Owning a home is everything, but perhaps, growing one’s wealth is better. One important question to ask is this: “Should I just pay off my home loan or get an investment property?”
Come to think of it, the quicker you pay off your home loan, the more sensible it gets. Interest will be less and manageable over time.
But it is possible to take on more debt and purchase an investment property. This is clearly a decision that’s not for the risk-averse. But the good thing about it is that if done well – this could prime you up for a worthy investment that will help advance your financial situation.
Is it a Good Idea to Pay Off First your Home Loan?
Decreasing your mortgage debt is one of the smartest ideas you can think of. Take a $200,000 mortgage over 30 years at 4.5% fixed interest rate, you will eventually be paying $364, 813 in interest on top of the loan value.
But if you include an extra $100 in your monthly repayments to the principal amount – your loan will turn out to be fully repaid in 25 years rather than 30. This is 5 years quicker versus the original scheme. Bonus: you will realize a savings of $31,745 in interest payments.
If you bring this up to an extra $150 per month- the loan will be fully paid-up in 23 years with $43,204 as savings. Note than a single extra payment done each year shortens the amortization and decreases the interest amount, as long as the payment goes to the principal and not the interest.
It is quite natural to say to not part with the necessities or just take money from your profitable investments to be able to handle the extra payments. But if you cut-down on unnecessary expenses or luxuries and put that money for the extra payments certainly makes good financial sense. It provides flexibility for you to pay less in some months.
Suffice to say that the advantages to paying off your mortgage faster are apparently clear:
- Freedom from debt = higher financial freedom plus less worries on repayments.
- More equity, less debt as property is wealth.
- Take hold to save your hard-earned cash.
Why do you Have to Buy an Investment Property?
Are you aware that if you take a loan to buy a good investment property – an income-generating and wealth-building asset, this is considered quite a beneficial debt?
If you buy an investment property versus pay off your home mortgage, it can see you through a number of benefits like capital gain from the property’s sale, rental income and negative gearing’s tax benefits. It just shows that acquiring additional loan seems reasonably favorable.
The activity in having to pay off your mortgage in a definitely shorter period of time makes good financial sense – with the higher benefits if one does this early on in the loan, not much later. It is because of compounding interest. Thus, prompt repayments at the beginning of a 30-year loan are far more helpful in taking down interest versus additional repayments done 15 years into the loan.
Here’s an illustration (Case of James and Lauren):
Option ONE ( long way to go before it’s paid….)
- Acquired home loan for 30 years with payment of principal averaging $10K a year.
- As a result of compounding interest – this means that they could’ve paid within the $120K to $150K range off their loan within 10 years.
- It will take a long period of time to finally pay-off the total principal but they would get there.
Option TWO ( an entirely different plot…):
For instance, the couple got a loan with the deposit coming from equity in their home then bought a property for investment amounting to maybe $500,000 that escalated its worth in 10 years bringing it up to $1 million in value.
In about 10 years – that would be profitable at $500,000, increasing at a growth rate of only over 7%.
The first scenario shows it would cost them $150K at most for their home debt. While the second one gives us a glimpse of how the couple is at $500,000 gain since they made use of their money to use up for a loan investment versus paying their home loan.
James and Lauren are still way ahead even if they had a home loan and didn’t think of property investment. Due to inflation – their debt is not so much a burden for them, while their home’s appreciation value is much lower (or it’s just a smaller percentage of the total worth of the home). To put it simply: the loan to value ratio is much diminished and very manageable.
Absolutely, it is selling their property so money can be directed in paying off home loans completely. Though this is a telltale sign of “killing the chicken that lays the golden eggs.”
The storyline is that James and Lauren linger in purchasing a property until their home repayment is completed. They’re missing out entirely in almost 30 years’ worth of future capital growth as they could have invested in one.
So, this merely shows that when people ask, “When is the best time to invest in a property?” — this is the best answer: as soon as you can!!!
What if their Situation is Taken to Another Level?
Just imagine if the couple also made investments in a number of properties through the years with their increased equity of the investment property and their own home to be eligible for more loans. It could be that they may even sell down then pay off their home loan in say, 10 years as their properties accelerate in value. It’s an upbeat situation where they now have more surplus in their budget prompting them to purchase more properties as well as do auctions on key gold homes property buys. For the 30-year timeline for the home loan – their property portfolio is about $3.5 million and they entirely own their home.
Perhaps, if they preferred to pay off their home loan first – they could have merely paid it with 30 years of interest value plus they are only just starting to invest at a rather late age of 55 to invest in properties.
Or, if they chose to pay off their home loan first — they could have simply paid off their home loan with 30 years’ worth of interest, and have to start investing in properties at age 55.
Whatever advice you’ve heard, take the time to research and properly investigate the best course of action suitable for you and your personal situation.
Remember, if you wait 10 years to invest in property, you may miss a whole cycle of capital growth.
This will not only impact your bank balance, but will rob you of an opportunity to increase your asset base and work towards a relatively financially healthy retirement.
If you’ve been into much guidance – ensure you find the time to do research and study well on what the best course of action is for you and your situation personally.
Do you Both Have Investment Property and Home Loan? Which should be Paid-off First?
Suppose you had a $4 million worth of loan: $2 million for your home and the other $2 million for some of your investment properties – bringing about $150,000 in gross rental income, interest rates of 5% as an example.
If you paid off your home loan first, you don’t have to come up with $100,000 a year to pay the interest portion on that loan. You need not have a job that’s perhaps offering you more than $100,000 a year with after-tax income.
But if you’ve paid your investment properties first, then it’s entirely a different set-up. First off, you don’t have to bring this amount of money to pay the interest on the debt – surely that’s being taken care of anyhow by the rental income. This $150,000 of gross rent is actually a direct provision for you. Plus, if you lessen the 20% portfolio’s running expenses – the result is $120,000 straight to your hands.
You still have the home loan which needs $100,000 but the remarkable thing is you don’t have to work to have it. This indicates either you can slack-off in your work hours or opt to go on working for maybe a decade or so to fully pay your loans, then have an early retirement. A much-anticipated reward but is it worth the wait?
Is there a Tax Problem?
Yes, of course — there is a tax problem. If you receive more income, then you pay higher taxes. It is the kind of just having a side gig to assist you in paying off whatever loans you may have. The hesitation though in this concept is that one is not into wealth creation, but rather on minimising tax.
What can one do to get a different result? The best proposal is a basic evolution in property investment strategy.
Plus, there’s one significant condition for consideration:
The above mentioned are mostly based on the premise that one buys “investment grade” properties — those that provide greater capital growth.
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