One of my neigbours is a builder. He and I often chat when we run into each other in the front of our houses. He has a philosophy about his personal finances that would surprise most people. He is debt averse. In fact, he boasts that he has never owed a single dollar in his entire life. Yet he is relatively wealthy.
How did he achieve this?
Well it helps when your family was granted crown land in the upper north shore (of Sydney) more than a hundred years ago. We refer to this in Australia as “old money” when in fact it would be defined as welfare today.
I once pointed out to my neighbour that had he used debt as a way to leverage his assets into other investments and repeated that over the years he would in fact be 4-5 times as wealthy as he currently is now. I left him with mouth agape.
Most people go through life just wanting to repay their mortgage. Others take a modicum of risk. The way they do this is to leverage their only substantial asset, their home, to invest in something else. Is it risky? Of course it is. However, there isn’t a single investment you make in life without risk.
You often see people in the media that own say a dozen investment properties. The way they do this is buy one with a 10% deposit. As the property market rises in value, they have their lender re-value their property. They then use the increased value to withdraw equity and place that as a deposit on a second property and then they repeat the process again and again.
This strategy works well in a rising market (assuming rental yields cover the expenses). The risk here is that borrowers get a little too ambitious and when the property market eventually falls, rental yields no longer cover expenses and the bank may re-value their properties and ask the borrower for a top up. If you don’t have the funds you will then be forced to sell in a falling/depressed property market. Obviously, this is not a strategy I would recommend to everyone (or anyone for that matter).
Another strategy (that’s employed by the wealthy) is to gear up to the maximum amount possible and acquire a very expensive family home. Why do they do this? Because your family home is exempt from capital gains tax (CGT). Think about it. If you buy a home for $10 million and prices rise by 60% (and they have) you then have a $6 million profit that is tax free.
However, in the real world, most people that use our services want to acquire their first or second investment properties. Which they will utilise as they get older to supplement their retirement income. They do this utilising debt. In fact all of the people in the examples cited above (with the exception of my neighbour) utilise debt. Why? Because at the moment it’s cheap. With home loans at 3.85% or lower and investment loans at 3.99% and a shortage of supply, we can’t see this merry-go-round stopping any time soon.
The only thing that’s souring the experience is that banks are trying to put artificial barriers in place. That worked for a few months but the market has responded. There are now foreign lenders popping up that will take up the space left by the banks – at a price. So if you have owned your property for a while chances are you’ve built up significant equity in your home. The question is what will you do with it? Why not get some advice first?
Start with a financial planner or an accountant. If your plans include debt, we’re happy to help.