03 Jul Interest Only – The good, bad and ugly – Andrew Mirams
Borrowers are constantly asking the questions about interest-only loans. Maybe they should be splitting their loans up and paying principal and interest as well as interest only. We focus on the good, the bad, and the ugly with interest-only borrowing as we talk to Andrew Mirams.
Kevin: Borrowers are constantly asking the questions about “Is it a time to be doing interest-only? Maybe I should be splitting my loan up and paying principal and interest.” Let’s get a good look here, a bit of a focus on what the good, the bad, and the ugly, is with interest-only borrowing. Joining me to discuss that, Andrew Mirams from Intuitive Finance.
Andrew, thanks for your time.
Andrew: My pleasure, Kevin. Thank you.
Kevin: What’s the good, the bad, and the ugly? Let’s start with the good. What are the good points about interest-only borrowing?
Andrew: Absolutely. I think with interest-only, obviously one of the benefits is it reduces your cash flow outgoings. When you have your rents coming in and your outgoings going out, not having to pay the principal component reduces your outgoings and that makes it more affordable and easier to hold your properties, especially if you’re growing your portfolio.
Another great point with interest-only is it allows you to prioritize your debt reduction or your debt allocation. You want to be paying off non-deductible debt, especially if you have any personal debt or a home loan, which isn’t deductible. You would be wanting to make your principal or capital reductions to those loans versus allowing the tax-effective debt for your investment sitting there and not having to repay it.
Another thing is you can have an offset account still against the interest-only loan, and that can sit there and obviously then further reduce your outgoings the more you have in your offset account.
And finally, the best thing probably about interest-only lending when you’re doing it for buying investment is the tax effectiveness of it.
Kevin: Some great points there that you make on the upside. What about the downside? There have got to be some bad points to it as well, Andrew.
Andrew: This is where careful consideration of every person’s situation has to be taken into account. Some of the bad things that we’ve seen over the journey is that people get complacent with the lower cash flow requirements and the outgoings and they can then lack the discipline to monitor their spending and put that extra aside in your offset account or something like that.
The knock-on to that is when the interest-only period actually expires, you can then be faced with higher repayments, and if you haven’t got those disciplines and haven’t awoken out of your complacency and you don’t have the upturn in your income to be able to meet that, it can put you at risk.
Another bad thing that people often don’t think about is that by not making any capital right from the outset, it actually makes your loan more expensive over the life of the loan.
Kevin: There are a lot of things to consider. I guess the bottom line here, as always, is make sure that you consult a professional to find out what your personal situation is.
Give us the ugly, the real bad bit.
Andrew: Sadly this happens as well. What if your property hasn’t performed and you haven’t had any capital growth? What if actually then you’ve bought a property… In recent times, we’ve had the mining towns downturn and things like that. What if by paying no capital off, you’re now sitting on some negative equity? What we mean by that is the property is worth less than your actual loan, and now you’re not paying anything off it. It can really put you at risk, I guess, without careful consideration.
The other thing is what if you’re unable to meet your repayments on the expiry of that fixed rate? That can lead to some forced asset sales and things like that if you haven’t been able to monitor your spending and be accountable through the journey of your interest-only period.
Kevin: We say again, make sure you take professional advice, and you’ll certainly get that if you talk to Andrew Mirams and his team at Intuitive Finance. You can contact them through the website, RealEstateTalk.com.au.
Thanks for your time, Andrew. Great talking to you, mate.
Andrew: My pleasure, Kevin. Thank you.