Should you pay off your HECS/HELP?
7.1% increase from June 1.
HECS / HELP debt has historically been “good debt”, whatever that means.
Here’s our definition.
Good Debt adjective/noun
Debt that is working for you
Why would it be considered Good Debt?
HECS / HELP Debt is essentially an education tax. It is repaid through the PAYG withholding system, just like income tax. Thresholds determine the percentage rate and when repayments begin. Thresholds may change with legislation.
HECS/HELP debt doesn't accrue interest daily. Instead, it undergoes annual indexation on the 1st of June, based on the Consumer Price Index (CPI) data from the past two years, to keep up with inflation.
7.1% this year. Hence the email. We haven’t seen HECS/HELP this high since the 90’s.
The problem
Nobody knows what indexation will be in 2024, 2025, let alone 2033.
If you pay off your HECS/HELP to avoid the 7.1% increase, this may not be as attractive in the long term if you are being hit with or not earning compounding interest somewhere else when/if the indexation rate drops.
The Catch
Every time you see HECS/HELP repayments on your payslip, guess what? They don’t come off your debt straight away.
The ATO will hold that money, index your loan on June 1 and then subtract your repayments from the new debt amount after you do your tax return.
If you pay off your debt, you must pay the full amount even though your employer has withheld the amount throughout the year.
The good news? A bigger tax refund as all repayments on your payslip will return to you after tax time if your balance is paid in full pre-June 1.
What do you do?
HECS/HELP, in our opinion, affects the following in order of intensity.
Borrowing Capacity, Other Debt Costs, Cashflow / Investment Potential.
Borrowing Capacity
Whether your HECS/HELP is $10,000 or $100,000, it affects capacity the same. Banks will look at the % repayment rate based on your income.
HECS/HELP affects borrowing capacity due to it affecting your serviceability.
When we assist clients in obtaining Finance Options / Pre Approval, we always present capacities with and without HECS/HELP.
When applying for loans, we can apply for the loan with HECS/HELP paid off in principle. This allows our clients to understand their range.
Example.
The client’s HECS / HELP is $50,000.
Borrowing Capacity with HECS/HELP = $1,000,000
Without = $1,150,000.
If we apply for $1,000,000, the client’s only option is to add cash at the time of purchase if they find a property over $1,000,000.
If we apply for the loan with HECS/HELP paid off in principal the strategy allows flexibility and options based on the property the client is trying to buy.
When buying a property as an investment, capacity is further reduced as the rental income is added to your repayment threshold, which usually increases the HECS/ HELP repayment % rate.
What do you do? - Use us for finance. We get it.
I have a mortgage
If you have money sitting in an offset account, your rate may not exceed 7.1%.
If you cash out of your offset account, the bank will calculate interest daily based on your current rate. The risk is that the inflation rate drops below your interest rate in future years, and you won’t recoup that offset balance in time.
Remember, once HECS/HELP is paid off, you receive an instant difference between the indexation rate increase / your bank rate, ie. 7.1% > 5.5%.
You will have more cash flow which will increase your capacity/investment potential, and you will receive your withheld repayments back at tax time.
The large majority of our clients with balances under $40,000 that have significant cash outside of their HECS/HELP debt balance are repaying HECS/HELP, but you must ensure you are doing the right thing for your circumstances.
What do you do? - Use us for financial advice. We get it.
Saving for a home - FHSSS - Watch this video
This pays a higher rate of return than the HECS/HELP debt.
If you’re saving for your first home, FHSSS is something you should consider instead of or alongside paying off HECS/HELP debt.
What do you do? - If you have the funds and are not limited due to your deposit because you have a guarantor. Consider - Porque No Los Dos.
Bad Debt - Personal Loans, Credit Cards etc.
If the rate is higher than the indexation rate, you need to consider paying off the bad debt first; if the rate is lower, you need to take the time to work out if the extra cashflow after paying off your HECS/HELP will pay off your debt that has interest calculated daily before the potential of the indexation rate dropping below the interest you are charged.
What do you do? - We usually tackle “Bad Debt” first, especially if the rate is higher than a savings rate or HECS/HELP indexation.
Cashflow / Investment Potential
Nothing in life is guaranteed except for;
Death - where HECS/HELP dies with you
Taxes - which have nothing to do with HECS/HELP
FHSSS - Guaranteed return
The Guy without Shoes - not providing in-depth considerations to his extremely large and heavily influenced audience.
Suppose you are paying off your HECS/HELP to increase your cash flow to save. Your savings will probably work harder somewhere else long term, as indexation will not always be this high.
If you’re paying off your HECS/HELP to increase your investment potential, you have to be confident that you’ll beat the 7.1% rate of return.
What do you do? - If you’re only considering and reviewing this right now - You’re more than likely not ready to make a decision.
Summary
HECS/HELP debt is neither good nor bad.
The strategy you employ will determine how it works for you.
Review your circumstances in detail, make an appropriate decision or seek advice.
The Deadline
If you’re planning on paying off the debt. You should consider the ATO delays.
The ATO is slow, so you must get the money in ASAP.
Two weeks before June 1 is considered “safe”, but we would stress today or tomorrow being your cut-off.
Your Next Steps
If you’d like to equip yourself with a team of professionals that understand how to position you with the best Structure & Strategy for your circumstances, reply to this email or contact support@rkds.com.au