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Capital Repayment Vs Interest Only

Richard T Lishman is the principal at money4dentists, a specialist firm of Independent Financial Advisers who help dentists across the UK manage their money and achieve their financial and lifestyle goals.

To pay off debt, or not to pay off, that is the question

When working with dentists, we tend to find that they don't like to have significant amounts of debt, but more importantly, they don't like throwing money away either. The funny thing is, the right type of debt can be used to their advantage. This month I would like to explore the tax benefits of purchasing a business asset with someone else's money.

When buying a dental practice, or in fact any other business asset such as commercial property, or a Buy to Let, always try to maximise tax relief throughout the term of the loan. Let's explore a couple of options and the cost based on a practice purchase price of £300,000, with 100% funding.

Option 1 – Capital & Repayment
  • Tax relief is received on the outstanding balance of the finance, rather than the original amount borrowed

  • The capital will be repaid in full at the end of the specified date

  • The amount of tax relief received would reduce as the capital element of the loan reduces

  • Interest only is £1,687.50 per month based on 6.75% per annum interest

  • Total cost £2,072.00 per month over 25 years.

Option 2 – Interest Only
  • Interest only payments made

  • Tax relief at your highest rate is maintained indefinitely or until the loan is reduced or paid off in full

  • Monthly payments are low

  • Overpayments should be made to non-tax efficient debts, such as residential mortgages & personal loans ensuring overall equity within a portfolio remains the same

  • Interest only costs £1,687.50 per month based on 6.75% per annum interest.

Option 1 costs more on a monthly basis however tax relief will reduce over the years as the capital is repaid. Option 2 will reduce the overall monthly outgoings allowing them to decide where they would like to distribute the difference of £384.50 per month. This provides access to greater working capital for the practice, or paying off personal debts which do not attract tax relief. For higher rate tax payers (40%), this will provide up to £8,100 tax relief each year. Over 25 years, the potential saving in tax relief could be £000's – why not let the taxman help you save!

The above figures are for illustrative purposes only and may vary considerably from reality and should not be relied upon as an accurate reflection of future returns. As with all investments, the value can go up or down and there is no guarantee to future returns.

money4dentists is a trading name of DICKSON LISHMAN PRINCE, is authorised and regulated by the Financial Services Authority.

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