6 Tips for Protecting and Improving Your Cash Flow
Like any business, property investors must keep the cash flowing at its optimum level.Most investors suffer sub-optimum Cashflow. There are many reasons for this.
In this section we are going to look at some of the reasons some investors are “living in abject poverty trying to get rich” and many others suffering a reduced lifestyle unnecessarily.
1. Failure to Protect Your Cashflow
Many bankers and brokers only provide sufficient finance to meet the borrower’s immediate needs. The consequences can be dire for the investor.
Property investors need to maintain a buffer of available credit so that they can cover three to (ideally) six months of loan repayments in case of an unforeseen income/cashflow interruption.
If a borrower misses a payment it could be deemed a default under some mortgage contracts which must be remedied within a prescribed period, sometimes as little as 14 days. If not remedied within the period, a default can trigger the general default clause where all loans can be ‘called up’.
If the loans cannot be refinanced, or may not be possible at the time and within the prescribed period, foreclosure can follow resulting in properties being sold to recover the debt.
The solution is to maintain a buffer and to seek advice on relevant insurances such as income protection, life, disability and critical illness
2. Beware of Super Cheap Rates
Too often investors are seduced by super cheap “Honeymoon” rates that can be over 1 full percentage point below the standard variable. However, investors with the savviest financiers know that the ‘sting in the tail’ can be brutal to their cash flow. Many honeymoon rates require principle and interest repayments which adds around 20% to the repayment, then at the end of the 12 month term force the borrower into full interest rates which can be up to 0.8% higher than necessary.
Case Study
Investors Edge Finance Strategists received a distress call from an investor who had entered into such a loan which was so badly packaged by the bank that it crushed his Cashflow and worse, drove up his non-deductible home loan at an alarming rate while eroding his deductible debt.
A full restructure by Investors Edge Finance saw his repayments drop by a full $1,200 per month restoring his ability to work on eliminating his personal home loan while preserving his long-term tax benefits.
3. Ineffective Tax Structures
Unless your bank manager or mortgage broker has an understanding of taxation principles, depreciation etc, they too often erode or destroy valuable tax breaks. The cost can be substantial.
This happens because the financier has focussed on getting the loan instead of the investor’s need to optimise their tax efficiencies, hence their returns and that all important cash flow.
Case Study
An investor had $200,000 in personal debt and $800,000 of deductible debt within one loan account. The investor had a substantial capacity to reduce debt. Instead of structuring the loan to eliminate the personal debt and preserve the deductible debt the broker focussed on the cheapest rate instead of the right product.
The resulting loan package cost the investor over $27,000 in tax credits each year. A carefully structured loan would have seen the personal debt eliminated in less than one year and the tax breaks preserved indefinitely.
Worse, the investors intended upgrading their home. This structure, that caused the rapid reduction in deductible debt, would also force the investors to redraw the funds for their new home as non-deductible debt.
4. Depreciation Benefits Missed
Many investors are attracted to property investment to take advantage of the many taxation benefits available to them. One of the most important contributors to an investor’s tax credits is depreciation, and yet it is the most misunderstood, under utilised component of investment.
Rule Number One: Ensure you obtain a depreciation schedule from a suitably qualified, experienced quantity surveyor. Investors Edge Finance clients can receive a substantial discount for a report.
After failing to get a report, the next biggest mistake investors make is that they are unwilling to pay for a quantity survey to provide a comprehensive report. Instead, they rely on their accountant’s schedule which can result in significant missed deductions
5. Splintered Application of Income
Splintered income is where income from each source sits idly for part of every month in its own savings or cheque account. For example, salary one may go to one savings account while the second salary is deposited into another account. Rents go to their own account while dividends sit in yet another account.
Not only do these accounts incur bank fees but they usually accrue very little interest to off-set the interest being paid in the loan account. All income should be directed to one account then direct debited to secondary accounts.
6. Waiting for the Tax Refund
While this is not a finance issue it impacts on finance because it does deny the investor the benefits of immediate cashflow to service and reduce debt levels.
Again, with so many investors attracted to property investment for the tax benefits, most wait until the end of the year, and sometimes up to an additional 9 months, before receiving their tax refund.
Substantial reductions in the cost of interest can be achieved by asking your accountant to lodge a 1515 Tax Variation application. This reduces the weekly tax you have deducted from your pay packet. The additional funds can be used for day-to-day cashflow and to pay down your loan.
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