Nothing written below is financial advice. The below questions and answers are for general information only and should not be taken as constituting professional advice. You should always do your own research when making any financial decisions.
Question (3:52)
Hello,
I have found a lot of information in regards to paying off a mortgage vs investing. However, I cannot find much to match my circumstances and am hoping you could shed some light.
I live with my father and have a very low cost of living. I have an investment property and also invest in Vanguard index funds.
If I lived in my property I would prioritise investing in the equity funds over paying extra on the home loan. My question is would there be anything to think differently about if the property is being used to create income as an investment rather than a debt burden if I was living in it? Is there any reason to prioritise paying extra on the mortgage?
Thank you,
Steven
Firebug’s Answer
Hi Steven,
It depends on a few things.
Is your IP’s loan interest only or P&I? I have recently changed both my I/O loans into P&I because the difference in interest rate between them has reached a level so great that it’s only around $150 extra per month to switch to P&I. This comes with the added benefit of actually paying down the loan too.
This was the intention from APRA when they had a crackdown on I/O loans. I didn’t want to switch to P&I because like you, I would rather invest in the market vs paying off principal. But there comes a point in interest repayments when I had to make the switch. Touché APRA.
Take a look at the rate you’re paying and work out how much you could save in interest if you switched to P&I.
The other part to this puzzle for most people is their risk tolerance and how they react to bear markets. It’s very safe to simply smash out a mortgage ASAP. Some people can’t sleep at night with a lot of debt to their name.
Mathematically speaking you’re historically better off not paying extra off your loan but instead investing that surplus into the stock market.
Just make sure that if you do have extra to put in, dump it into an offset and not against the loan. This is for tax-deductible purposes and may help you later on if you decide to use that offset money elsewhere. A redraw and offset are not the same things!
-AFB
Question (11:27)
Hey,
First of all, thanks for the great content!
I wanted to know if you have any posts on super or any advice on what to do with your super account for early retirement? Do you have an SMSF or do you go through a specific super fund? Basically, I want to know what I can do to optimise my super. I live in QLD and I’m with Qsuper.
Thanks,
Jack
Firebug’s Answer
Hi Jack,
This was one of my goals for 2018, to write more about Super which I have failed miserably 😞
I tried to get a Super expert on the Podcast but just kept on getting the run around with them. I was close to getting Trish Power on from superguide.com but I couldn’t lock in a time and date. She’s a busy woman!
I just have so many other things to write about that Super got a bit neglected, unfortunately.
I’m personally with Vision Super and Mrs FB is with VicSuper. I’ve heard great things about HostPlus and recently, Rest Super just released investment options where they charge 0% in management fees. You still have to pay the underlying fees but usually, Super funds charge their own fees on top of that so it’s a pretty sweet deal if you ask me.
Super can bundle other things like life insurance so make sure you do your own research and compare apples with apples.
-AFB
Question (15:20)
Hi Aussie Firebug,
Thanks for your Great work on the blog and podcast.
I wanted to ask about your move to Strategy 3, I think I understand the logic behind it and what you’re looking to achieve.
If I can play devil’s advocate, wouldn’t it make more sense to invest in higher growth indexes for now (e.g. US Markets/VTS has massively outperformed ASX/VAS/A200 over the last 10 years even allowing for dividends), as this would grow your net wealth and allow you to achieve FIRE earlier. After that, you could sell VTS/VGS, convert to dividend paying shares and LICs, and live off the passive income?
Key point being, while you’re working and not reliant on the dividend income, growth stocks/Index funds would allow you to grow the pie larger and more quickly. Once it’s at a sufficient size where the equivalent value in Aus dividend stocks/index funds would pay enough passive income to live off you would sell and convert right?
Cheers and thanks for your time.
Rando
Firebug’s Answer
Hi Rando,
In a perfect world, this is exactly what I’d be doing. But unfortunately, our world and financial markets are far from perfect.
What you’re suggesting here is to basically try and time and market. Which is really, really hard to do. The biggest risk is a big bear market just before retirement. If the markets tanked (ironically they are plummeting each day as I type this), it could delay our retirement date by years. I’m more comfortable with strategy 3 even if I have to work a year or two more to get to the end goal.
It’s ironic that you mentioned VTS too because it has had a very rough trout during the last few months
Could you imagine my disappointment if I was going to retire in 2019?
Having said all that, I do hedge my bets a little with VTS and VEU. But the focus for now in the Australian market.
-AFB
Excellent stuff. Always a great read. Thanks for taking the time to make this all. Cheers
No worries BHL 🙂
Love creating this content for everyone. It’s my passion
I’d like to hear a good argument for moving out of Q Super. Personally I’d have them in the top 5 funds which are available when you take into account features and insurance. This of course is not advice.
Hi AFB. Happy New Year. I understand that an offset and redraw are different in that your offset is always reducing your loan balance but so is the amount in redraw. Are there any tax differences that I am not aware of? I am currently drawing down on my redraw to buy shares as the return is greater.
Putting money into an offset is essentially putting money in your own bank account, that happens to offset the amount of interest you pay on your loan. The money still belongs to you and is not considered paying down the loan.
Putting money into a redraw is considered actually paying down the loan. When you take it out, you are essentially borrowing against your property.
