Ask An Adviser - Is Debt Recycling Viable In High-Rate Environments?

Top answer provided by:

Ashley Rowan

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Hey Mandy, thanks for your question about the viability of debt recycling in high-rate environments.

In today's market with escalating interest rates, the discussion around debt recycling becomes more complex. This strategy, involving leveraging property equity to invest in income-generating assets like shares, requires careful evaluation as interest rates rise.

The key consideration lies in balancing the interest rate on the investment loan against the returns from dividends. The potential advantages, such as shares offering appealing dividends with accompanying tax credits, can act as a safeguard against increasing borrowing costs. Some investors argue that the compounding effect of reinvesting these dividends might still outperform the rising interest burden over the long term.

Nevertheless, challenges emerge as the gap widens between interest rates and dividend earnings. The risk becomes significant if the rate of return on invested assets doesn't keep pace with escalating borrowing costs, potentially diminishing the financial benefits of debt recycling.

Mandy, debt recycling tends to be more advantageous when interest rates are low because borrowing costs are typically more affordable. However, until that time, it may worth considering alternative investment strategies to debt recycling. Some alternatives include:

Debt Repayment Priority:

Instead of leveraging additional debt for investment, prioritise paying down existing high-interest debts. Focusing on reducing non-deductible debts, such as credit cards or personal loans, can lead to financial stability and savings on interest payments.

Emergency Fund Building:

Allocate funds to build or bolster an emergency fund. Having a financial safety net can provide peace of mind and act as a buffer during unexpected expenses, reducing reliance on credit during challenging times.

Tax-Efficient Investments:

Explore tax-efficient investment options, such as maximising contributions to superannuation or utilising investment structures with favourable tax treatment. This can optimise returns while minimising the impact of taxes on investment gains.

In the end, whether a debt recycling strategy is a good fit hinges on individual circumstances, risk tolerance, and financial goals. It's crucial to conduct a thorough assessment, taking into account current economic conditions and market trends. Seeking guidance from a financial adviser is invaluable, as they can offer personalised insights and assist in navigating the complexities of determining the suitability of debt recycling in a particular interest rate environment.

While the Adviser Ratings Website facilitates the question and answer functionality, all such communications are between users and authorised financial advisers, of which Adviser Ratings has no affiliation. Adviser Ratings is not the advice provider and does not provide financial product advice and only provides information that is general in nature.

Article by:

Ashley Rowan

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