 50/50 or 60/40 to access both rate security and repayment flexibility.

Rental Income and Vacancy Assumptions

Lenders will include rental income in your serviceability calculation, but they do not use the full lease amount. Most lenders apply a shading factor of 20 to 30 per cent to account for vacancy periods, maintenance costs, and management fees. If the property is listed for $650 per week, the lender will assess your income at roughly $455 to $520 per week, depending on their policy.

If the property is not yet tenanted, the lender will request a rental appraisal from a licensed agent in the area where you are buying. That appraisal must be dated within 90 days of the application and state a weekly rental range. The lender will typically use the lower end of the range and then shade it further.

For sole traders with variable income, rental income can make the difference between meeting serviceability or falling short, but it is not a dollar-for-dollar addition to your taxable income in the lender's calculation.

Stamp Duty and Upfront Costs

Stamp duty on investment property purchases is calculated at the standard residential rate in most states, with no concessions or exemptions. Depending on where you buy, duty on a property can range from 3 to 5.5 per cent of the purchase price. Settlement costs, including legal fees, building and pest inspections, and lender establishment fees, typically add another $3,000 to $6,000.

Those costs can be funded from your usable equity, but they reduce the amount available for the deposit. If your equity is limited, you may need to contribute cash savings or accept a higher loan-to-value ratio, which brings LMI into play.

Stamp duty is not deductible as a direct expense but forms part of your cost base when calculating capital gains tax on sale. Legal fees and other settlement costs related to the purchase are also added to the cost base, while ongoing costs such as property management, rates, insurance and maintenance are deductible in the year they are incurred.

Debt-to-Income Cap and Portfolio Growth

The DTI cap introduced in February 2026 applies separately to owner-occupier and investor lending. For sole traders looking to build a portfolio, the 6 times DTI threshold is now the binding constraint in most scenarios, not serviceability or LVR.

If your income is $120,000 and your total investor debt across all properties is $720,000 or less, you remain within the cap. If you want to borrow more, you will either need to increase your declared income, reduce your existing debt, or find a lender willing to use one of their limited DTI exception slots. Only 20 per cent of a lender's new investor loans can exceed the cap, and those slots are typically reserved for high-income applicants or scenarios with strong rental coverage.

For sole traders, this means portfolio growth now depends more on income growth than on equity accumulation. If your taxable income has been minimised for tax purposes over the last two years, that decision will directly limit how much you can borrow, even if you have substantial equity and strong cash flow.

Capital Gains Tax from 1 July 2027

From 1 July 2027, the 50 per cent CGT discount is replaced with cost base indexation and a minimum 30 per cent tax rate on real gains for most investment properties. The change applies only to gains that accrue after that date, so any increase in value up to 30 June 2027 remains subject to the current 50 per cent discount.

If you purchase an eligible new build, you can elect to use either the indexed cost base with the 30 per cent minimum rate or the 50 per cent discount, whichever produces the lower tax outcome.

For sole traders holding property long term, the new rules defer the benefit of the CGT discount and increase the minimum tax payable on any gain. If you are in a lower tax bracket at the time of sale, the 30 per cent floor will apply regardless, which reduces the benefit of holding property in your personal name rather than in a structure such as a trust or company.

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