If you have a PPOR and you want to invest that money, you are best paying down the loan (ie redraw) and re-borrowing it, because it turns non-deductible PPOR debt into deductible debt, so you for then on you essentially get free money from the government in the form of tax deductions each year.
If you have a PPOR and you just want money available but not to invest, then put it into an offset because with a redraw they can change the rules and not allow you to borrow it back out later.
If you have an investment property (IP) instead of a PPOR, it is already tax deductible, so a redraw has no advantage but they can disallow you borrowing it back out later, so always use an offset with an IP.
The consequences can be serious. Losing access to 50 or 100 grand is not uncommon for people who thought they could just put it in a redraw only to find they could not re borrow it out. Similarly the loss in tax deductions for putting a 100k deposit on a new IP from your PPOR offset without putting it into a PPOR redraw and borrowing it out means a lot of money each year for the life of the loan (often 30 years) that you can’t get back.
Thanks for the Info. In the article AFB says to do the opposite though. Put it into the offset not into the loan.
Be careful with the redraw for PPOR.
If you pay off your loan on your PPOR and move out of it to turn it into an investment property. You cannot ‘redraw’ your money out and have that part of the loan as tax deductible!
The ATO look at what the original loan was meant for (a home) and will not allow that redrawn money’s interest to be claimed as a tax deduction.
For this reason, most people I know choose to throw everything in the offset. Because if they ever turn their home into an investment, they simply use the offset money elsewhere and the full loan is now 100% tax deductible.
You can use a line of credit to debt recycle your home loan. But you cannot pay off the loan and redraw it to invest and claim that part of the loan as now tax deductible.
A bit confusing but I hope that makes sense.
Hey Aussie Firebug,
I’m still catching up on your old content and loving it so far but the chat about offset and and redraw for PPOR got me here to see if there were any comments and walah!.
You can actually use your redraw on your PPOR for debt recycling. There is monthly accounting that you need to do which can be done in a spreadsheet however a redraw is typically considered a separate loan from the your bank. If 100% of the redraw is used for investment purposes, i.e. buying shares, you can use the apportionment method provided in TR 2000/2. (Skip to Apportionment calculations)
https://www.ato.gov.au/law/view/view.htm?docid=TXR/TR20002/NAT/ATO/00001
I agree if anyone intends to convert their PPOR into an investment property that redraw isn’t ideal, but for those that simply wish to have a PPOR and invest into the stock market they don’t actually need a line of credit, which typically has a much higher interest rate than your standard redraw PPOR home loan.
Keep up the great work!
Another good article. It’s a little unfair to pick on VTS though, as, to me, it’s actually one of the best examples of why you should ignore market fluctuations. I started investing in mid-2017 and despite a bad year, it’s still up. Whereas, the gains from VAS in that time are all wiped out (save, of course, for the delicious dividends). I always find myself in a quandary over whether to shift focus completely to AFI/WHF/VAS or not, or keep adding to VTS from time to time i.e. how much to switch from strategy 2 to 3. Anyway, keep up the great work.
I love me some VTS. It’s been my best performer since mid 2016 by almost double! But the reliable dividends are too good to pass up IMO.
Horses for course and always invest in what you’re comfortable in. No such thing as the perfect strategy.
I thought Rando made a good point, and AFB didn’t really address the issue in a thorough way.
Rando was asking why not invest in VTS during accumulation (for growth), then transfer to LICs during FIRE to receive the regular dividend stream. I think Thornhill doesn’t really address this either. Just saying that the VTS is volatile doesn’t make a good point because in accumulation it shouldn’t matter.
Since VTS is easily available to Oz investors, and is massively diversified into more than 3,000 US companies (which basically equals worldwide exposure), and has clearly outperformed the equivalent Oz funds (VAS, LIC’s etc).
It’s basically a bet that Oz companies are as good or better than US firms. I love Oz, but my gut is that if an Aussie firms starts a fight with a US firm, I’d bet the US one is going to win. The US doesn’t have anywhere near the social and worklife benefits that Australia has…. but that environment does spur some incredible economic powerhouses… as evidenced by the returns. The US has been the greatest wealth creation system in the world since the British Empire, and we’d need to bet that this is going to change in our investing timeline.
I’m just raising this, because like you, I’m invested in both markets, love Thornhill… but see that my VTS investments are continually doing the best, so what gives?
I’d like to see the analysis that shows during which periods you would have been better off not investing for growth in the US?
Hi Emdo,
I don’t look at it as ‘what’s going to perform better’, because as we know, that’s basically impossible to know and is a gamble. I look at like ‘what suits my strategy better’. VTS is great! I invest in it. But it doesn’t produce the passive income I’m after (you could argue the sell down method works well but that’s a personal preference).
My main concern I have with going international and then switching to Aussie shares is that if you run into a bear market right before you retire, you could be waiting years for it to recover.
Dividends are less impacted by bear markets on a percentage basis.
Cheers
The other thing to consider buying international shares is currency risk. I lived in the UK for years.
When I first arrived I was paying 2.60Aud for 1GBP and when I left I was only getting 1.60Aud for each 1GBP. That was in 2010 and it still has not recovered.