How to clear your mortgages?

I'm trying to work out long term goals at present, as well as work out the best structure to continue purchasing in.

One strategy I'm looking into is purchasing a property in a UT owned by a DT, and then down the track clearing the mortgage on that property so the unit can be transferred into a super account to take advantage of tax benefits on the rental income..

Now let's say for the purpose of this exercise I buy a property in a UT owned by a DT today at $200k, and I buy another in my personal name at $200k. 20 years later they are both worth $600k. Both purchased as IO.

The way I see it there are a couple of ways to clear the mortgage:

a) Refinance property in personal name to pay down debt of property owned in trust so that the unit can be transferred to super. I then have one property mortgage free and the other with a high LVR.
b) After 5 years, let each property carry over to P&I. One would assume that in this 5 year period the rent has increased to (more or less) cover the P payments so that in 20-25 years it pays itself off.

Have I missed anything? Is option b) the most commonly used option? The only downfall I can see is it slightly affects your cash flow but if it still remains (about) neutral once carried over to P&I then the property can pay itself off without any intervention.

I'm 21 so if I was to purchase 10 IPs ($2.5M value) by 2018 as planned, then convert them to P&I for say 25 years then by 2043 they will have paid themselves off. I'll still only be 51. If owned in unit trusts then I could then transfer them to my super..

Any advice would be appreciated.

John
 
I'm trying to work out long term goals at present, as well as work out the best structure to continue purchasing in.

One strategy I'm looking into is purchasing a property in a UT owned by a DT, and then down the track clearing the mortgage on that property so the unit can be transferred into a super account to take advantage of tax benefits on the rental income..

Now let's say for the purpose of this exercise I buy a property in a UT owned by a DT today at $200k, and I buy another in my personal name at $200k. 20 years later they are both worth $600k. Both purchased as IO.

The way I see it there are a couple of ways to clear the mortgage:

a) Refinance property in personal name to pay down debt of property owned in trust so that the unit can be transferred to super. I then have one property mortgage free and the other with a high LVR.
b) After 5 years, let each property carry over to P&I. One would assume that in this 5 year period the rent has increased to (more or less) cover the P payments so that in 20-25 years it pays itself off.

Have I missed anything? Is option b) the most commonly used option? The only downfall I can see is it slightly affects your cash flow but if it still remains (about) neutral once carried over to P&I then the property can pay itself off without any intervention.

I'm 21 so if I was to purchase 10 IPs ($2.5M value) by 2018 as planned, then convert them to P&I for say 25 years then by 2043 they will have paid themselves off. I'll still only be 51. If owned in unit trusts then I could then transfer them to my super..

Any advice would be appreciated.

John

Many issues here JM.

To remove a mortgage over a property you just have to pay out the loan. To pay out the loan you could:
1. Use cash from wages and rents etc, or
2. Borrow using other security and then use that to pay out the loan. The property may still have a loan (loan with bank being replaced with loan from individual) but be unencumbered by a mortgage.

However to be able to transfer units to a SMSF there are may regulations (SIS Reg 13.22C and D) which must be complied with. There are also taxation aspects to consider - both before, during and after the transfer.
 
Many issues here JM.

To remove a mortgage over a property you just have to pay out the loan. To pay out the loan you could:
1. Use cash from wages and rents etc, or
2. Borrow using other security and then use that to pay out the loan. The property may still have a loan (loan with bank being replaced with loan from individual) but be unencumbered by a mortgage.

However to be able to transfer units to a SMSF there are may regulations (SIS Reg 13.22C and D) which must be complied with. There are also taxation aspects to consider - both before, during and after the transfer.

Thanks Terry, will have to speak to my accountant about transferring the units to SMSF but he suggested that this was an advantage with a unit trust..

With regards to removing the mortgage, won't converting the loan to P&I and letting it pay itself off over 20-25 years clear the mortgage after that period?

John
 
Thanks Terry, will have to speak to my accountant about transferring the units to SMSF but he suggested that this was an advantage with a unit trust..

With regards to removing the mortgage, won't converting the loan to P&I and letting it pay itself off over 20-25 years clear the mortgage after that period?

John

Yes I agree that it is an advantage.

And yes paying pi over long term will also pay off the loan and then the mortgage can be discharged
 
Yes I agree that it is an advantage.

And yes paying pi over long term will also pay off the loan and then the mortgage can be discharged

Thanks for your help, Terry. I bought 'Trust Magic' by Dale GG this morning and I'm about 2/3 of the way through it - I'm sure I'll have some more questions after reading!

Enjoy your weekend.
 
jmillar, stand back a bit. WHY do you want to clear your mortgages? What in your opinion, is the advantage of doing this? Do you see any disadvantages of clearing all your mortgages?

