Becoming debt-free on your home is the day you can loosen the purse strings a little bit. You can also target your investment debt and fast track your wealth creation strategy.
So, let’s look at implementing a plan that will have you debt-free more than a decade or more faster than you are tracking right now.
When you have a home loan and you own an investment property, you have two lines moving towards each other.
One line is going down (the balance of your home loan, as you pay it off), the other is going up (the value of your investment property).
One day they will meet. When they do you’ll be able to sell your investment property and the profit will be enough to pay off your home loan.
Let’s look at an example of someone who owes $250,000 on their home loan and buys an investment property for $400,000.
Their home loan is $1,550 a month and they’ll be debt-free in 27 years, paying the bank $510,000 including $260,000 of interest along the way (using an interest rate of 6%).
After 10 years their home loan debt is about $200,000. At the same time the investment property is now worth $716,000 (using a growth rate of 6%).
Yes, almost exactly the amount needed to pay off the home loan and become debt-free.
Of course, this depends on your personal circumstances and how quickly you pay off your home loan. And it also depends on getting 6% capital growth.
Before we go on, a quick note about the selling costs in this example. You may baulk at paying $99,000 for legal fees, sales commission and capital gains tax. But don’t forget all the interest you save on your home loan. Only $137,000 to the bank instead of $260,000! A saving of $123,000, not to mention becoming debt-free almost two decades earlier.
And being debt-free now provides $1,550 extra a month in payments you no longer have to make – for 17 years, that’s a total of $316,200. Think about that for a minute, imagine how much wealth creation you can achieve with that much money to invest. Debt reduction is a guaranteed wealth creation strategy and it’s risk-free!
This is definitely a strategy you should think about. Maybe don’t even think about it, if you have a large home loan, just do it.
By the way, when you have a portfolio of properties, some will grow in value faster than others, it doesn’t matter which one you sell to be personally debt-free.
If one has given you great capital growth you might be reluctant to sell even to pay off your home loan, but there’s no guarantee it will perform just as well in the next 10 years.
Do you have to wipe off your total home loan in one go? Of course not! I remember a couple I worked with, Bill and Edith, who were keen property investors with a large home loan and a plan. As soon as one of their investment properties showed a decent capital gain they would sell it and pay a lump sum off their home loan.
They kept this up until they were debt free, then they sold up and bought a farm. It took about 10 years, but they were debt-free 15 years ahead of schedule.
Redirecting some money towards an investment property instead of your home loan often makes sense, as we discussed earlier. And, by using an investment property as a means to pay off your personal debt, you can have your cake and eat it too.
One last word on this: when you sell the property make sure you replace it, otherwise you will lose all that future capital gain.
- Michael Sloan is the author of The Formula to Successful Property Investing and Cracking the Real Estate Code. He is the co-Founder and director of The Successful Investor, a national property advisory firm.