Advice on what to do with extra income....

[PDR]

Hello everyone,

I have not posted in the "money" before as am normally content with gossip & shopping!

Anyway, we have decided to rent out our second home for a few years as we never use it anymore and can't be bothered with holiday lets.

So we will be getting a regular income of aprox. £1200/month once we have set some aside in case of maintenance etc.

I am wondering what ppl suggest we do with this as the bank is offering such a poor rate of interest.

Here is what we already have:

Cash ISA each (full for this year) earning 3.2% (7200 in each one I think)

Save £250/month (the max) with our bank at 5%

Mortgage free in our house but the rental house is mortgaged with interest only payments of about £500/month.

Property abroad (not mortgaged) and savings earning v poor rates but want to leave them where they are.

My husband is saying we should just overpay on the mortgage every month, but surely this would also mean paying more tax on the rental income?

Any advice most welcome

[StripeyKnickersSpottySocks]

Have a look at Martin Lewis's money expert website, it has very good advice. Why would overpaying your mortgage mean payig more tax? If it shortens your mortgage term then it will reduce your interest/overall payments and seeing as hardly anywhere is paying good interest for savings then I'd have thought this was a good idea.

[PDR]

I think becuase reducing the mortgage interest would mean we would make more profit on the rental income thus paying more tax, but I guess in the long term we'd be paying a hell of a lot less interest!

[SomeGuy]

It's a bad idea to overpay the mortgage, because you can deduct the interest costs from the rental income in order to determine your taxable profit from the house.

What interest rate are you paying on the rental mortgage?

If you are putting £3600 each per year into cash ISAs, the obvious thing would be to put the same amount into share ISAs - this would be £600/month between you.

Example:

let's say the mortgage is £150,000 @ 4%, therefore £500/month

If you paid off £12,000 from the mortgage, then your mortgage would fall by £40/month = £480/year

But you would then, assuming higher rate tax, pay an additional £16/month in tax.

Normally if you pay off your mortgage, you are reducing the amount of interest you will have to pay out of taxed income. This makes paying off a normal mortgage a good idea, you effectively get tax relief, so paying off a 4% mortgage would have a 6.67% effective return (assuming higher rate tax).

But in this case paying off the mortgage increases your tax bill - so your effecive return on that 4% mortgage is not 6.67%, not 4%, but only 2.4%.

Which is obviously pathetic.

As the second home mortgage is tax efficient, you shouldn't reduce it (perhaps remortgage to get a better rate, or even increase it), but should instead invest in a shares ISA, which in the long term should provide an annualised tax-free return of 6-7%. You could of course look at pensions, which are tax-free at source but not when paid out, and are less flexible than ISAs, but only having used up your dual £7200 ISA allowances, or if you can get an employer contribution to match your private contribution.

[PDR]

Someguy I think this is what I have been trying to explain to my husband - will show him what you have said.

The rate on the mortgage is around 5% fixed but we cannot re-mortgage without paying a huge penalty or we would have done it by now.

Will look into share ISA now.

Our pension provisions are very poor and we will have to rely on the equity from our house, the income from the rental house (hopefully) and income from various properties abroad.

[SomeGuy]

Have you/husband not got a company pension scheme? Not having one is not a reason not to contribute - there are other reasons, but that is not one.

Paying off the 5% mortgage works out at 3% net return (assuming 40% tax), which is less than you are getting from your cash ISA, and which should you easily be able to beat in a shares ISA, and more importantly you will be locking into tax-free savings for life.

[PDR]

No, I only work 2 days a week and don't earn very much and my company only offers the basis stakeholder scheme I think they are required to offer.

My husband's company doesn't offer any pension scheme at all (only 3 of them) but he has been paying into a private stakeholder pension for 2 years now (with scottish widows) so there isn't much in the pot! I think he pays £100 a week.

We do have the equity in our house tho (currently about £350k) as we will sell up and move abroad where we own a lot of property anyway - we currently rent our main house out to my SIL - and live of that and rental income.

We pay a hell of a lot of tax on our foreign rental income as we own all of the properties outright ie. no mortgage so nothing to offset against the income. I think most of this is in my husband's name though as he is not UK domiciled, we only bring in what we need but have been using this to pay off mortgage for the last 2 years, hence now mortgage free.

[karenPine]

There's only one answer - pay more into your pension. You have good assets now but are neglecting your future (it's a girl thing, we all do it).
With compound interest payments into a pension fund or similar will grow and set you up for the future, don't miss this opportunity. Have a look at my book Sheconomics www.sheconomics.com - and read about your cake