Council Rate & Insurance: Pay Monthly, Quarterly or Annually?

I’ve got the latest Auckland Council rate bill earlier this month and the council rate went up again. As an Auckland rate payer, you will have a choice to either payment annually or quarterly. If you choose to pay annually, you will have a massive discount of… 0.83% on your bill.

 

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Thanks, Phil

It got me thinking: how should other rate payers and I decide if we should pay annually with that discount or quarterly without a discount? Will that discount big enough to offset my lost interest? What sort of return on investment do I need if I plan to pay quarterly?

Not a Simple Math

I was discussing this problem with a friend and he said, “it’s really easy to work out, just take the discount you’ve got from the council and compared that to your bank interest rate. If your interest rate is higher, keep your money at your bank.” I know there are some people using this method as their back-of-the-envelope calculation. However, it’s a bit more complicated than that. We will need to fire up excel to analysis this.

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Prerequisite

Before we jump into the analysis, we need to check on two things:

  1. Will you benefit from the service for the next full year?
  2. Do you have to cash to do either option (pay annually and quarterly)?

If you answer no to either question, you should pay quarterly. There is no point to pay for something you know you are not going to use or enjoy. In the context of Council rate bill, I am planning to own this house for the next year, so I’ll benefit from this payment. I also have to cash to do both as I’ve been expecting this bill.

Two Choices: Annually and Quarterly

The difference between pay annually and quarterly is how are they are going to affect our cash position and the interest gain from that cash. If we pay annually up front, we will take a hit on cash but rewarded with a small amount of surplus cash from the discount. That cash can sit in the high-interest account to earn interest. On the other hand, if we pay quarterly, we will have more cash to earn interest at the beginning.

Here is the assumption in our analysis:

Cash on Hand: $2,500
Quarterly Payment Amount: $625/Quarter
Annual Payment Amount: $2,479.25
Discount on Annual Payment: 0.83%
Serious Saver Interest Rate: 2.2% (not change during the year)
Resident withholding tax rate: 33%

The quarterly payment is $625/quarter, so the total cash included in this analysis will be $625 x 4 = $2500. I used BNZ rapid save account as our serious saving account here. (By the way, BNZ Rapid Save is one of the better serious saver accounts out there.) The interest rate is at 2.2% and its allow one withdraw per month without losing the bonus interest.

Pay Annually: If we pay annually up front, we will have $20.75 in cash after discount. We will keep those cash in a serious saver account for a year and the amount of the end of the year will be $21.06.

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Pay Quarterly: We will start with $2,500 cash and pay out $625 every 3 months. All cash will keep in a serious saver account. The interest generates more interest in the beginning as the cash level was higher. Towards the end of the year, the remaining cash amount at $13.96.

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Therefore, if you keep the cash in a serious saver account with 2.2% interest, you will be better off to take the annual payment discount.

Breakeven Point

If we keep increasing the interest rate (or expected rate of return), pay quarterly will eventually yield better return for your money. The reason is when we pay quarterly, the cash we kept in the beginning of the year is able to generate enough interest to offset the discount from paying annually. Check out the chart below.

Screen Shot 2017-08-28 at 2.34.15 PM.pngAfter some boring math (get equation on both lines then apply quadratic formula), the breakeven point is at 3.33%. Therefore, in the context of Auckland Council rate bill with 0.83% up he front discount, you should pay quarterly if you can get over 3.33% pre-tax return (2.23% after-tax or tax-free) on your cash. Any rate below 3.33%, you should just pay annually and take the discount.

When you Should Pay Quarterly?

You may think it is not hard to get an investment return over 3.3% given you can get a similar return on term deposit (3% – 4.2%), or index fund around 6%. However, the time frame is only 1 year, and you will have to withdraw part of them out every 3 months. So index fund is out of the window because expected return in a single year can be between 25% to -25%. A term deposit is not an option as well as you can’t take part of the money out every 3 months.

