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Whether establishing your first home loan or refinancing to invest the most important thing you need to consider is how to structure your loan properly. Your loan is a legal document that once signed cannot generally be changed without expense to yourself or a whole new application. Accordingly you need to think your situation through carefully before you complete your home loan application.

What do we mean by ‘structuring’ your loan?

The first thing you need to do is dismiss from your mind the idea that your loan is a single lump of money. Most home loans now offer significant flexibility with up to 5, or even more, sub accounts available under the one mortgage umbrella. These sub accounts allow you to strategically divide your loan into separate compartments to suit your needs. A simple example of this is if you fix 50% of your loan at a fixed rate and leave the other 50% variable – the bank would create 2 sub accounts with half the loan in each to reflect this.

Why use Sub-Accounts?

Sub-accounts allow you to carefully plan and separate your financial affairs and are very important for taxation reasons:

There is potential tax issues associated with mixing non tax deductible loans with tax deductible loans. If you are unsure as to how you should break your loan up tax wise then you should obtain advice from the relevant professional eg accountant, tax adviser, or financial adviser.

Each sub account also receives its own statements and is accounted for separately at the bank. If you have loans against your property for investment or business purposes then sub-accounts can be used to separate items and make accounting for them significantly easier.

Some Simple Rules of Thumb

When working out how you should divide your loan into sub-accounts the following are some simple guidelines to consider. It is intended as a guide only. We recommend that you seek professional advice before finalising any application.

1. Always keep your main home loan separate

The loan on your own home is generally not tax deductible and should be kept separate. It also allows you to concentrate on paying off this part of your loan whilst potentially leaving other areas as they are.

2. Consider creating and setting aside a line of credit for emergency purposes

If you have the capacity to do so and are re-organising your loan it is often a good idea to consider creating a line of credit to set aside for emergency purposes. If you have a lot of equity in your home this becomes a source of funds for family and other non tax deductible emergencies. Once the emergency has occurred it may take too long, or may not be possible to set a line of credit up. So when restructuring your loan it is prudent to consider ensuring a source of funds is available for emergencies. The cost of mortgage stamp duty and any potential bank fees must be taken into consideration.

3. Separating Investment accounts

It is often a good idea to have more than one account for investment purposes. This is particularly true if some investments will be in one persons name and other investments in another person’s name. This allows easier accountability for tax purposes.

4. Separating business accounts

In many cases people use the equity in their own home to secure a line of credit they then use for business. This often represents a source of funds at a rate significantly cheaper then business lending rates. It is prudent to keep such lending separate from the other parts of your loan. Not all lenders allow this and there is the risk that should the business fail the individual will be left with the debt against their own home. It is important to receive professional advice before proceeding in this manner.

A Worked Example

John & Jenny own their own home worth $600 000. They currently owe $150 000 from the original loan. John & Jenny try to pay off extra whenever they can but are also worried that interest rates are going to rise. As all their spare money goes into paying off the loan they do not have much money aside for emergencies. Also they would like to borrow $150 000 for future investments in shares or as a deposit towards an investment property.

Assuming that John and Jenny have sufficient income to service the loan then an example of how they might divide up their loan is as follows:

Account 1: Fix $100 000 for 3 to 5 years to limit the risk of interest rate rises.

Account 2: $50 000 variable to pay down as quickly as possible. The idea being that by the time this is paid off the $100 000 will be coming off fixed rates and will be available to pay down. If a mortgage offset account is available this usually only applies to a variable loan too.

Account 3: $50 000 Line of Credit for emergencies – thus ensuring John & Jenny have money in an emergency and can put spare cash into reducing their non-deductible home loan instead of needing to leave safety money in the bank.

Account 4: $75 000 Line of Credit for John’s investments. Thus John can invest in investments that suit his own tax situation and they are accounted for separately.

Account 5: $75 000 Line of Credit for Jenny’s investments. Thus Jenny can invest in investments that suit her own tax situation and they are accounted for separately.

The above is only one example of how John & Jenny may divide their loan. What is most appropriate will depend totally on their personal taxation and their private goals and objectives.