Debt recycling is the secret success strategy you’ve never heard of…until now!
Ever wondered how some people tend to build wealth and property whilst you continue to battle the bills and life's challenges, never really reaching the position where you can buy an investment property?
Debt Recycling is an advanced wealth creation strategy every investor needs to learn about.
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It could be due to several factors.
They inherited money or property from their family estate
They bought well and accrued a great deal of equity in their property/s
They have sufficient family income and used it wisely to reduce debt
Their financial adviser taught them a secret strategy called 'debt recycling'
Now, all of these factors could in part be true. The better your income and equity position, the better the financial start, and the more effective your strategy will be. But how can you join the club and build your wealth portfolio? Understanding debt recycling could be your newest secret weapon.
Understand the difference between good debt vs bad debt
It's crucial that you educate yourself before you attempt an advanced strategy such as debt recycling. Visit my previous article on this topic HERE.
Understanding this powerful distinction is the foundations to why some savvy investors are able to pay off their owner-occupied home loans in record time whilst investing in property simultaneously.
Building on your knowledge and taking action
Once you have developed sound financial knowledge, it's now time to sit down with your financial adviser and learn which strategy is right for you. You may not be ready for debt recycling just yet. This involves having a personal home loan as well as investment property debt (and/or other investment debt). You will also require a sufficient level of accessible equity and be comfortable holding an increased level of debt over your home and investment property. Once again, education and a sound understanding of strategy are critical to your success.
What is Debt Recycling?
Debt recycling is a debt management strategy to enable you to utilise your cash flow to pay off your owner-occupied (bad debt) home loan sooner, whilst at the same time, accruing equity in your home which is utilised to purchase an investment property. All debt is secured by your home and an investment property. The income generated from the investment property as well as any allowable tax benefits are used to pay off the non-deductible debt (bad debt) on your home loan. Once enough equity has been accrued, the investment loan is increased by the amount which was paid off of your non-deductible home loan and the money is then reinvested to continue the cycle again and again until all non-deductible debt is eliminated.
In summary, debt recycling is the process of creating an ongoing cycle which turns ‘bad debt' into ‘good debt', to allow you to pay off your owner-occupied home loan sooner.
NB: It is important that you are aware of the ATO tax rulings and any changes which may arise. Visit the ATO website or speak to your accountant or financial adviser to ensure you are kept up-to-date and clear on what are acceptable tax deductions.
How do I know if I'm ready to begin this strategy of debt recycling?
In order to prepare for this type of strategy, you should assess the following requirements:
Be risk tolerant - if the thought of holding the same level or even an increased level of debt scares you and makes you feel sick, this strategy is not for you.
have a sound understanding of debt, investing and cash flow principles.
A willingness to increase your level of debt on your home to invest in property.
A sufficient level of equity in your home which is accessible and serviceable in order to purchase an investment property.
a regular and independent income which is sufficient enough to cover the repayments of the initial investment loan (deposit & costs).
A strong financial services team to guide you. This includes a good accountant, a mortgage broker, and a financial planner. Each adviser on your team must have a strong understanding of these principles.
Income protection plan. This will give you peace-of-mind and cover any possible life event which may interrupt your stable income to support this strategy.
Positive mindset and long-term investment focus. This is not a short-term strategy. You need to stay on track and review your progress regularly. The better your discipline, the better the outcome and the quicker you will pay off your non-deductible home loan debt.
What if I'm not ready to begin debt recycling - What can I do instead?
If debt recycling is clearly not for you at this point in time, you can still engage clever strategy to pay your home loan off sooner. Speak to your financial adviser or mortgage broker and learn the debt reduction strategies which can work for you.
You can also follow my Top 10 Mortgage Hacks HERE.
John J Maxwell, Cocalex Consulting - Director & Senior Consultant