The better choice I can think of is Offset Mortgage on Home Loan. You keep more cash in your account to offset mortgage interest fits all criteria. The return is tax-free and guaranteed at around 5.75% plus you can access your cash every 3 months. To do that, you’ll have an existing home loan and had set up with offset mortgage or revolving credit.

Other good options include:

  • Pay off consumer debt – very high return, but you will have existing consumer debt in the first place
  • Top up KiwiSaver for member tax credit – very high return, not available if you are full time employed
  • SuperLife NZ Cash Fund – better than bank return, 7 years after tax and fees return at 2.62%, can easily get your money out, not recommended if you are not existing SuperLife investor

In my opinion, if you don’t have offset mortgage and consumer debt, just pay it off up front. It’s easier, and you don’t have to deal with the bill every 3 months.

Insurance: Annual vs Monthly Payment

The same analysis can apply to insurance payment. Most Car, house, and contents insurance will provide different payment options. Check out the example below for a car insurance quote.

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The discount from insurance company are much better at (42.6 x 12 – 469.32)/(42.6 x 12) = 8.19%. If we apply the same analysis, here is the result.

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Pay up front have a superior return on your cash and the breakeven point is at 28.5%. I don’t think there is any investment options other than paying off a high-interest loan can top that. Therefore, if you have the cash and you will benefit from the insurance for a full year, you should pay annually on your insurance.

Here is a simple graph that shows the break even return rate on different payment discount.Screen Shot 2017-08-28 at 10.07.09 PM.png

You simply look at the annual payment discount and refer to the break even return rate to decide if you should take the annual payment discount. For example, you’ve got a 7% discount if you pay your house insurance annually compare to monthly. According to the graph, if you have an investment with 24% pre-tax return (like use that money to pay off the credit card), you should pay monthly.

Conclusion

  • Pay quarterly if you don’t have the cash or not going to benefit from the service for a full year.
  • With Auckland Council rate, pay annually if the 1-year return on your cash is below 3.33%.
  • If you have existing consumer debt or offset mortgage facility, pay quarterly on council rate and use the cash to pay off or offset your loan.
  • Insurance usually offer a great annual payment discount so try to pay annually if you can.

Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.

10 Mistakes I made as First Home Buyer

In this blog post I listed 10 mistakes that I made as a First home buyer. Now, here are more details about what I’ve done wrong.

  1. I walked into my bank and get the personal banker to do my mortgage.
    You can get a better deal and service from a mobile mortgage manager for that bank or a mortgage broker. A good mortgage broker will not only get you a deal on interest and cash back, they can also help you to structure a home loan so you pay it off faster.  Moreover – if you are getting a quote from the bank, don’t ask just one bank. Make sure you get at least 3 quotes and be prepared to switch banks to get the best deal for you.
  2. I took the advertised rate.
    Bank’s advertised rates are for SUCKERS! You should ALWAYS ask for a lower rate. If you can’t get a better rate, ask another bank. There is 95% of the time you will get a lower rate unless you are a ‘high risk’ lender. Do not settle for the advertised rate. And remember – both fixed and floating rates are negotiable.
  3. I 100% fixed my mortgage.
    100% fixed mortgage gives certainty on your payment so lots of people are taking that. However, you will end up with extra cash sitting in a saving account and earning low interest. It would be better to set up a small revolving credit or offset mortgage for that cash to offset the home loan interest. You will be paying less interest while having the flexibility of cash in your account.
  4. I paid my mortgage based on what the bank said.
    If you have a 600K, 30 years term mortgage at 4.79%, the bank will ask you to pay $3144.37 monthly.  Keep in mind that amount is NOT the absolute amount, it’s just the MINIMUM amount you should pay. You can (and should) always ask to increase the payment amount. Even a $50 increase or rounding up to the nearest $100 can save a lot of interest and time (I am talking about years) on your mortgage. For instance, If you up the 600k payment to $3250/month ($106 extra/month, just$3.5/day), we will reduce the loan by 2 years and save $42611 on interest.
  5. I pay monthly.
    You will save more on interest if you pay fortnightly. Using a 600K loan as an example, the monthly payment will be $3144.37. If you pay fortnightly, the payment amount will be $725.12. The annual amount when paid monthly is 3144.37 x 12 = $37732.44, compared to a fortnightly payment of $725.12 x 52 = $37706.24, a $26.20 different. Although the amount is small, a saving is saving.
  6. I accepted the $1000 cash back.
    This is the same principal as point no.2; you should always ask for a better deal. Although it may not be that easy to get more cash back at the moment.
  7. I did not get a friend to do a referral despite heaps of my friends are with that Bank.
    My bank, at that time, offered $500 cash if you got your friends and family to start a mortgage with them. I could’ve got friends to do a referral and split the $500.
  8. I buy insurance from the bank.
    Insurance from the bank is more expensive compared to insurance companies while offering a similar service. In my case, it was about 20% different. It is very easy to get an online quote for home, content and life insurance now.
  9. I did not ask for fee-free credit card
    Again, this is the same principal as no.2, you may not get it but at least you asked.
  10. About 18 months into that fixed term, some news headline saying interest rate is going up. I considered to break the contract and refinance.
    I didn’t in the end. However, I shouldn’t have been affected by a couple of news headlines or what the radio says.

