My boss has an investment strategy that has made him a millionaire - and he is strongly recommending that I follow the same strategy. It all seems reasonable when he describes it. However, I desperately need some independent advice as to whether it makes sense and is legal.
His strategy boils down to increasing his home mortgage and investing in New Zealand shares that pay a dividend. The trick is that the interest on the extra mortgage amount can be claimed as a tax deduction.
Say I increase my home mortgage by $100,000, with a 5 per cent interest rate. The $100,000 is invested in shares that pay an after-tax 5 per cent dividend, so the overall return is neutral. However the extra mortgage interest payment of $5000 can be offset against my normal salary income, leading to a tax saving of 33 per cent of $5000.
In addition, there is the possibility of an untaxed capital gain on the shares - and I'm still in the property market! So not only do I diversify my investments by having some shares, the Government will effectively pay me to do so.
Why doesn't everyone do this?
Perhaps because they remember the 1987 sharemarket crash. Many of the hardest hit people in that crash had borrowed to invest in shares. And they and their friends and family never got over it.
Borrowing to invest in anything - sometimes called gearing - ups the ante. When the market is rising, geared investors do particularly well. But when the market dives, geared investors dive deeply. The key is whether you can survive downturns - financially and emotionally.
I don't know how long your boss has been investing in New Zealand shares. But whether it's just the past few years or the past 10 years or so, he's had a great run. As our graph shows, the market plunged in the global financial crisis but grew healthily before and after that.
The NZX50 share index, including dividends, grew at an average annual rate of 8.5 per cent over the 10 years ending June 30. That compares with 6.6 per cent for house prices over the same period, according to the Reserve Bank's inflation calculator.
That means that if you invested $100,000 for 10 years starting in June 2003:
* In New Zealand shares with reinvested dividends it would be worth $226,000, before tax.
* In New Zealand houses it would be worth $190,000, before tax.
Such comparisons are tricky. For one thing, house price growth varies by region. Still, I bet a lot of New Zealanders don't realise shares have done that well.
Your boss has also been lucky in another way. In recent years, mortgage interest rates have been unusually low. So it hasn't been hard to find shares that pay after-tax dividends higher than the interest he's paying - especially after taking into account the tax deduction.
But what if you take up your boss's suggestion, and then mortgage interest rates rise while companies reduce their dividends? You could well find you've got more money going out than coming in each year - possibly lots more.
And what if the sharemarket then turns down, and your $100,000 of shares drops to $70,000 or $80,000? That won't square off well against an extra $100,000 of mortgage, especially when you're forking out to cover the cash shortfall as well.
What happens next? Here are some possible scenarios:
* You panic, and assume things will keep getting worse.
* You don't panic, but you lose your job and can't get another, or your costs rise, and you can no longer cover the annual cash shortfall.
* You need to move to another city - perhaps for work. House prices have tumbled and you find your swollen mortgage is bigger than the proceeds of selling the house. You owe the bank the difference.
These were the sorts of situations faced by New Zealanders after the 87 crash. Many reacted by selling their shares at horribly low prices, cementing in big losses. Would you?
If you're sure you could hang in through the tough times, and you're well diversified, your investment should eventually recover - although there's no telling how long that would take. And note that bit about diversification. If you go ahead with your plan, I strongly suggest you spread your money over at least 10 shares in a wide range of industries. Individual shares can go to zero and stay there, but they won't all do that.
On your questions about legality, Inland Revenue says: "A person can claim interest on money borrowed to buy shares or to invest, as long as the investment will produce taxable income.
"However, they will need to be careful with regards to record keeping, for example, if they have a revolving mortgage arrangement, so that only the interest incurred to purchase the shares is deducted."
Inland Revenue also points out you shouldn't assume any capital gain on your shares won't be taxed. "If there is a clear pattern of shares being bought and sold, any gains made could be liable for tax. If the person has any questions, or is seeking advice, then they should talk to their tax adviser or Inland Revenue."
To which I would add that if Labour comes into power, it has said it will introduce a capital gains tax. This would apply only to gains made after the date the tax started, but still it might affect you in the longer run.
So there you have it. Your boss's strategy is legal but risky. It takes courage, strong finances and patience.
