Loan Tip: IO Split on the Main Residence Strategy

Discussion in 'Loans & Mortgage Brokers' started by Terry_w, 25th Jan, 2022.

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  1. Terry_w

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

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    Where someone plans to move out of their main residence, they may not want to pay the loan down as it will mean less tax deductions when it is rented out and more non-deductible interest when they buy a new main residence.

    It is difficult to get an IO loan on the main residence though, and the rate on an IO loan is high – sometimes owner occ IO is higher than investment IO.

    A simple strategy might be to convert the split into investment interest only and have the split size the amount of cash you have in the offset account, plus a bit of a buffer.


    Example

    Homer has a $400,000 home loan on his current main residence and plans to move out in about 4 years into a bigger and better main residence. Serviceability isn’t an issue and he has $250,000 cash in the offset.

    The offset cash is causing the loan on his property to rapidly pay itself off because the monthly repayments remain the same and less and less interest is charged each month.

    A solution might be to split the loan and convert $270,000 of it to interest only.

    With Homer’s lender the interest rate will jump by 1% if he does this – but the impact will be low because he will only be paying interest on $20,000 of the loan and this will reduce each month as Homer saves more money.

    If the rates were 3% PI and 4% IO the repayments would be

    $1138 per month is PI with virtually all of this coming off the principal of the loan, or

    About $66 per month IO with this rapidly reducing to nil as Homer saves another $20k. He would then split and repeat on the remaining loan saving even more.

    Using this strategy Homer would have saved up another $54k or more, over 4 years.

    Then he would have used this for the new main residence and save non-deductible interest.

    The extra tax savings might be around $1000 per year for the life of the loan for the original house.

    Not much perhaps, but it is a simple strategy which is easy to implement.
     
    Nir and craigc like this.

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