In Australia, the interest expenses on mortgages aren’t all tax deductible. Of course, this doesn’t come to your advantage, especially if we were to consider the high costs of housing. Even though investments shouldn’t be driven by taxation reasons, this doesn’t mean that one shouldn’t aim at enhancing his/her taxation situation.
Considering the non-deductible nature of mortgages in Australia, debt recycling is a strategy you could use. It is tax deductible, and you can pay it off quicker.
The Australian taxation system allows you to claim a tax deduction if you borrow money for income producing investments. So, the question is, how do we make our home loan tax deductible?
- Borrow against equity in your residence
- Invest the sums you’ve borrowed in assets that generate income
- Use the income generated by those assets and the tax returns for paying your mortgage principle
- Withdraw the new equity against the paid off mortgage
If you don’t feel comfortable with being in debt, the odds are that you cannot embrace this strategy. Plus, borrowing for investing reasons is, by definition, risky.
Nonetheless, the stock market experiences fluctuations over one-year periods. As we analyse the bigger picture, we could conclude that the stock market is quite resilient, when we look at the income and capital gains.
So, we could say that debt recycling is suitable for those of you who are confident that the stock market is the place to create wealth in the long term.
How to Implement Debt Recycling
To begin with, you should have a flexible mortgage. The most significant aspect is that the line of credit linked to the mortgage should be determined considering the amount of equity in the property.
So, with every mortgage payment made, you pay down some principal. Afterwards, this principal will become available in your line of credit. This way, you could borrow the amount for investments.
Considering that your line of credit is tax deductible, you’ll receive tax refunds. In early years they may be reasonably small. However, they are prone to increase while the line of credit grows. What you have to do is apply the tax refunds to your mortgage and afterward borrow from your line of credit to continue investing.
The benefits linked to debt recycling are two-fold. You manage to decrease your non-deductible debt. And, most importantly, you can pay off your mortgage much faster.
Even though debt recycling is conveyed as a practice meant for diminishing non-deductible debt, the most important aspect is, in fact, that you get to invest in assets that will keep on developing.
To conclude, debt recycling is an excellent strategy, especially for Australian divided investors who wish to pay off their mortgage more effectively and quickly. Still, note that this approach is better fitted for investors who feel comfortable with leveraged investing. By doing so, you could take advantage of the Australian taxation system while accelerating your wealth creation.