Be prepared for rates to rise
LAST week the Reserve Bank of Australia continued their policy of returning interest rates to normal. How far up they will go is anybody’s guess but keep in mind that the current cash rate of 4.25% is still 3% less than the 7.25% they were in April 2008. This means it is conceivable that home loan rates could go to 9% or even a little more.
Obviously, the extent of any rate rises will depend on the extent of the recovery in the Australian economy but, in the current circumstances, it would make sense to put yourself in a position of strength so you will not be forced out of your home due to increases in your loan repayments.
A great strategy is to make sure you repay at least $800 a month for every $100,000 you borrow. For example, if you had a loan of $300,000, you would make payments of at least $2,400 a month. This will keep the loan term under 30 years if rates are 9% and will give you a great safety buffer if rates stay down. Even if rates held at 8%, repayments of $2,400 on that loan of $300,000, the term would be 22 years.
I also urge you to make your payments fortnightly. Instead of paying back $2,400 a month, pay back $1,200 a fortnight. Because there are 12 calendar months and 26 fortnights you will be paying an extra month’s payment every year without feeling it.
Above all, keep in mind that most mortgage stress is not caused by the home loan repayments themselves, but by extra commitments such as credit card debt and personal loans. Make sure you focus your energies on getting rid of these as soon as possible – this will give you a further safety buffer.
Noel Whittaker is a director of Whittaker Macnaught Pty Ltd. His advice is general in nature and readers should seek their own professional advice before making any financial decisions. His email is email@example.com.
Question: We have two properties – our principal place of residence and an investment property. Our current house is in both names and has about $150,000 owing against a total value of $350,000; the second, in my wife's name, has $140,000 owing against a total value of $300,000 (my wife has had the investment property for five years). We are thinking of selling the investment property and using the money to pay off our current home and then mid next year buying another larger property. What scenarios can we consider with regards to capital gains tax, the interest on the loans we are paying - she is not planning to go back to work for six months? We currently earn $90,000 a year each.
Answer: Your wife will be liable for capital gains tax on the sale of the investment property but if she lived in it at any stage before renting it out there will be an adjustment made to reflect the period of residence. As she has had the property for longer than a year she will be entitled to the 50% discount so you may find, after doing the sums, that there is not a large amount of CGT to be paid if she sells the property in a year when she has no income. Just bear in mind that CGT is calculated on the date the sales contract is signed, not the date of settlement. Talk to your accountant before you sign any contracts.
Question: I am researching companies with the view of investing $500 at a time. I am more interested in keeping the shares over a long period of time for the dividends. Am I being too conservative buying in $500 allotments? I am actually saving to buy so I don't miss the money - or is there some other investment you would suggest?
Answer: I believe that shares are a great buy over the long term but the way to maximise your returns is to have as much money working for you as soon as possible. If your income is secure, you could take advice about conservative borrowing for investment in shares. For example, you could build a portfolio of say $5,000 in quality share trusts and then commence a regular gearing plan whereby you invested a set sum, say $250 a month, which was matched by borrowed funds of up to double that. This means the total investment was $750 a month of which $250 comes from your own funds and $500 is borrowed. As the portfolio builds you could refine your strategy and even possibly move to a home equity loan.
Question: How do I build on my super if I choose to reduce/quit my job due to lifestyle choices i.e. offspring or looking after parents? Would I need to invest my partner’s money from his job or even borrow money to increase the amount of money needed for our retirement?
Answer: The key to building wealth is to invest using funds you have generated from surplus income, or create a pool of investment by using excess income to borrow. Unfortunately if you are reducing your income the wealth building process becomes much more difficult as you are reducing the amount of resources available. In your situation I think you should start from scratch and consult a financial advisor to discuss exactly when you would like to retire and how much you believe you will need then. The advisor can then help you design some strategies that are appropriate for your goals and these could include borrowing for investment or salary sacrifice