End of Financial Year Gear – Is it time to fix?

Promoted by Leveraged


The lead up to the end of the financial year often signals a time for investors to take stock of their holdings, consider their tax management strategies and plan for the year ahead.


On the checklist for many is a meeting with their financial planner, accountant or broker to review their investment portfolio.


Portfolio strategy

A portfolio review around tax time also leads to discussions about tax effective strategies such as gearing, especially in a low interest rate environment where borrowing to invest becomes even more attractive.

Consider an equity portfolio constructed to pay 4 percent per annum expected dividend (62 percent franked) and 6 percent per annum expected growth. Take an investor on a marginal tax rate (MTR) of 39% (including Medicare Levy) who borrows half of the amount invested in the portfolio.

The expected dividends offset interest costs on an after-tax basis. The portfolio needs to grow by less than 1 percent per annum over 5 years to return more than an investor who invested only their own capital. Investors should keep in mind that there will be a timing mismatch between receipt of dividends and interest payments.

If over 5 years the portfolio performs as expected, the geared investor will earn more than 12 percent per annum (on an after-tax basis) on their capital. Contrast that to the 8 percent per annum (on an after-tax basis) earned by the ungeared investor. Of course, the risks can’t be ignored. If the portfolio falls by more than 1.3 percent per annum, the geared investor will lose capital and will lose more than the ungeared investor.

If the portfolio in this example has an average loan to value ratio of 75 percent (the maximum the bank will lend expressed as a percent of the portfolio’s value) and a buffer of 10%, it would have to fall in value by more that 40 percent for the investor to receive a margin call. A fall of this scale is possible, but for a prudently diversified investor, falls of this magnitude occur only during significant market corrections such as the GFC.


Savings and certainty

No one expects to see pre-GFC interest rates of 7 to 8 percent any time soon. However, the only certainty is that things will change. The RBA has been clear that the next move in rates will most likely be up*. And the expectation among economists and analysts is that this could potentially occur in early 2019**.

For investors with a medium-term strategy, it may be worth locking in these historically low interest rates at a competitive rate and paying a year of interest in advance. A typical Australian resident taxpayer can potentially claim that prepaid interest as an income tax deduction in the current financial year. This means, the cost of borrowing may be reduced by around 30-40% depending on tax circumstances.


Gearing – the next wave

The rise of the direct investor is seeing a continued shift away from actively managed funds^. This provides further advice opportunities for advisers and planners, particularly for next wave investors who have been locked out of the residential property market and recognise the need to build wealth through other strategies such as gearing.

Investors new to gearing, are borrowing to invest primarily in order to diversify their portfolios and obtain greater market exposure. So it’s no wonder that Exchange traded funds (ETFs) are favoured by this cohort and are now one of the fastest growing investment tools in the world.

Low interest rates mean that with lower returns on cash, next wave investors are finding Leveraged’s Instalment Plus facility a great way to build a share portfolio. Starting out with as little as $1,000, the obvious appeal is that they can start building a portfolio with thousands, rather than hundreds of thousands needed to get a foot in the residential property market. 

To find out more about Leveraged margin loans and fixing and prepaying interest before June 30, call our Relationship Management team on 1300 307 807. 


Issued by Leveraged Equities Limited (ABN 26 051 629 282 AFSL 360118) as Lender and as a subsidiary of Bendigo and Adelaide Bank Limited (ABN 11 068 049 178 AFSL 237879). This information is correct as at 01.05.18 and is for general information purposes only. It is intended for AFS Licence Holders or authorised representatives of AFS Licence Holders only. It is not to be distributed or provided to any other person. ***Financial Review 3 April 2018, Forecasts compiled by Will McInnes. ^2017 Investment Trends Online Broking report.


End of Financial Year Gear – Is it time to fix?
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