I’ve never had to really formalize a plan to repay debt before. However the nature of our financial journey has changed over the last few months. It’s debt, not passive income that I’m now looking to attack.
Our passive income has now grown rather nicely as a result of stable dividend growth, and our recent moves to purchase a house. Our decision to purchase a house and retain our existing condo has meant that we now have a rental property….. and the good news here is that we now have a tenant for it!
However the result of the new house purchase is that we now have a lot of debt…far more than I’ve ever had previously. I’m comfortable with having debt. It’s a great tax shield. But I’m even happier having any debt that I have paid down as soon as possible. To this end, my wife and I have been putting our heads together to work out our debt repayment strategy.
Good debt vs Bad Debt
I hate having bad debt. This is the personal finance debt that’s either credit cards, or incurred to buy depreciating assets such as your car or any household goods that don’t increase in value over time. Having reviewed all our debt, we are fortunate enough not to have any of this. All our possessions are fully owned, there’s nothing outstanding that we need to worry about that’s bad debt. All the debt we have and the interest cost of repaying this debt is all tax deductible
Prioritize by debt cost
We do have different types of good debt at different maturities and likely different rates of interest. The 5/1 ARM that we took on our condo was a good idea at the time! My original thinking was that we’d fully repay this within the 5 years, and thus we wouldn’t need to worry about the reset period. Little did I think through at the time that life would intervene, we’d be buying a new house, and that would delay full repayment of the condo loan.
Fortunately, we are miles ahead of schedule on the debt repayment, but I almost certain that we’ll have to deal with 1 reset period before we are done with the repayment of the loan. Our current ARM rate is a whopping 3.12% (not sure I’ll ever see this sort of rate again in my lifetime!).
Our ARM has a reset cap of 2%, which will take my first ARM reset to as high as 5.12% in a couple of years, assuming rates get that high. That will be higher than our 30 yr fixed on the new place of 4.6%. So the ARM on the condo is going to get the sledgehammer treatment first and be fully repaid 3 years from now.
I’ve been doing something a little sneaky with our Australian equity position. The Australian dollar is much higher than what I thought it would be, or think it should be right now (almost $0.95 to 1 USD). In anticipation of an eventual fall against the USD at some point, I’ve been steadily drawing down some margin loan against my Australian portfolio. This will eventually be repaid by my Australian dividends at some point in the future, when the Australian dollar is weaker vs the USD.
The total margin loan is still very small (less than 10% of total equity), but typically carries a higher rate than fixed term mortgage loans. So any margin debt will be the next to go. I expect it will take 12 months for this to be fully repaid.
Finally, post the 4 year timeframe, we are expecting to aggressively go after the mortgage debt. When I say aggressively, I’m expecting that we will put substantially all of our annual passive income each year against this mortgage. It’s my hope that within 10 years we’ll be completely debt and mortgage free with our passive income then being redeployed for fun stuff (ie early retirement!)
Bloated expense structure
As a family, we’re running a very bloated expense structure. That much was apparent when I ran the numbers on our current and projected expenses. There’s quite a bit of padding in there for nice to have’s rather than must have’s. But given many of these are temporary, child related expenses, we’ve decided not to worry too much about trying to optimize these expenses for now.
We’ll start freeing up significant cash flow within 2 years, once our kids start in the formal school system and out of daycare, and even more thereafter. That will make a huge impact on our monthly balance sheet, which right now looks more like a cozy protected monopoly that a cash hungry start up!
But we want to start taking some near term actions to try and get some things under control. I don’t want to cut our a lot of what we enjoy, so I’ve been looking for some non core areas to try and target.
Brown bagged lunches will be coming back!. Frankly, I have to say the food in my cafeteria isn’t all that great. This is a pretty easy concession for me to start making. I’ve been looking to convince my wife to do the same. It’s not an insignificant saving either. Should add a nice $3-4k annually to the bank account.
Fuel is another large expense for us. We both have relatively long commutes that cost a lot in terms of filling the tank. Fortunately, for my wife at least, that’s soon going to change. I figure her fuel expense will be drastically cut. I’m planning to start doing a couple of days a week from home. Between that and my ongoing travel, I suspect that my fuel expense should also be significantly cut as well. We’ll probably be able to free up another $2-3k as well.
It’s not revolutionary, but every dollar helps! But our expense structure is definitely something I want to pay closer attention to, and likely revisit in a couple of years, post our kids daycare expenses.