Just make sure you're asking the right question. Sort of like asking 'what's the best route for me to drive to New Zealand'? In fact, the question itself is flawed.
 
jmillar, stand back a bit. WHY do you want to clear your mortgages? What in your opinion, is the advantage of doing this? Do you see any disadvantages of clearing all your mortgages?

Just make sure you're asking the right question. Sort of like asking 'what's the best route for me to drive to New Zealand'? In fact, the question itself is flawed.

Alex,

Certainly not something I need to consider in the near future but was just asking a hypothetical question to help with long term planning.

As I'm only 21, I was considering whether I should spend 5-10 years acquiring property, and then let them pay themselves off so that when I'm in my 50's I have X amount of properties unencumbered providing passive income.

However, the advice in the other thread has shown me the faults in this, so this option is now ruled out for now.

Was still useful to know though..

Cheers
 
and then let them pay themselves off so that when I'm in my 50's I have X amount of properties unencumbered providing passive income.

The problem with your question is that it assumes paying off the mortgage is the only way to derive passive income from the property.

Fully offsetting the mortgage is on alternative. You get the same income as if the loan is paid off, and you get the flexibility of being able to access the money immediately.

There are other variations. After accumulating for a few years, you might use the equity to buy higher yielding assets (commercial, shares, LPTs, a business). You might do this in another entity. In which case paying off the loans doesn't really matter. You might have your resi property portfolio being neutral cashflow, with your retirement income coming from all the other assets you buy using the resi IP equity.

Fact is, starting as early as you have, the 'standard' strategies may not be useful to you. If, for example, someone starts buying IPs after the PPOR is paid off and the kids have grown up, a SMSF makes a lot of sense. In your case, less so.

Asking the right questions, or asking them in the right way, can open up your thinking.
 
The problem with your question is that it assumes paying off the mortgage is the only way to derive passive income from the property.

Fully offsetting the mortgage is on alternative. You get the same income as if the loan is paid off, and you get the flexibility of being able to access the money immediately.

The only reason I was considering the option of fully clearing the loan was the ability to transfer to super later on in life.

Staying with IO and retaining excess funds in offset seems like the smart option though.

I'm about 2/3 through Dale GG's 'Trust Magic' book - once I've finished that and done some more research on trusts, I'd like to refine my structure/goals properly so I can concentrate on purchase no. 3 :)

I've seen family members recently sell properties that were in their personal names because they never structured them properly to begin with and they missed out on some potential benefits - I don't want to get caught in this trap..
 
The only reason I was considering the option of fully clearing the loan was the ability to transfer to super later on in life.

How much later? In your case, you're talking about 40+ years. If you structure it so that it can be put into super later, are you sacrificing anything now? You should be looking more at your ability to maximise leverage given how much time you have.

I've seen family members recently sell properties that were in their personal names because they never structured them properly to begin with and they missed out on some potential benefits - I don't want to get caught in this trap..

In your opinion, how should they have structured it, and while it might save them tax on capital gains, did it have any other costs? e.g. putting it in a family trust to start with likely saves on CGT when you sell, but do you lose out on negative gearing?
 
One thing to note is that Trusts are not all beer & skittles. Be certain that that's what you want/need before you head down that path.

We have a Trust!

We had a heap of properties in there, but you know what? They were costing us a fortune. You can't NG a trust. Losses stay there and are quarantined until you make a profit. You get no threshold for Land Tax for NSW properties either.

As it stands, we have losses greater than $200k sitting in our Trust. I would have much preferred to deduct that from Hubby's income, but we went in blind, and it is very expensive to remove the properties once they are in there.

Get all the facts, talk to experts, talk to people that have them, don't just jump in before giving it a lot of thought. Think carefully about what assets you will be putting in there as well. It might be what you need, but it also might not.
 
Skater, that is huge loss the trust has. Are the properties postive now? How long do you think before that loss is used up?
 
How much later? In your case, you're talking about 40+ years. If you structure it so that it can be put into super later, are you sacrificing anything now? You should be looking more at your ability to maximise leverage given how much time you have.
Alex, I value being able to leverage now and am definitely taking into consideration the affects of trust structures can have on my borrowing capacity because of loan criteria and the cost of setting up the structures.

One thing to note is that Trusts are not all beer & skittles. Be certain that that's what you want/need before you head down that path.

We have a Trust!

We had a heap of properties in there, but you know what? They were costing us a fortune. You can't NG a trust. Losses stay there and are quarantined until you make a profit. You get no threshold for Land Tax for NSW properties either.

