Low rates make for a good time to pay off the house.
Repayments are a better option that super for some, writes Duncan Hughes.
Matt Burrell, 31, and his wife Kayla, 29, face a dilemma – should they pay down their mortgage or increase superannuation contributions after the eighth interest-rate cut in three years.
The young Brisbane couple, who are expecting their first baby next month, have paid off half the $320,000 mortgage on their town house in three years.
“We were hoping to clear the mortgage in six years – but the baby might slow things down,” Burrell says.
“It seems the best way to proceed because when you look at the interest paid over a full term, you realise how much is going to the bank,” he adds.
The correct answer to the superannuation-mortgage question depends upon individual circumstances, personal tax rates, age, debts, contribution caps and your desire for financial security or freeing up funds for other investments.
“For higher-rate taxpayers, the maths leans towards super contributions,” says Andrew Peters, managing director of Semaphore Private, a financial planner.
“But improving your liquidity – that is, freeing up cash by paying down debt – may make paying off the mortgage more attractive,” says Peters.
The decision also depends on your age, for example if you are close to retirement and want to accelerate payments to finish a mortgage before ending paid work.
Some advisers recommend that those over 55 with a mortgage boost their contributions until 60, then make additional tax-free payments to the home loan from superannuation.
CHANCE TO PAY OFF MORTGAGE EARLIER
For homeowners like the Burrells, the lower rates are a chance to pay off their mortgage and free up cash for another property.
“Super did not come into our equation. For us, retirement seems so far off. Paying off our mortgage frees up cash and creates more options,” says Burrell.
As an example, paying an extra $25 each week into a 25-year $300,000 mortgage at 5.5 per cent saves $16,000 and shortens the mortgage term by two years.
“Our plan is to pay off the mortgage, buy another house and rent this one out,” he says. Burrell is a digital producer working in finance and his wife is an inventory controller at a coal mine. They have been married for 15 months after meeting in 2001.
“We do not splash out, are good savers and buy carefully. Investing is not a hobby but we both agree on the importance of not wasting money on debts, except for the home loan,” he adds.
They put most of their combined salaries into a mortgage redraw account, which allows them to access the funds for bills, such as paying down their credit cards.
“When the credit card is due we redraw and pay it off,” he says. “That way we maximise the amount we are repaying.”
The Reserve Bank of Australia’s hint that the next move in rates could be an increase, which would make borrowing more expensive, could also be a warning to lock in current rates or pay down debt.
BEST DEALS IN A DECADE
Lenders are offering some of the best deals in decades, according to online financial services product comparison site Canstar. As an example, loans.com.au’s Dream Home Loan Essential has a standard variable rate of 3.98 per cent.
Bank of Queensland, iMortgage, Newcastle Permanent and Queensland Police Credit Union are all offering three-year fixed rates of 3.99 per cent.
Mario Borg, financial strategist for Mario Borg Strategic Finance, recommends homeowners maintain existing repayment contributions to pay off the principal and build up equity.
Repaying a mortgage is also a no-risk strategy, like putting money in a bank account. Making extra mortgage repayments does not give the upfront tax advantages of salary-sacrifice contributions but it does reduce debt.
It is also an insurance policy against volatile global markets and rising inflation rapidly pushing up rates like in the late 1980s when home buyers were paying mortgage rates of 18 per cent.
The decision to pay down a mortgage could create tax consequences for investors with a negatively geared property portfolio, and non-deductible debt should be paid off first.
It’s worth looking at the tax advantages of super, especially for taxpayers earning more than $37,000.
“The mathematics say it’s a no brainer,” says Peters about the respective merits of super contributions versus paying down the mortgage.
A $100 interest fee saving before tax will be about $67 after tax to pay off the mortgage for those earning between $37,000 and $80,000. The savings are even less for those who earn more.
But $100 before tax will be $85 after tax to a super fund. Even if the super fund was to lose 10 per cent in the first year, reducing the value of the contribution to $77, Peters says the investor is still $10 – or 14 per cent – better off on the after-tax mortgage amount of $67.
Alternatively, a higher rate taxpayer would need to earn 26 per cent interest to turn $67 into $85 over 12 months.
Another potential complicating factor against locking the money into super is threat of job loss, or disruption to income, such as a spouse staying home to look after children.
“Everyone says a mortgage is forced savings,” adds Peters. “But today’s mortgage packages allow you to pull out contributions as easily as you put it in,” he says about the availability of home equity loans, offset and redraw accounts.
Super contributions cannot be touched until preservation age, which is permanent retirement.