THE FINANCIAL WELLNESS COACH: Access bonds can boost emergency savings, but mental discipline is vital

Is it prudent to put your emergency fund into your access bond, where it reduces the interest on your home loan but remains available if you need it?

Answer:

From a purely financial point of view, I am a big fan of using an access bond as a home for at least part of your emergency fund. The return you are in effect getting on that money is excellent, it is virtually risk-free and, importantly, it is tax-free. The catch is that you need to be extremely disciplined.

Let us say you owe R1.5-million on your home loan and you have R200,000 sitting in a money-market account as your emergency fund. If you put that R200,000 into your access bond, the bank in effect calculates interest on a lower outstanding balance.

If your bond rate is about 10%, that R200,000 could save you roughly R20,000 in interest over a year, ignoring the declining loan balance and other technicalities. That is in effect a return of about 10% on the money.

This is where it becomes particularly attractive: you are not receiving R20,000 of interest, you are avoiding an expense of R20,000. That distinction matters because interest earned on an ordinary bank investment can become taxable once you exceed the annual interest exemption, whereas the interest you save by putting money into your bond is not income being paid to you. In effect, the return is tax-free.

Finding a conventional cash investment that produces the same after-tax return without taking additional risk is difficult, which makes an access bond a very efficient place to hold emergency cash.

Financially, it is difficult to argue against.

Behaviourally, however, there is a problem, as your emergency fund has disappeared. Not literally, as the money is still there and available to withdraw, but it no longer sits in a separate account with a large mental label attached to it saying: “Emergency fund – do not touch.”

Instead, your banking app may tell you that you have R200,000 “available” in your home loan, and available money has an unfortunate habit of becoming spendable money. Suddenly the overseas holiday looks affordable, the car could do with replacing, the lounge suite is getting old, or perhaps it is time to renovate the kitchen.

None of these things is necessarily irresponsible. The problem is that they are not emergencies.

This is an example of what behavioural finance calls mental accounting. We tend to treat money differently depending on the bucket into which we have placed it. R200,000 labelled “emergency savings” feels different from R200,000 labelled “available in access bond”, even though the money is identical.

For this strategy to work, you need to mentally demarcate that money even though the bank does not.

Check how your access bond works

There is one practical point that should not be overlooked. Do not simply assume that every amount shown as “available” in your bond will remain accessible under every circumstance, because access bond arrangements differ between banks and products, and there may be conditions attached to withdrawals.

Before moving your entire emergency reserve into your home loan, make sure you understand exactly how your particular access facility operates.

My verdict

For someone with a home loan, an access bond can be one of the best places to keep an emergency fund. The effective return is excellent, the risk is very low, the saving is tax-free and the money remains accessible. If you maintain your normal monthly bond payment, you can also accelerate the repayment of your home loan.

But I would put one enormous condition next to that recommendation: you must have the discipline to pretend the money isn’t there.

If you put R200,000 of emergency savings into your access bond, that R200,000 is not available for holidays, cars, furniture or renovations. It belongs to the future version of you who may lose a job, face an unexpected medical bill, experience a major household expense or encounter one of life’s other unpleasant surprises.

If you have the discipline to treat it that way, I think this is an excellent strategy. If you don’t, accept the slightly lower return and keep the emergency fund in a separate account.

Sometimes the mathematically perfect financial plan is not the best financial plan. The best plan is the one that takes account of the person who has to live with it. DM

Kenny Meiring is an independent financial adviser. Contact him on 082 856 0348 or at financialwellnesscoach.co.za. Send your questions to kenny.meiring@sfpadvice.co.za