Ben Hughes

Dear anti-capitalist Apple fanbois¹, of which there seem to be quite a few. I’d like to point out that you are, in fact, the prototypical mindless consumer drone-slaves of captalism that you like to rail against. Lining up for hours to spend your dirty, capitalist-provided dollar on dirty, capitalist-produced toys makes you a hypocritical arsehat².

Sure, you can keep sipping on your free-trade coffee and nibbling on your organic muffin while reading No Logo on your iPad. Just know that your beautiful device was made by the same downtrodden Chinese orphan-slaves that make 90% of the rest of consumer electronics. And that you’ve fallen hook, line and sinker for the most profitable capitalist branding campaign in history.

Without capitalism you would have neither Apple, nor the wealth and free time to use their products. So either quit your whining or quit your fanboism: you can’t have it both ways.

1. While anti-capitalist and fanboi traits are individually somewhat annoying, when combined in the one person they produce true arsehattery
2. Hat-tip to Stilgherrian for bringing “arsehat” into my vocabulary.

At the moment I’m knee-deep in investment options, trying to get my head around negative gearing, transactions costs and lots of other fun stuff.

Yesterday we bought a new house. For the last 5 years we’ve been working fairly hard to pay off our unit. We’ve always planned to buy a bigger place and keep the unit as an investment property. Now that the time has come, we need to work out if that actually makes financial sense.

I’ve been randomly tweeting about this stuff as while thinking it through, and some people have asked questions that are too hard to answer in 140 characters. So I’ll attempt to go through it all here. Of course, this isn’t financial advice for anyone else: it’s just my understanding of my situation. It’s quite likely I’ve completely messed this up. Once I think I have a fairly clear idea of things I’ll be seeing a financial advisor. You should too.

Broadly, we’re considering two options: keeping our current place and renting it out, or selling it and buying something similar to rent out. At this stage we’re not looking at other investment options.

Some numbers

Lets say the unit is currently valued at X. 5 years ago we bought it for 2/3X and currently owe 1/3X. That is, we’ve paid off roughly half of the original mortgage.

We’ve bought the new house for roughly 2X. To pay the deposit and stamp duty on it, we’ll be re-drawing everything we’ve paid off the unit’s mortgage, bring that mortgage balance back to 2/3X.

The trick to working all this out is to remember to treat both loans as part of the same portfolio, rather than trying to calculate things seperately. Regardless of how things are arranged, the maximum debt we can be in is 80% of the value of the portfolio (X + 2X), ie 80% of 3X, or 2.4X.

Scenario 1: Keep the unit

Here we start with 2/3X debt on the unit’s mortgage. We then borrow (2.4-2/3)X = 1.73X, which is the most we can borrow while staying under 80% total debt:equity. We have 1/3X in cash (redrawn) which takes us just over the 2X needed for the new house, with almost enough to cover the 4.5% stamp duty.

Because the unit has been owner occupied, only interest on the current 1/3X mortgage balance can be claimed as a tax deduction. This turns out to be an important part of the calculations.

So, we have a total debt of 2.4X, with the interest on 1/3X being tax deductible. The rental rate of the unit is enough to cover repayments on the exiting 2/3X loan, plus a little left over. After a year we may, if lucky, make about $5000 profit. Maybe.

Because we’re making money, there’s no other tax advantage in this scenario.

Scenario 2: Sell and buy

As before, we take out a loan for 1.73X and redraw 1/3X. Now, we sell the unit for X, pay out the 2/3X loan and are left with 1/3X cash (minus stamp duty etc). This goes off the new mortgage, reducing it from 1.73X to 1.4X.

Now, we buy an investment property exactly the same as the original unit, for X. We borrow *all* of that money, using the equity in the new house. This means we have 1.4X + X = 2.4X debt, and 3X equity. 80%. Yay.

At this point it looks a lot like things are the same as in scenario one, except we had the hassle and transaction costs of selling and buying the units. But lets look at how the debt is distrubuted.

The home loan has 1.4X debt, and has no tax benefits associated. The unit loan has X debt, the interest on which is all tax deductible. The rent we receive will not cover the repayments, and any net loss is also tax deductible. This means a proportion of the repayments we make are tax deductible.

Let’s compare

Here’s the crux: in both scenarios we have a debt of 2.4X and are making the same repayments on that debt. In scenario one none of the repayments are tax deductible. In scenario two, a proportion of the repayments we make (those above the rental income) are tax deductible. And, of course, a larger percentage of the interest is tax deductible as well.

What does it all mean?

If there were no transaction costs the clear winner is scenario two: same overall debt and repayments, much better tax benefits. However, 4.5% stamp duty is a significant cost. Back of the envelope, it would take at least a couple of years for the tax benefits to make up for the transaction costs. In the mean time, we have to find the cash to cover the stamp duty: we can’t borrow it without going over 80%.

A rule of thumb

Basically, the more you owe on your current property as a proportion of its current market value, the more attractive it is to keep it as an investment. Provided of course than you can afford to buy a new place while keeping your total debt:equity under that magical 80%.

To me this is pretty counter-intuitive and really highlights how ridiculously complicated our tax system is.

For us, it’s borderline. So borderline that I’m going to a financial planner to get them to crunch the real numbers. I think in the medium term, scenario two will end up winning out.

Thoroughly confused now? Awesome. That makes two of us.

Footnote: what’s this 80%?

80% debt:equity ratio is the level below which you don’t need to purchase mortgage insurance, which is quite costly and usually rolled into the loan. It’s also easier to get approval if you have at least 20% skin in the game.

There’s a lot of blame, excuse making and naval gazing going on in the wake of Kevin Rudd’s dismissal as Prime Minister. The media are being blamed in part for creating the story of Kevin Rudd’s downfall and forcing the hand of the Labor party. The “digtial elites” are being told to give up the belief that what they care about actually matters. A lot of people are questioning how our democratic system works.

My take is a little different: what we’ve seen recently is a strong example of a working democracy.

The Prime Minister became increasingly unpopular over many issues and didn’t take the opportunity to do anything about it. The public stopped believing that he could effectively lead the country. For better or worse, the PM is seen as the policy-setter of the party. They are held accountable for the performance of the whole government. And I’m not sure that’s such a bad thing.

There is a reason we make elected ministers, rather unelected public servants, responsible for running portfolios. It’s so we have someone to blame. It doesn’t matter if a minister loves or hates the policies they are overseeing, they are responsible for them. Of course, the policies come from the party and removing the minister may do little or nothing to change them.

But our votes and our voices are the mechanisms we have to participate in our democracy. The minister, or Prime Minister, is by design the focal point of the public’s attention for a given set of issues. They are the conduits from the public to the party. It might be unfair on the individual politician, but that is their role.

The Labor Party didn’t remove Kevin Rudd because of some mining magnate/journo-led conspiracy: they did it because he had become unpopular enough to threaten Labor’s chances of winning the next election. The party is primarily interested in getting itself elected and that is what drove their decision.

There may well be a downside to reactionary, poll-driven politics. It can certainly be a hindrance to anyone trying to implement a long time vision. But, only if they lose the trust of the public.

More direct responsibility to the public has to be a good thing in a democracy, surely. The public may be open to manipulation by whichever boogeyman you like and our electoral system isn’t as representative as it could be. But there’s a crytpo-fascist aspect to the ‘reactionary is bad’ argument: an underlying belief that there are people who are better suited to making the rules and people who are better suited to following them.

We are not cattle. We are smart enough, as a collective, to choose the direction for the country. And if we’re not, we’ll suffer the consequences, learn and improve. Or, we’ll fail miserably. It’s entirely up to us.

That, to me, is what democracy is all about.