(rising interest rates – 6 minute read)
The entire world is experiencing a cost of living crisis. Inflation is skyrocketing everywhere. It’s not a localised problem with countries such as UK (10.1%), Germany (9.9%) Singapore (7.5%) experiencing increased Consumer price inflation over the last few months in 2022.
Central banks around the world have responded by driving up their base lending rates. This is known by many names around the world. Here in Aotearoa, we know it as the ‘Overnight Cash Rate’ or OCR. This is the rate of interest that banks in the country can borrow from the Central Bank (The Reserve Bank here in NZ).
When the base lending rate increases, there is a knock-on effect to all interest bearing financial instruments throughout the country. This means that all types of interest from credit card interest to mortgage interest will experience an increase.
If you have any sort of loan or credit facility with a financial institution, you can expect your interest expense to increase over the coming months.
Of course, there isn’t much we can do as individuals to prevent the rising creep of interest rates (just like we can’t do much to stop inflation). We can however, minimise the sting of rising interest rates with these tips:
Use a credit card to beat rising interest
Wait. Use a Credit Card? To beat rising Interest?
Yes, I know it sounds counterintuitive. Also I acknowledge that I have expressed anti credit card sentiments in the past. But there are some caveats to this tip. First of all, this only works if you have a mortgage on revolving credit or an outstanding overdraft facility with your bank. If you have a mortgage on a fixed rate, a credit card won’t help you much.
Maximise that interest free period!
Most credit cards will offer up to 55 or 60 days interest free. This means that any purchases you make on your credit card are interest free, unless you miss the repayment date (which falls whenever the interest free period is up).
If you are a business with an outstanding overdraft facility, this means that instead of tapping your overdraft balance, you can use the credit card to make interest free purchases. Given that overdraft interest is generally calculated everyday, you minimise the interest that you pay on the overdraft by paying off your credit card in lump sum at the end of each repayment period.
The same strategy applies if you have a mortgage on revolving credit. Just like an overdraft, interest on a revolving credit facility calculates on a daily basis. By using a credit card to make daily purchases like groceries, dining out, gas and utilities, you maximise the amount of cash you have sitting against your mortgage and minimise the amount of interest you need to pay daily.
Beat rising interest rates! But BE CAREFUL!
Credit cards are great for their interest free periods. BUT if you miss a repayment, you will get slammed by a much higher interest rate than you would have otherwise paid on your overdraft/revolving credit.
Financial common sense applies – never buy more than you can afford to pay off. Always keep an eye on that repayment date. Setup Direct Debits from your revolving credit account to your credit card if possible. Remember that credit card debt can quickly turn into toxic debt if you’re not careful. So you may want to read up on how to avoid that first.
Beat rising interest rates by fixing them for the future
This advice applies if you’re on a fixed rate mortgage. It’s no secret that interest rates will continue to rise over the next couple of years. As of 5 October 2022, the OCR in Aotearoa is sitting at 3.5% , up from 0.50% just a year ago on 6 October 2021. That’s a 300 basis point increase!
Interest Rates are likely to keep rising
With inflation sitting at 7.3% in 2022 it seems unlikely that the Reserve Bank NZ will decrease the OCR or stop increasing it in the months to come. Given that the current remit requires the Monetary Policy Committee of the RBNZ to keep inflation between 1% and 3% over the medium term, I’d say that we’re looking at a higher OCR in the near future.
Historically speaking, OCR has been set as high as 8.25% between 2007 and 2008, during the global financial crisis. So, if we are heading into a global recession as many pundits seem to predict we may yet see a repeat of that. Maybe.
Fix those fixed rates for the foreseeable future
When your fixed rate comes up for renewal, you will want to discuss what the best options are with your banker or mortgage adviser. The smart thing would be to fix them at as low a rate as possible for the longest time that your bank will allow it. Interest rates aren’t going down anytime soon. Even the likelihood of them remaining static is very little.
Fix those rates and fix them good!
Start a side hustle. Beat rising interest rates.
How does starting a side hustle relate to beating rising interest rates? Well, for starters, any extra income you make from your side hustle can be used to cover those extra interest repayments you have to make. But there’s another aspect to side hustles that you may not have considered.
Claiming Interest expenses as part of your home office expenses
The cool thing about being self employed in Aotearoa is that you can claim a portion of your home expenses as part of your business expense. You work out the percentage of home space that you use for your business and you can claim that percentage of your interest expense (and other home expenses) as business expense. You can always read up on home office expense claims here. If you don’t live in NZ, do find out if your tax laws allow for similar claims for self-employment.
For example: Cherie runs a dance studio from her home. She has converted the living room (about 30 sqm) into a dance space for her students. Cherie’s property size is 100 sqm. During the year she paid $15,000 worth of interest on her mortgage. Through home office expense, she can claim 30% (30 sqm/100 sqm X 100) of $15,000 interest as a business expense which is $4,500.
That’s $4,500 that Cherie can use to reduce her tax liability! Assuming an average tax rate of 28%, that’s tax savings of $1,260 a year.
Well ok, it doesn’t sound like much, but hey, every little bit helps! Also, the higher the interest rate goes up, the more your tax savings.
Growing the side hustle
In the early days, you will make a loss on your side hustle. But over time, you may even be able to grow it to become more profitable. That’s extra money to put against your mortgage AND you are still able to claim interest expense via home office expense to reduce your tax liability. If you’re thinking of starting a business, check out this article. Want to buy a business instead? Here’s what you need to know.
Focus on beating rising interest rates
Sometimes it can feel overwhelming. Like we’re boats caught in a storm. But there are still things you can do to weather the oncoming financial storm.
Focus on the things that you can affect. Hopefully these tips will have given you some confidence to face the tough financial times we have ahead. Remember – be the victor, not the victim.