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Debt recycling isn\u2019t for everyone but it’s a smart strategy for many. (Source: Supplied\/Getty) <\/p>\n Debt recycling isn\u2019t for everyone but it’s a smart strategy for many. (Source: Supplied\/Getty) <\/p>\n
Most homeowners think they have to choose between paying off their mortgage and investing<\/a>. It\u2019s one of the most common money questions I hear, and most people get stuck in the middle doing neither one particularly well.<\/p>\n The challenge for most people isn\u2019t the decision itself – it\u2019s that most people treat this as a choice of one or the other, when there\u2019s a strategy that allows you to do both at the same time<\/a>.<\/p>\n The commonly accepted money playbook says to pay off your home first, then start investing once you\u2019re debt free. This might feel responsible, but by the time most people clear their mortgage, they\u2019ve burned through 15 to 20 years of missed compounding – which is an expensive window to miss.<\/p>\n RELATED<\/p>\n On the flip side, some people throw everything into investing while their non-deductible home mortgage quietly cripples their savings capacity. Every dollar of home loan interest is paid with after tax income, which means a huge chunk of your income goes to servicing debt that gives you zero tax benefit.<\/p>\n Whether to invest or pay off your mortgage<\/a> is a question worth taking seriously – but the smarter question is whether there\u2019s a way to make your mortgage work harder while you build assets at the same time.<\/p>\n One of my clients, a couple in their mid 30\u2019s based in Sydney\u2019s inner Eastern suburbs had a $700,000 mortgage and $200,000 sitting in their offset account. They\u2019d been stockpiling cash for a few years, thinking it was the smartest thing they could do with their money.<\/p>\n And while an offset account does reduce your interest costs, their money wasn\u2019t building any actual wealth or creating any tax efficiencies. Their money was safe, but it wasn\u2019t really working for them.<\/p>\n We introduced them to debt recycling<\/a>, a strategy that converts your non-deductible home loan debt into tax-deductible investment debt. Then instead of letting their cash sit idle, they used it to pay down their mortgage, and then reborrowed the same amount, investing the funds into a diversified index fund portfolio<\/a>.<\/p>\n Their total debt didn\u2019t increase by a single dollar, but the type of debt changed – and that shift created real tax savings from day one.<\/p>\n On $200,000 of recycled debt at a 6% interest rate, this couple\u2019s annual interest cost was $12,000. Because the borrowed funds were used for investing, that full $12,000 became a tax deduction. At their combined marginal tax rate of 39%, this delivered an immediate tax saving of $4,680 every single year.<\/p>\n Story continues <\/p>\n And they didn\u2019t stop there. As they continued directing $500 each week from their surplus into the strategy, the tax deductible portion of their mortgage kept growing. Fast forward five years, and they\u2019d converted around $330,000 of non-deducible debt into tax deducible investment debt, delivering $19,800 in annual deductions and putting over $7,700 back in their pocket at tax time.<\/p>\n Meanwhile, their investment portfolio was growing alongside the tax savings, compounding progress even further. This is where understanding how to save tax in Australia<\/a> through a smarter investment approach can seriously accelerate your long term results.<\/p>\n Debt recycling is powerful, but it\u2019s also one of the easier strategies to mess up. The two biggest mistakes I see are mixing loan splits, and not keeping the right records. Both you and the ATO need to be able to clearly trace every dollar from your loan directly to an income producing investment. Sloppy paperwork can mean lost deductions, or even worse.<\/p>\n The other common mistake I see is jumping into a strategy like debt recycling without the right level of cash buffers in place. Any time you\u2019re using borrowing as part of your strategy, you need to be mindful that debt comes with risk that\u2019s important to manage.<\/p>\n If something goes wrong and you\u2019re forced to sell investments at the wrong time, you can undo the benefits of the strategy. A solid emergency fund and smart risk management aren\u2019t just nice to have, they\u2019re critical.<\/p>\n Getting the tax efficient investing side of things right from the start will save you a lot of headaches down the track. And given the complexity (and upside) involved, this genuinely isn\u2019t a DIY strategy – quality advice before you jump in will pay for itself many times over.<\/p>\n Homeowners who grow their money the fastest aren\u2019t the ones who pick a side between their mortgage and investing. They\u2019re the ones who find ways to make both debt and investments work together, so the same dollars work harder.<\/p>\n Debt recycling isn\u2019t for everyone. The benefit depends on your income, equity position, and ability to stay the course through market ups and downs. But if you\u2019re a homeowner with spare cash to invest, who\u2019s been stuck in the invest or pay down debt loop for years, this could be the single strategy that breaks the deadlock and gets your money actually moving.<\/p>\n Ben Nash is a finance expert commentator, podcaster, financial adviser and founder of Pivot Wealth<\/a>. You can learn more about how to be smart with your money through Ben\u2019s book Replace your Salary by investing<\/a>.<\/p>\n If you want some help with your money and investing, Ben has created a free seven-day challenge<\/a> you can use to get more out of your money you can join here<\/a>.<\/p>\n Disclaimer: The information contained in this article is general in nature and does not take into account your personal objectives, financial situation or needs. Therefore, you should consider whether the information is appropriate to your circumstances before acting on it, and where appropriate, seek professional advice from a finance professional.<\/p>\n Get the latest Yahoo Finance news – follow us on Facebook<\/a>, LinkedIn<\/a> and Instagram<\/a>.<\/p>\n If you’re a homeowner with spare cash to invest, this might be the best play for you. (Source:Getty) <\/p>\n