Your picture in last week's column harks back to what Kiwis did 50 years ago. Today most people don't know how to garden, they just grow "natives" which are of no use for food.
The young children today seem to think that all food must come from supermarkets, and they don't "scrump" from fruit trees like we used to years ago.
We've created a good organic garden, but now that we wish to sell, people don't want to do the work to take care of it. This country has too much food, so people don't appreciate food like they should do. They've never had empty bellies, or they'd learn to grow their own food.
Sorry to hear your garden is not a strong selling point. But I don't think people should feel obliged to grow food. If they would rather work hard at their job and pay someone else to feed them, that's fine. Specialisation of labour works pretty well, with everyone doing what they're good at.
One more thing: many would say that lots of native plants are edible. Still, I hope you find an appreciative buyer for your property soon.
Helpful business ideas
I am an AFA (authorised financial adviser) based in Auckland. The story about the couple who lost everything is sad, but not uncommon, especially because of the lack of diversification that many business owners have, and their distrust of investment outside their business or managed funds.
I have a number of clients who have faced similar difficulties.
What I do is to network between my clients and all my other contacts to see if I can help them make more money or get better jobs or help with their business. For your readers, I offer the following:
* Use their contacts from many years in business (old suppliers, customers, advisers, staff etc) to see if they are aware of jobs or opportunities that may be available.
* Never give up, and keep your ears open for any opportunity. They can often appear, but you have to be looking or you miss them.
* Their old business may have failed, but the work may still need to be done. Who is doing it and are there opportunities for them?
* They may have been made bankrupt, but the assignee often allows people to get back into business early to make money. Mary, I hope this helps.
So do I. Thanks for some good ideas.
Misuse of words
For some time I have attempted to persuade several large corporates to refrain from misusing "attributable" in their reports in connection with shareholder earnings or value. "Net profit attributable to shareholders" is a not uncommon heading in financial statements.
In my opinion the term "attributable "means "caused by" or "flowing from" and does not mean payable to or creditable to shareholders. Shareholders are passive recipients of dividends and have no influence on a corporate's profit-earning operations.
Why do corporates persist with the incorrect use of this term when "allocable" or "payable" are eminently appropriate?
Search me. I agree with you.
Using 'I' and 'me' Here is a simple tip to check the use of "I" and "me". Take the other person out of the sentence and the mistake is obvious.
"Me and Mum went to the mall" ... "Me went to the mall".
"My husband and me went shopping" ... "Me went shopping".
Also as an object, "Dad gave me and my brother a present" is okay. Not "Dad gave I a present."
Another point: the verb "to be" takes I and we. For example, "It is I", not "it is me". However, Fowler's guide admits that "It's me" is accepted in conversation, but should not be used in written form.
I guess nowadays the principle allowed in school is "if it's understood, it's okay!" It may not help get a job though.
Thanks for the tip. Dropping out the other person is a useful trick.
I think, though, that Fowler is fighting a losing battle on "It's I", even in writing. And that just goes to show that the language is evolving, and maybe one day me and Mum will go to the mall and everyone will accept it. Oops! I started that last sentence with "and", which will annoy one reader. But the Oxford Dictionaries website says it's fine, and so is starting this sentence with "but". That's good enough for me, if not good enough for I.
In a Harvard Business Review blog, one company chief executive wrote that he would not hire anyone who couldn't pass a grammar test, and more than 3900 people pitched in with their support or disgust. One thing is certain, grammar will always be rich fodder for discussion.
Yes. But see the next Q&A.
Last word on words
Mary, forget the $$ advice. There is more soul in grammatical instruction. It's not dirty for one thing.
Sorry, but even though it's fun to veer off down grammatical paths every now and then, I'm meant to be writing about grubby old money.
So, as they sometimes say on the Letters to the Editor page, this correspondence is now closed.
* Mary Holm is a freelance journalist, part-time university lecturer, member of the Financial Markets Authority board, director of the Banking Ombudsman Scheme, seminar presenter and bestselling author on personal finance. Her website is www.maryholm.com. Her opinions are personal, and do not reflect the position of any organisation in which she holds office.
Mary's advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to firstname.lastname@example.org or Money Column, Business Herald, PO Box 32, Auckland. Letters should not exceed 200 words. We won't publish your name. Please provide a (preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice.