Most of us don’t think twice about recycling our plastics and paper waste to help save the environment, but what about recycling debt. Is that a good way to save money? Debt recycling is the process of replacing mortgage debt or bad debt with investment debt, which is known as good debt. This strategy enables investors to start building wealth while they’re still paying off their home. As equity is built up in their home, funds are redrawn and invested. Income from these investments can be used to further reduce the mortgage balance while the growth component contributes to wealth accumulation. Watch this video below to see how it works…
Why is debt recycling a good strategy? The main benefit of a debt recycling plan is the ability to accumulate wealth tax effectively. This is achieved as investors use the income earned on their good debt to pay off their home mortgage, bad debt, but take note, the tax effectiveness of a debt recycling strategy is dependent on the individual’s marginal tax rate. The higher the tax rate, the more tax effective the strategy and vice versa. As such, tax advantages should not be the primary basis for using this approach
Debt recycling also provides investors with an opportunity to fill the gap between their superannuation savings and retirement objectives. For many people, super will be insufficient to fund their desired lifestyle. Additional wealth accumulated as part of a sound debt recycling strategy may be able to fill that void.
Are there any downsides? Perhaps the biggest risk associated with this strategy is the threat of compounding losses. Whilst a good investment strategy can help to build wealth faster, the opposite can also be true when markets experience a downturn. In a worst case scenario, investors can end up owing more than the portfolio is worth. If you use the equity in your current home as security for the loan, you could be at risk of losing your home. Debt recycling is not recommended for anyone with an investment time frame of less than five years. It is only suited to those investors with a reasonable appetite for risk and a secure income source.
How do you start? To commence a debt recycling strategy, investors should first ensure they have the right loan structure as some of the investment debt will have deductible interest costs, these amounts should be kept separate. A loan facility allowing separate sub-accounts is preferred with the ability to choose between principal and interest. Interest only repayments are also desirable. Debt recycling can benefit investors prepared to invest not just funds, but also time and patience.
Want to know more? Contact Leading Gold Coast Financial Planners Acquira Wealth Partners for more details.