Life Stages > A loan reinvestment scheme

A loan reinvestment scheme

Geoff and Valerie are having a hard time living on NZ Super because they don’t have any savings apart from the equity in their mortgage-free home (worth $250,000). A friend tells them about a loan/reinvestment scheme that could solve their problems.

The deal is, Geoff and Valerie raise a loan on their home of $150,000 at 8.5% p.a. After paying all the fees, the remainder of the loan is then lent to a finance company at 13.5%. The higher interest rate will pay the mortgage interest, with some left over to pay for living expenses.

However, Geoff and Valerie also discover that the expenses are quite high – about $15,000 in all (10% of the amount that they borrow). Even so, there would still be some extra income – about $80 a week after tax. Geoff and Valerie decide that they should talk about the deal with their lawyer. Borrowing so much at their time of life looks a bit scary. The high interest rate from the finance company may also reflect a high level of risk.

Glossary: equity
The amount you would get if you sold an asset and paid back any money you owed on it. For example, if you have a house worth $350,000, and a $300,000 mortgage, your equity in your house is $50,000.
Glossary: interest
Money paid in return for the use of money. If the bank is using your money (in a savings account) they pay you interest. If you are using the bank's money (via a loan), you pay the bank money.
Glossary: risk
An investment is normally considered to be risky if there is a reasonable chance that its value will vary significantly in the future. For example, an investment in shares is more risky than an investment in a bank term deposit. The value of shares may fall below the price paid for them while the value of bank deposits generally do not. High risk investments should only be taken on with long term intentions. You would expect a high long-term return to compensate for high risk.