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What is Debt Recycling? Is it a Smart Financial Strategy?

If you are planning to begin investing but are financially limited because you are still paying your home loan, then it’s time to learn about the idea of debt recycling and how it can help you simultaneously pay off your home loan and create wealth.

What is Debt Recycling?

Debt recycling works by distributing or recycling a private home loan into a debt on which the interest is tax-deductable – distributing your home loan payments more efficiently.  It is particularly suited to people with a private mortgage wanting to borrow funds for investment purposes, eg. property or shares.

So how does it work?  Your private home loan is a non-deductable debt, using a debt recycling strategy it can be replaced with a deductable debt that becomes your investment.  The investment loan is interest-only and the payments that would’ve been made on that loan, along with the earnings on the investment, are applied to the private home loan.

Debt Recycling Strategies:

While there are different debt recycling strategies, the basics should always be present.  Primarily, debt recycling begins by making sure that cash flow is freed up, which may include consolidating all your debts into a new loan.  This will give you enough financial resources to start an investment.  

You can then begin pulling all financial resources into the loan while redrawing funds to the investment portfolio until such time that your debts have been converted into deductible debt, which can then be deposited into your investment accounts.

Another strategy that some homeowners practice begins by using all surplus money to pay your home loan just so you finish one loan before spending on another, eg. an investment property. The increased equity can then be borrowed back, which you can then use for investing (tax deductible).  After sometime, the earnings you get from your investment can be used to pay off your home loan and then the cycle continues until you have managed to pay off your loan completely.  During the entire process of borrowing and re-investing, you are actually creating more wealth while paying off your loan.

Other benefits of debt recycling include accumulation of assets for a longer period and growth potential despite a down investment market.  However, the best reason to consider debt recycling is because it will allow you to retire earlier than you planned. Unlike most people who are still paying of their home loans until they’re way past 50, you might actually get the chance to be retired by then!

What are your views on debt recycling?  Do you think debt recycling is for you? Post a comment below.

Scott Partridge is franchise manager for Mortgage Choice, Parramatta.   Contact Scott on 02 9659 2000 or email: scott.partridge@mortgagechoice.com.au