Interest Only vs P&I

Discussion in 'Investment Strategy' started by JMal, 1st Nov, 2017.

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  1. JMal

    JMal Member

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    Hey guys,
    I have recently met with a mortgage broker who recommended a P&I loan (3.79% fixed for 3 years) instead of a interest-only loan (4.19%) but I thought I would get a second opinion on here as I thought it was better to get an interest-only loan with offset account to allow for investment property in the next 5 years.

    My wife is 30yo and I am 29yo and we are looking to purchase our first property in the next few months. We have recently discovered my wife is pregnant (10wks currently)… with twins :O so this would obviously be a consideration in our planning.

    My current gross salary is ~90,000 and my wife earns ~82000 but she will be going on maternity leave early in 2018 (her earnings would decrease to ~1400 fortnightly (net) over 12 months)

    We have ~$70000 (including $60000 savings and ~$10000 in shares)

    We are currently house-sitting so our expenses are minimal at this stage and putting ~ $1250 into savings each week.

    The other reason he suggested this loan is because my wifes parents will be guarantor for 15% allowing ~30000 to sit in offset account (her parents have done this with one of her siblings also so I think you have to go with the same bank - BOQ)

    Any recommendations would be great as well as insights into whether there will be tax implications down the track if I draw from the equity in the house (if I go with the P&I loan) to pay deposit on investment property.

    Thanks heaps,

    John
     
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  2. Property Twins

    Property Twins Mortgage Brokers & Buyers Agents Business Member

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    Hi @JMal

    Congratulations on the twins :)

    Based on what you have posted, in our experience, it is better to go IO in the first instance, and then reassess. It is easier to go from IO to P&I, rather than the other way round. If you fix the loan now, I think it will limit your options and flexibility.

    As you are already aware, you need to do your cash flows - the interest only repayments will be better for cash flow whilst you settle into your new life. However, you will need to plan ahead as at the 5 year mark (assuming the IO term is for 5 years) the principal will be calculated over the remaining 25 year period.

    When you say building up savings in the offset account will help with an investment property, do you mean to say you will use those savings toward the next property, or will you be converting this current property into an investment property?

    If this purchase is going to be your home for the long term, lender selection is key, as you want the lender and product to be flexible enough to help you reduce debt over time. Whilst rates may look attractive on paper, these may cost you more in the long run.

    You are very young, and starting early - so make sure you are planning ahead.
     
  3. kierank

    kierank Well-Known Member

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    Nearly all of our loans are IO with offset.

    I am a big fan of them. Some of our offsets are fully chocked with personal funds.

    If we ever have a major expense (personal or investment), the interest is tax deductible.

    Really helps one to manipulate one’s income tax.
     
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  4. Rolf Latham

    Rolf Latham Inciteful (sic) Staff Member Business Plus Member

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    which is great,since the rate doesnt matter :)

    ta
    rolf
     
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  5. kierank

    kierank Well-Known Member

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    The rate does matter until the offset is fully chocked ;)
     
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  6. Shahin_Afarin

    Shahin_Afarin Residential and Commercial Broker Business Member

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    I think the IO vs P&I is a debate specific to the individual and their strategy.

    Heaps of people are not disciplined with their money and the temptations is there to spend the funds saved up in an offset. The funds won't have been spent if paid back into the loan.

    From a servicing/borrowing capacity perspective IO lending is great for some lenders like Pepper and Liberty but damaging for other lenders. This is where strategy comes into play and whether a lender like Pepper or Liberty falls within the lender's of choice for a client's portfolio.

    Another con is what clients are potentially faced with when their IO term expires and they don't have the ability to refinance to another IO term or extend the IO term.

    On the other side of the coin there is a bunch of benefits associated with IO lending so it ultimately comes down what is suitable for that individual. It is a really important conversation for you to have with your banker or broker and have them list out all the pros and cons associated with the IO and P&I repayments.
     
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  7. tess_

    tess_ Well-Known Member

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    We have gone with IO for investment loans and PI for PPOR, taking advantage of the lower rate for PPOR and also the enforced savings approach to paying off our PPOR loan.
     
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  8. Oliver

    Oliver Well-Known Member

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    Can I ask you which bank are you looking at for a IO Loan at 4.19% with an offset account?
    That sounds pretty good, I believe this isn't one of the big 4?
     
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  9. Ross Forrester

    Ross Forrester Well-Known Member

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    I use a combination of the two given that IO is typically more expensive nowadays.

    So the loans with offsets that are fully offset are IO. The loans that are attracting interest are P&I.

    Varies depending on how you want to run your long term strategy and the tax position.
     
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  10. chylld

    chylld Well-Known Member

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    Used to advocate IO, but now use P&I on the gamble that I can release the principal back out as equity down the track for future investments. Cashflow allows it and I pay a bit less interest in the long term. We keep a separate cash account for rainy days / emergencies.
     
  11. JMal

    JMal Member

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    As per our mortgage broker, Bank of QLD.
     
  12. JMal

    JMal Member

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    Can you explain how this works please?
     
  13. kierank

    kierank Well-Known Member

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    IMHO, not the best approach if later buy a new PPOR, move out of the first PPOR and it now becomes an IP.

    I would rather put my money in an Offset, even against a PPOR.
     
  14. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    It depends how much cash is available. I tend to favour PI on all loans now.
     
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  15. kierank

    kierank Well-Known Member

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    I think it depends on a lot of things such as interest rate differential.
     
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  16. Jim Barry

    Jim Barry Member

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    Are you saying you redraw from your offset for personal purposes and then claim a deduction on the interest?

    Or did I read that wrong?
     
  17. Silverson

    Silverson Well-Known Member

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    If it's an offset linked to an IP then regardless what you used the funds for the increase is inteserst is deductible I'm pretty sure. However if it's in a redraw, only if it used for investment purposes it's deductible.
    I'm sure if I'm off the mark someone will clarify!
     
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  18. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    You don't redraw from an offset account but withdraw. It is just a savings account and not a loan so there are no direct tax consequences. Indirectly interest on the associated loan will increase and where the funds of this loan were used to invest the increased interest will be deductible.
     
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  19. Jim Barry

    Jim Barry Member

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    I did read that wrong, apologies. I’m sure you are right. If the funds you are withdrawing are in an offset facility this shouldn’t affect the deductibility of the interest on the IP loan account. Different for a redraw if the purpose is personal.
     
  20. Jim Barry

    Jim Barry Member

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    Thanks Terry, understood. You just beat me to it.
     
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