As it stands, we have losses greater than $200k sitting in our Trust. I would have much preferred to deduct that from Hubby's income, but we went in blind, and it is very expensive to remove the properties once they are in there.

Get all the facts, talk to experts, talk to people that have them, don't just jump in before giving it a lot of thought. Think carefully about what assets you will be putting in there as well. It might be what you need, but it also might not.

Thanks for the advice, Skater.

My understanding is that unit trusts can distribute losses to the unit holders based on their percentage of ownership of the total units. Also I believe certain hybrid trusts can distribute losses if structured properly - I haven't finished the trust Magic book yet though so I don't have the complete picture yet.

My next property will be in Qld ($350k LT threshold for trusts) so I won't be paying land tax if in a trust. My next property in NSW will most likely be in my personal name or unit trust though since I'm nowhere near the threshold yet and don't see the value of a Disc Trust outweighing the Land Tax I will have to pay.

By tomorrow I should have finished the book and should be able to more clearly assess which option is best for me :)

Cheers
 
Skater, that is huge loss the trust has. Are the properties postive now? How long do you think before that loss is used up?

Tell me about it!:(

We started off with a couple of positive geared properties in there. All good! Then added some Sydney properties which were negative. The land tax component was quite big too. At the time, we factored in the loss on the properties, but weren't aware that there was no Land Tax threshold in NSW and how much it was going to cost. Yes, talk about naive.

We ended up selling up all except for one Sydney property and some regionals (positive geared). There was no CG on the sale of the properties. It's still losing money, but not too much now. It won't be long until it's neutral.
 
Jmillar

In q'land each trust had a tax thresh hold , so if you limit the value of properties in each trust , you can effectively pay no land tax in q'land , unless the land value of one property is over the thresh hold.

We held up to 15 IP's in q'land and never paid land tax .

In tassie everyone pays land tax but it's much lower .

We've taken the approach of selling some properties to pay down loans on others. Has worked well for us so far . We sold multiple properties in the years leading up to the GFC . As a result when the GFC hit , we were cashed up in terms of equity and cash flow so were able to pick up the best buys of our IP investing career at at time when very few people were able to buy , or even thinking about. If we'd held all of our IP's , with our total borrowing I would be surprised if we would have been able or prepared to buy at that point.

We were able to do this with minimal risk and a very comfortable sleep at night factor .

Cliff
 
Alex, I value being able to leverage now and am definitely taking into consideration the affects of trust structures can have on my borrowing capacity because of loan criteria and the cost of setting up the structures.

Also consider the impact on refinancing, as you're still in the buying stage.

My understanding is that unit trusts can distribute losses to the unit holders based on their percentage of ownership of the total units. Also I believe certain hybrid trusts can distribute losses if structured properly - I haven't finished the trust Magic book yet though so I don't have the complete picture yet.

No, unit trusts and hybrid trusts to not 'distribute losses'. No trust can actually distribute if it's in a net tax loss position. It's supposed to be set up so that the interest deduction on the loan is in the unit holder's name, and the income is in the trust.

While putting in a unit trust may give you the option of putting it into a SMSF in the future, you have to pay CGT (and possibly stamp duty) when transferring to SMSF. Given your age, t doesn't really make sense to transfer to SMSF until you're much closer to the preservation age. If you do it earlier, you risk not having access to it in that period between when you have enough to retire until the preservation age. In your case, that might be a long time.

That means you might end up paying for the unit trust structure for 30+ years, then transfer the units and pay CGT (on 30 years of gains) and stamp duty, to get the income from the property tax free out of your SMSF.

A very rough guide is that after 30 years, the capital gains TAX on a property will be about 10-15% of the MARKET value of the property (depends on the assumptions you use for growth and tax rates). A 300k property growing at 5% a year for 30 years, market value 1.3m, assuming an average 30% tax rate, will incur about 150k in capital gains TAX (capital gains of about 500k, after applying the 50% discount) payable.

My next property will be in Qld ($350k LT threshold for trusts) so I won't be paying land tax if in a trust. My next property in NSW will most likely be in my personal name or unit trust though since I'm nowhere near the threshold yet and don't see the value of a Disc Trust outweighing the Land Tax I will have to pay.

I believe unit trusts don't get a land tax threshold in NSW either? A DT for a negatively geared property has its own issues. You get asset protection and income streaming ability, but no negative gearing.

If you buy in your own name in QLD you won't be paying land tax either.

Don't create complicated structures just because you think that's how rich people do it or that it sounds cool. Your structure should be tailored to your circumstances. Unfortunately (or fortunately), your circumstances are rare, so the 'standard' structures may not apply and you have to really think it through yourself.
 
Back
Top