So, those were my rookie mistakes when I first started my mortgage. Hope you guys won’t make the same mistakes that I made. Now, my mortgage set up is optimal for my situation and I will write about it in a coming blog post.

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Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.

My First mortgage as a noob

I was sorting my paperwork and saw my old mortgage paper. I was such a noob back then and made a lot of mistakes when I set up that mortgage.

Hunting for our First home

When I and my wife start hunting for house couple years back, we’ve done the first timer mistake by walking into my friendly local bank which I’ve been banking with for 10+ years, ask about home mortgage and got introduced to a personal banker. Had a 30 mins meeting where the banker took our account statement and worked out our income, expense, and deposit. We walk away with a 600K loan pre-approval.

So, we went on to house-hunting and luckily got a house at auction (passed-in then negotiate). We took the purchase agreement to went to the bank again. This time stayed there for an hour. Got a 500K fixed 2-year at the advertised rate home loan, pay monthly plus a life insurance for both of us, house and content insurance. I was so proud of myself because I also got a $1000 cash back and used that to pay the lawyer. The mortgage payment was about $2400/month plus $180 for the insurance. I remember when I walk out of that bank I felt a sense of accomplishment. I knocked down home ownership, mortgage, life, content, and house insurance on the same day.

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The list of stupid things that we’ve done.

Now I look back at the mortgage statement, I was such a NOOB!!!! I’ve made so many first timer mistakes!!!

  1. I walked into a bank and get the personal banker to do my mortgage.
  2. I took the advertised rate.
  3. I 100% fixed my mortgage.
  4. I pay my mortgage based on what the bank said.
  5. I pay monthly.
  6. I accepted the $1000 cash back.
  7. I did not get a friend to do a referral despite heaps of my friends are with that Bank.
  8. I buy insurance from the bank.
  9. I did not ask for fee-free credit card
  10. About 18 months into that fixed term, some news headline saying interest rate is going up. I considered very hard to break the contract and refinance.

The ONLY thing we did right was the downpayment. At that time, you can get a home mortgage with just 5% deposit and lots of people did that. We decided to put over 20% as deposit since we saved up some money already.

At that time we didn’t know much about mortgage….actually, we don’t know much about money, personal finance, saving and spending at all. We were stuck with this deal for 2 years and within that time, we had a money crisis that forced me to educate myself about money. I read books from the library, research online,  builds home loan model in excel and ran a bunch of analysis. Now I have a nice setup on a home mortgage with every dollar working to reduced the interest expense.

I am interested to know any of you made those mistake when you first took on a mortgage?

Also if you don’t know what I’ve done wrong or you actually doing the same thing, check out this blog post and I will explain what I’ve done wrong.

Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.