Debt Recycling Explained by a Business Accountant Sydney: The Cashflow Model That Matters
Debt recycling is often promoted as a smart way to convert non-deductible home loan debt into tax-deductible investment debt.
For a Sydney business owner working with a business accountant in Sydney, the appeal is clear, but the reality is that the strategy does not work in every situation. Its effectiveness depends entirely on your structure, cash flow, tax position, and the cost of debt.
Choosing whether to pay down your home loan or use that capital for investment is not a guess. It requires modelling real numbers across cash flow, tax, and interest outcomes. At Tullastone, we focus on this analysis so business owners can see when debt recycling creates value and when it erodes it.
Understanding the Components: Personal Debt, Company Profits, and Deductibility
To evaluate your options, it helps to understand the two sides of your financial position. Your personal home loan is non-deductible, meaning every dollar of interest is paid with after-tax income. It creates an ongoing household cost with no tax benefit.
Your company profits face a different issue. Extracting cash is rarely efficient. Dividends are taxed at your personal marginal rate, which can reach 47 per cent, including the Medicare levy. Division 7A can defer this tax, but with the benchmark rate rising to 8.77 per cent for the 2025 year, the cost of using these loans has increased.
Debt recycling sits between these two areas. The strategy converts non-deductible home loan debt into investment debt that may be deductible. Business owners have the added flexibility of using company profits, either through dividends or structured loans, to fund the approach. The objective is straightforward: shift debt into a structure where the return and tax position outweigh the cost of borrowing.
The Three Real World Approaches Being Modelled
To understand the financial impact of deploying $600,000 of company profits toward personal wealth, we model three practical pathways. Each uses the same capital but handles tax, debt, and investment mechanics differently, which is where the outcomes diverge. The scenarios range from a simple mortgage reduction to a more structured investment approach using trusts.
Scenario 1: Use business profits to immediately pay down the mortgage
The owner withdraws the $600,000 as a fully franked dividend. After paying top-up tax, the remaining cash reduces the home loan principal.
The immediate benefit is a permanent drop in non-deductible interest, which strengthens household cashflow. It is a low-risk strategy that delivers a guaranteed financial gain through interest saved.
Scenario 2: Debt recycling via investment loan redraw
This begins the same way as Scenario 1, with profits applied to the mortgage. The owner then redraws the same amount through a separate loan split to fund income-producing investments. The interest on this new loan becomes tax-deductible.
The outcome depends on the investment return exceeding the cost of debt, meaning performance variability becomes a central factor in the strategy’s success.
Scenario 3: Company lends $600k to an investment trust
Here, the company provides a commercial loan to a family or investment trust. The trust pays interest to the company, creating taxable income for the business and a deduction for the trust.
This avoids a large upfront personal tax bill and keeps capital working within the family group. The approach offers tax timing advantages but requires careful structuring and ongoing compliance.
Assumptions for the 7 Year Model
To ensure a fair comparison, our financial modelling is built on a consistent set of assumptions. These figures reflect a realistic market environment for the current year and provide a stable baseline for evaluating each scenario's performance.
Home Loan Interest Rate: 6.0% (non-deductible)
Investment Loan Interest Rate: 7.2% (deductible)
Expected Investment Return: 8.5% p.a. on a balanced portfolio
Company Tax Rate: 25%
Shareholder Marginal Tax Rate: 45% (plus 2% Medicare Levy)
NPV Discount Rate: 6.0%
The Net Present Value (NPV) discount rate is particularly important, as it represents the opportunity cost of your money and what you could reasonably expect to earn in a low-risk investment.
We use this to bring all future cash flows back to today's value, allowing for a true apples-to-apples comparison of strategies with different risk profiles.
Numerical Modelling: Comparing Cashflows Across Scenarios
When we run the numbers, the immediate and long-term cash impacts of each strategy become clear. The following summary outlines the mechanics, tax considerations, and initial financial effects of each approach.
Scenario 1: Pay Down Mortgage
Primary mechanism: Withdraw profits as a fully franked dividend and apply the after-tax cash to reduce the home loan principal.
Key tax consideration: A large upfront personal tax bill due to the dividend.
Initial cash impact: A direct reduction in non-deductible interest payments.
Scenario 1 delivers a clear upfront result. The main friction is the personal tax on the dividend, but once this is paid, reducing non-deductible debt provides an immediate and predictable improvement to household cashflow.
Scenario 2: Debt Recycling
Primary mechanism: Use business profits to reduce the home loan, then redraw the same amount through a separate loan split for investment purposes.
Key tax consideration: The new loan produces tax-deductible interest, but only if the borrowed funds are used for income-producing assets.
