Tax Tip 219: Debt Recycling v Borrowing Extra to Invest

I had a question on another thread.

Lisa is debt recycling because she is converting non-deductible debt into deductible. She has no extra borrowings overall.
Bart is actually taking on more debt.

 

I have been following your posts for the last couple of days and i must say you are a great asset to this forum.

I am just confused about the splits you mention in several of your posts.

My situation:
I have close to 270k sitting in an offset account.
Property worth: 900k
Variable loan owing: 368000 of 400k
Fixed loan owing: 287000 of 300k - 3 year fixed term ending in October this year

I'd like to invest the 270k into shares for dividends.

What if i pay 270k into the variable loan account and redraw the funds into the commsec CDIA account for shares investing that brings in dividends? i have never redrawn before so not sure how there will be contamination or mixing as i understand it.

Sorry I just don't get what a split is and it's purpose. Is that an account where the redrawn funds from the loan get paid into? Why not just redraw funds into a commsec CDIA account from the loan directly without the middle layer i.e. splits.

 

Read my posts on mixed loans

 

It would be smarter to

1. Arrange a proposed loan split of the $368K loan into $270K and $98K ...with redraw available
2. Repay $270K to repay the $270 portion. Assuming lender policy allows this to be REDRAWN
3. Draw a new $270K loan and transfer these funds direct to broker account
4. Buy income producing investments

This will mean that new loan of $270K has a specific purpose and is seperate to the property element. If you didnt split it then out of the $368K loan it is always 73.37% shares and 26.63% [property. Any extra repayments affect both elements. If money goes back and forth it will be a nightmare to determine what % is each later

 

Thanks Paul for that advice.
Would you recommend principle and interest type of split loan for that 270k portion? Also, which account would you link the offset account too?

I don't know if banks offer redraw on interest only or fixed split loans. But if they do offer redraw on IO loans, the high interest rate probably would eat most of the income considering 5% dividend return. what do you think?

 

Thanks! i'll have a look

 

It is possible to get redraw on IO loans.

 

yes but are they worth it considering they have higher interest rates?

 

Yes, worth considering

 

I cant comment on P&I redraw etc adn [product features as that is credit advice. One advantage of having a broker.

 

@Terry_w @Paul@PFI Thanks for the feedback

I am just not sold on the idea of debt recycling. Was contemplating of doing that that until thought of the scenario below:

Lets says in five years time you debt recycled 500k of your ppor loan and you have no mortgage left.

Let's say interest rates have gone up to 7-8%? which is very likely.

You then have a 500k investment loan paying you 5% in dividends and a loan with a high interest rate. so now you are paying more in interest than you are receiving dividends

To get out out of that situation you either have to:
- to sell your shares which might have reduced in value due to a downward movement
- sell your house to get yourself out of that loan
- or direct your dividends to paying off the high interest loan.

All three options are not worth looking forward to

 

So what would happen if you didn't debt recycle?

 

@Terry_w

How about just pay down the loan? Live a debt free life!

 

You have totally missed the message in the opening post of this thread.

You are talking about investing v not investing. A different topic, but still worthy of contemplating.
Nothing to do with debt recycling though

 

@Terry_w point taken.

What would you suggest they do when they get into that situation? i.e. paying more on loan interest then receiving dividends?

that would be a nightmare for a retired person. they will have to continue to work to pay the difference

 

I don't give finance or investment advice. Only legal, tax and lending.

 

Debt is debt. Whether deductible or not. One is slightly better but is still a debt to repay

 

I think what you are getting at is whether to invest or pay down the mortgage - your decision here will be impacted by the issues you've outlined. But if you chose to invest, would you not always be in a better position having debt recycled than if you didn't because atleast you could be incrementally claiming more and more of your existing ND debt

 

I just don't think its wise to use your home as security for investment in the share market. That's how i see debt recycling anyway.

I think for some people the better option is to instead invest in the name of their low-income spouse..

of-course you'd still be paying higher interest on your ppor regardless of the debt recycling or not if interest rates were to go up.

planning for the worst probably is the best thing to do when investing.

Debt recycling is too much risk for very small gain

 

You totally misunderstand debt recycling.

You are struggling with a different question - whether to invest or not.

If you want to invest, then debt recycling actually reduces risk.