What results did we help Tony and Rhonda achieve?
We created a customised tax effective strategy that allowed the couple to:
- Completely restructure their home and investment loans. This helped them turn their previous main residence into an easily fundable property investment.
- Use leveraged investments to help repay their $869,232 home loan in five and a half years. This strategy saved them hundreds of thousands of dollars (approximately $491,113) in interest.
- Claim $248,961 in tax deductions over six financial years
- Completely free themselves of non-tax-deductible debt
House prices are higher than ever before. And with that comes very high home loans.
Then there are all of the taxes to consider. You’re paying out up to 47% in income tax. Plus, you have the indirect taxes to deal with, such as GST, fuel levy, stamp duty, and sales taxes.
By the time you’re done, you only have about 30% to 40% of your income left over. And from that, you’ve got to pay for your living expenses, holidays, the kid’s education, private health insurance, car registrations, all of your loans, and everything else.
The government’s taking most of your money. You need to think and do things differently to get ahead.
That’s exactly what Tony and Rhonda wanted when they came to Tax Effective Accountants.
Tony and Rhonda’s Situation
Tony came to talk to our team back in 2012. At the time, he’d just bought a new residence. He aimed to sell his previous home so he could use the money to repay some of his new home loan.
He needed to know what tax implications he faced. He also needed to know if this was even a good idea in the first place.
His financial adviser couldn’t help because he didn’t understand the tax implications.
That’s when one of Tony’s friend’s referred him to Tax Effective Accountants.
He and his wife, Rhonda, came to a discovery session where we learned the following:
After the discovery session, we had a better idea of the challenges that the couple faced. They included:
1. The couple didn’t have a strategy in place to reduce the $68,294 they paid in income tax every year.
2. Both of their home loans were principal and interest (P&I). As a result, their loan repayments totalled $115,939 per year. With a net after-tax income of about $170,000, this left them with little room to save or build wealth.
- $11,736 per year went towards paying the principal of the P&I loan on their old property.
- If they used the old home as an investment property, making P&I repayments would reduce their tax-deductible debt. Plus, they’d have higher tax liabilities.
3. Selling their old home would give them just over $79,000 after fees. That wasn't enough to put a big dent in their new loan.
4. Focusing solely on repaying the new home loan left them with little room to grow their wealth.
And finally, a flat property market meant that they may lose equity in their old home if they sold there and then. Which meant that they could walk away with no money at all.
We needed to act quickly to put them in a better position. That led to us creating three strategies.
Tax Strategy #1 - Tax and Financial Education
Like most Australians, Tony and Rhonda believed in the traditional way of dealing with debt. They viewed debt as something to get rid of as quickly as possible.
That’s why they wanted to sell their old property to reduce their new home loan. They then planned to focus on repaying their loan.
This was an ineffective strategy for several reasons, including:
- High living costs, home loan repayments and their children’s educations left them with little surplus income. This meant they couldn’t accelerate their debt reduction.
- A soft property market meant they likely wouldn’t get as much as their old property was worth when selling.
- Only focusing on repaying debt meant they didn’t focus on wealth creation.
We needed to change their mindset before we could move forward. In particular, we needed to establish that there’s such a thing as “good” debt. The wealthy use that debt to help them repay their home loans quickly.
This is a strategy that works just as well for regular people as it does the wealthy.
This educational period opened the couple’s eyes to what was possible. And it allowed us to create a tax-effective debt reduction strategy that strayed a little from what they originally wanted.
Don’t follow the herd. The traditional way is often not the most tax effective way.
Tax Strategy #2 - Turn Their Old Property Into an Investment Property
The couple now understood why selling to pay down their home loan wasn’t the best strategy. That opened up the possibility of using their old property as an investment property.
Before getting started with that, we advised Tony and Rhonda to make two changes:
- Change their old home loan from P&I to interest-only. This lowered their $52,968 annual repayment by $11,763. That saving could go towards repaying the non-tax deductible new home loan.
- Rent out the old property with the new loan in place. This would provide them approximately $51,900 yearly in tax deductions and $5,050 in tax refunds. This would reduce the ongoing cost of holding onto their old property to $7,909 after tax.
The traditionalists among you may baulk at the idea of keeping a $680,000+ debt. But remember, you can use some types of debt as a tool.
Tony and Rhonda did just that with their old home loan. And there were plenty of benefits to this strategy.
A 1% growth in value of their old property would eliminate the $7,909 cost. Any growth beyond that would result in a profit. For example, a growth of 7% in the old property’s value would generate a profit of $46,691 per year.
Now compare this to the traditional strategy, which would see them put that $7,909 into their new home loan. This would only save them a paltry $477 in interest.
This shows that using the leveraged debt as a tool could offer massive net benefits over time. Better yet, any surplus savings they made after paying their living expenses could get redirected to the new home loan.
They just needed to follow one more strategy…