Initial cash impact: Outcomes depend on investment returns consistently exceeding the cost of debt.
Scenario 2 introduces variability. Converting part of the mortgage into deductible investment debt can work well, but only when investment returns reliably exceed the cost of the new loan. This makes outcomes more sensitive to market conditions and shifts in interest rates.
Scenario 3: Company Loan to a Trust
Primary mechanism: The company lends pre-tax profits to a family or investment trust under commercial loan terms.
Key tax consideration: Interest paid by the trust is deductible to the trust and taxable to the company.
Initial cash impact: Avoids an upfront personal tax bill and keeps capital working within the group.
Scenario 3 retains capital within the family group. Interest flows from the trust to the company and is taxed accordingly, while the trust deducts the expense. The benefits emerge through investment growth in a flexible structure, provided the arrangement is administered correctly.
Cumulative After-Tax Cashflows: Winners and Losers
Over a seven-year horizon, the differences become stark. While early cashflows might favour one approach, the cumulative result often tells a different story. In our modelling, which closely mirrors the analysis in our shareholder loan breakdown, the seemingly simple strategy often proves remarkably effective.
Scenario 1 (Pay Down Mortgage), despite its heavy upfront tax, consistently produces a strong cumulative after-tax cash benefit. The certainty of saving 6% interest, tax-free, year after year, compounds powerfully. It might generate a net benefit of over $400,000 in our model.
Scenario 2 (Debt Recycling) shows a lower cumulative benefit, perhaps around $320,000. While it can have standout years, the higher interest rate on the investment loan and the market volatility drag down its overall performance compared to the guaranteed return of Scenario 1.
Scenario 3 (Company Loan) often sits somewhere in between, potentially yielding a benefit of $350,000. Its strength is in tax deferral and keeping capital working efficiently within the wider family group, but it comes with higher complexity and administrative costs.
NPV Analysis: When Debt Recycling Actually Works
Cash flow is one thing, but a Net Present Value analysis gives us the final verdict. By discounting all future cashflows to their present-day value, we can judge each strategy on a level playing field, accounting for risk and opportunity cost. This analysis reveals the precise conditions under which debt recycling creates real wealth.
Debt recycling actually works when the NPV of the strategy is positive. This occurs when the expected after-tax return from your investments is comfortably higher than the after-tax cost of the investment loan.
A positive spread of 2-3% or more is typically needed to make the associated risk and complexity worthwhile. For business owners with access to high-growth investment opportunities and a strong risk appetite, this can be a powerful wealth accelerator.
Conversely, debt recycling can actively erode wealth if the NPV is negative. This happens when investment returns are mediocre or volatile, failing to consistently beat the cost of debt.
In this situation, the business owner would have been significantly better off taking the guaranteed, risk-free return that comes from simply paying down their home loan.
Key Insights for Sydney Business Owners
So, what does this modelling mean for you? The numbers provide clear, actionable insights that can guide your decision-making.
Debt recycling adds most value for business owners with very stable, predictable profits who can comfortably service the debt even if investment returns are temporarily weak. It's best suited to those with a long-term investment horizon (10+ years) and a solid understanding of market risk.
The strategy is less effective, and more risky, during periods of market uncertainty or when interest rates are high, as is the case looking at trends in 2025. For owners nearing retirement or those with inconsistent cashflow, the risk can easily outweigh the potential reward.
Paying down the mortgage is a powerful baseline. Don't underestimate the value of a guaranteed, tax-free return of 6% (your mortgage rate). Any investment strategy must be measured against this safe-harbour option.
Consider the hybrid approach. You don't have to go all-in. You could allocate a portion of profits to paying down the mortgage and another portion to a debt recycling strategy, balancing safety with growth potential.
Before adopting any strategy, the first practical step is to model it with your actual numbers. An expert can help you stress-test the assumptions and see how the outcomes change if interest rates rise or investment returns fall.
How a Business Accountant Sydney Team Like Tullastone Guides Decisions Using Real Modelling
The question of whether debt recycling works has no blanket answer. The right approach depends on your business’s financial position, your personal balance sheet, your tax profile, and the level of risk you are prepared to carry. Broad advice can easily push you toward a strategy that simply isn’t suited to your circumstances.
As a business accountant Sydney owners rely on for clarity, Tullastone’s role is to replace assumptions with evidence. We build clear, tailored models that show the cash flow, tax, and long-term wealth impact of each option so you can choose a path based on facts, not guesswork. Our job is to give you clarity, not complexity.
If you want to understand which strategy genuinely improves your after-tax wealth, speak with us today. We can model your numbers, test the scenarios, and help you decide with confidence.