Payment Strategy



From: Kevin Rogers

I have 2 investment properties and am in the process of getting a third. It is often recommended to pay interest only to maximise tax deductions. However, I have been paying off principal to improve my equity so that I can get the next property sooner rather than waiting for inflation to do the job. It also helps me to get into a positively geared position.

What is wrong with this strategy?
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Reply: 1
From: Rolf Latham

Hi Kevin

Varying opinions here.

Nothing wrong with that strategy at all excep if you ever use the built equity for private purposes, then the redrawn amount is not deductible, soooooo

Set up your loans as I/O, attach an offset account, get all the equivalent benefits of paying down the loan but still have your "taxed" money available to you and then preserve your borrowed amounts for tax purposes.


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Reply: 2
From: Duncan M

Because its not Tax Minimisation that drives the recommendation to use
Interest Only.

Interest Only is used for two reasons:

1. You have more cashflow to service more debt on more assets.
2. You can pay for a property in 30yrs time in today's dollars.

Whilst trying to build equity is an admirable aim, and without knowing the
size of your debt, you may well be pushing the proverbial uphill in
attempting to reduce your principal enough to afford another deposit..
Capital Growth will do a much more effective job of generating your next
deposit for you.

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Reply: 2.1
From: Sim' Hampel

On 5/15/02 2:06:15 PM, Duncan M wrote:
>2. You can pay for a property
>in 30yrs time in today's dollars.

While technically true, this is in reality a dangerous fallacy.

Yes, you do defer the payment for the property itself (the principal of the loan) until a later date, but the extra costs involved in maintaining an IO loan where interest costs never decrease (assuming constant rates), will outweigh any benefits to be had from inflation.

Basically, while interest rates are less than the rate of inflation (almost always true), you will end up paying more for your property in real dollars by going IO.

HOWEVER... if you can use the extra cashflow in the short term to fund additional growth property then an IO loan can leave you better off than P&I.

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Reply: 2.1.1
From: Gail H

The other issue of course is if you have a large mortgage on your PPOR: better to get rid of the non-deductible debt before you start paying down the deductible debt.

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From: Kevin Rogers

Thank you for your responses.

My current situation is that I own my own home, have no personal debt and do not have an immediate need to borrow money for personal purposes. I operate an offset account to reduce interest on one of the IP loans. I am currently limited by equity rather than cash flow.

The bank will allow me to borrow up to 80% of my equity without mortgage insurance. Each time I apply for a new IP loan I cap my current loans at their current reduced levels and borrow the whole amount on the new IP.

Using this strategy, each dollar that I pay off the principal allows me to borrow $5 and so speeds up the rate at which I can acquire new properties. The equity values of my existing properties are also increasing.

As time goes by, I expect to be cashflow limited rather than equity limited, and so the rules will change.
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From: Duncan M

Still thinking :)

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Subject: RE: Payment Strategy

From: "Rolf Latham" <>

Dunc and JL Im looking for the retort ?



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