Debt recycling- have I got it half right yet?

[ZOMG]

Been reading up on debt recycling after going through a couple of threads here and this is my understanding applied to my own situation. Feedback more than welcome!

Briefly, I currently have a loan for $440k for my PPOR, and arranging finance for IP that costs $263,000. I've received unconditional approval for 89% LVR for the IP. I have stashed all spare money into offset against the PPOR and there's currently $140k in there. After the current IP purchase, I intend to make another one within the next 6 months using the same debt recycling method. Now I'm trying to apply debt cycling and made some very amateur clip arts-

Have I understood it or am I completely off track?

 

[Brady]

Lost track with the shapes.

Can you please clarify current value of PPOR - what LVR are you?

 

[ZOMG]

Lost track with the shapes.

Can you please clarify current value of PPOR - what LVR are you?

Excuse my shapes, I'm a visual kinda person

PPOR is currently 80% LVR, payments are IO.

 

[Brady]

Debt recyling - decreasing your PPOR debt and increasing your IP debt.

Rather then using $$$ from offset as deposit you decrease your PPOR debt and borrow the funds as a seperate loan to be used for the IP therefor tax deductable.


Purchase Price $263,000

Purchase costs for the property will be approx $14,000

So total funds required will be ~$277,000

Borrowing @ 89% is approx $234,000

So you will need $43,000 cash/equity.


Rather then using the $43,000 cash from your offset account as the deposit, as this would increase the interest charged against your PPOR. Simply pay off $43,000 from your PPOR loan ($440,000 down to $397,000). Then redraw / seperate loan $43,000 back for the deposit.

End result

$397,000 PPOR HL w/ $97,000 in offset
$43,000 IHL
- both these secured agains the PPOR

$234,000 (+lmi) IHL
- secured against the purchase property

 

[Peter_Tersteeg]

You haven't indicated how you'll actually be reducing your non deductible debt, which is what debt recycling is all about.

It kind of looks okay, but I'd use different diagrams to describe it. What you appear to be doing is:

1. Currently owe $440k non-deductible, with $140k in the offset account.

2. Use $140k to pay down the non deductible home loan.

3. Borrow back the $140k via a separate equity loan to be used for investment purposes. You've not got 2 loans, the equity loan has not been drawn yet.

4. Use the equity loan as a source of deposits for other investment properties. You seem to have ignored that on top of the basic deposit (the 11%), you also need to pay about 5% in stamp duty.

5. Presumably get another loan for the remaining 89% of the investment property purchase.

6. At this point you've lost me. I can't see how you increase the $140k loan to $169k. What should happen is you've now got a $140k limit with only $29k drawn.

All you've done so far is use equity and savings in a tax effective manner to purchase investment properties. I wouldn't actually call this "debt recycling" at this point, just good structuring and good use of the offset account funds. Real debt recycling is a more advanced technique and tends to be what happens after you've used the investment.

The title of the post is correct, you're about half way there.

At this point you start debt recycling. This is a strategy where you use income from the properties to further pay off the non-deductible debt, thus creating more equity allowing you to repeat the process. Part of this can be accomplished by using the equity loan to fund some of the ongoing costs of holding the investments. By repeating this process over time, you can switch all your non-deductible debt into tax deductible debt and build an investment portfolio on this side.

You probably need good accounting advice to pull this off and not get on the ATOs bad side. Given that most properties tend to be negative cash flow when you purchase them, it can also be a difficult to actually execute this strategy using properly as the investment of choice.

 

[Brady]

Agree with Pete, furthermore

Rather then paying for investment property expenses from your $$$ which again increases your interest charged against your PPOR. You could borrow funds to use for IP expenses and keep your $$$ in the offset.


So instead of using $$$ from offset....

$300,000 PPOR HL
$43,000 IHL (used for purchase of IP)
$97,000 LOC/HL (used SOLEY for IP expenses, could also later split an amount off to use for future IP deposits)
- all these secured agains the PPOR

$234,000 (+lmi) IHL
- secured against the purchase property

 

[Terry_w]

I agree with Peter, you are only half way there!

 

[D.T.]

I agree with Peter, you are only half way there!

Doesn't he need to consider death or divorce?

 

[vaughan]

Doesn't he need to consider death or divorce?

That's a pretty extreme strategy for debt recycling. No doubt it works for some people.

 

[Rolf Latham]

slap in a managed fund or 2, and a global loan limit that allows you to change the splits regularly and you are getting closer to the fuller debt recycle model.

ta
rolf

 

[ZOMG]

Thanks for all the great feedback!! It's certainly helped me flesh out the understanding of loan structuring more. Still a long way to goooooo