Debt recycling and the potential risks

This is our sixth article on debt recycling. You can view our fifth article “Compounding for wealth creation” here.

In this edition, we look at debt recycling and the potential risks that exist as part of the process.

It is important to be aware there are variables that cannot be completely controlled in the financial environment. From interest rate changes to Acts of God (think Covid-19!) – being aware of and mitigating these risks (where possible) is an essential component of the overall strategy.

So, what are the risks?

Through this series of articles, we have identified the many benefits that can come from a successful debt recycling strategy. Like any investment strategy, however, it does carry some inherent risks.

These can include:

Market fluctuations

Borrowing money to invest can lead to bigger gains when markets are rising. However, markets do fall and when they do, your losses will be larger and you still have to pay interest and repay the loan.

Interest rate fluctuations

None of us have a magic wand to manage interest rates. If they go up, your repayments will also go up. This can put pressure on your cash flow which can be compounded further if the income from your investments is lower than expected.

Tax variations

Investments bought with borrowed funds can fall in value. This means that even if you receive tax deductions from the investment over time, it can still fall in value and you could still be in debt even when you sell the asset.

It also takes will power and discipline to use the investment income and tax savings for your home loan each year, instead of spending it on a ‘want’ like a holiday or new car!

Personal challenges

These are future factors that you cannot control today. For example, illness, losing your job or other unforeseen issues such as Covid-19!

If you decide to pursue this strategy, it is worth reviewing your insurance cover to ensure the extra loan can be repaid in the event something happens to you.

Planning for uncertainty

It is important you do not undertake this process without the guidance and support of a professional financial advisor. By using a  professional organisation such as Debt Recyclers, you can be better positioned and equipped to manage the risks and have your plan proactively managed every step of the away.

This management can include:

• Building your personalised home loan repayment strategy
• Refinancing your property to use the right type of loan facility
• Recommending a customised managed investment portfolio
• Regular maintenance of your plan at least twice a year
• Insurance reviews to ensure your debts are covered.

In a nutshell

So, when done via a professional debt recycler, you can:

Be aware of and better manage risk elements

Access and leverage your home equity progressively

Create an additional income stream to fast track your home loan repayments

Build investments (and wealth) + save on tax