Leveraging could be a much faster way to increase your assets – Ed Chan
Leveraging involves borrowing money and can be a much faster way to increase the size of your assets than saving and paying down your debt. But leveraging could increase the size of your losses also, unless you build in precautions and safeguards.
Often people compare shares with property as the best means for wealth creation.
Wealth is created faster by increasing your asset base so that you have a larger asset base working for you, which in effect creates greater and faster wealth.
Now lets look at the leverage ability of both asset classes.
With shares you can borrow generally up to 50% loan value ratio (LVR) of the asset itself. This means that if you had $100,000 cash to invest you can borrow a further $100,000 against the share portfolio of $200,000. This effectively means you now have $200,000 working for you instead of $100,000 working for you.
Property on the other hand gives you the ability to borrow up to an LVR of 80% of the property itself meaning if you had $100,000 cash you can borrow $400,000 to purchase a property worth $500,000. So now we have $500,000 working for you instead of $200,000 as in the above example with shares.
It’s fair to say that some Banks will lend more than 50% LVR against a share portfolio but this is rare and most banks will only lend up to 50% LVR and most share loans require you to top them up if the shares fall in value (margin call) which is not the normal case with a property loan.
Some people may say that Shares gives you a better return on your investment even though the base is smaller.
In this example the share portfolio of $200,000 would need to return an average of 35% pa (excluding Franking credits) for you to end up with the same amount of money as a property of $500,000 at around 14%pa. (Capital growth of 10%pa and rental yield of 4%pa). Remember we started off with the same deposit of $100,000.
If you were able to achieve a 35%pa return over the longer term, then obviously its better to leave your money where the debt and risk level is lower.
Recently the government have made changes to the way Self Managed Superannuation Funds (SMSF) can invest their money. In the past SMSF’s were not permitted to borrow money and this meant they were unable to leverage except in certain circumstances where they were able to leverage into shares through Warrants.
As from 24th September 2007 the laws were changed so that SMSF’s were able to borrow and invest into assets which they were permitted to invest in like property.
This is a very exciting opportunity for investors as it now allows a person after appropriate advice from a licensed Financial Planner to rollover their exsisting Superannuation from an Industry fund or Retail fund into their own SMSF and through a similar Warrant product (Holding trust and a SMSF Limited Recourse Loan) borrow the balance from a Bank and buy property thus instantly increasing ones Superannuation asset base.
Under legeslated Super Choice law, most employees can now opt to commence an SMSF and rollover their Employer sponsored fund into their own SMSF and use the funds as a 20% deposit on their next Superannuation property investment.
The Super guarantee (SG) contributions that your employer contributes (i.e. 9%) can be directed to your own SMSF and inconjunction with the rental income can be used to fund the loan costs. You can also salary sacrifice (up to $25,000 p.a. if under 50 or $50,000 over 50. N.B. These figures are inclusive of any Super Guarantee (SG) contributions) to help with the repayment of the loan.
Author – Edward Chan Chairman Chan & Naylor
This information has been prepared as a general guideline, and is not intended to be an exhaustive or a complete analysis of the topics in question or issues raised in this article. There are many particular legal, taxation and accounting matters which have not been dealt with in this article and readers are urged to discuss any aspect of the operation of any of these matters discussed herein with their professional advisers. In particular asset protection, estate planning and superannuation are potentially a very litigious areas of law and you will need specific advice before you take any actions if you want your wishes complied with. Before taking any action or implementing any strategy you should seek professional advice from your lawyer, accountant and or financial planner who will take into account your specific circumstances and objectives.
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