It's never too soon to think of retirement
By David Potts | theage.com.au | 28 April
The way super funds are going this sure doesn't look like a good time to be thinking about early retirement, yet nothing could be further from the truth.
Frankly, it's never too soon to think about retirement if you ask me.
Weaker markets just mean you'll get more bang for your super buck. Plus you get a head start from some of the tax breaks on offer.
The finish line isn't bad either, what with no tax once you're 60.
While super funds are going backwards - probably not as much as you fear because not all your money goes into the sharemarket, so don't fret - if you're still working and contributing what you lose on the swings you gain on the roundabouts.
SuperRatings says balanced funds, which are far and away the most popular, have lost about 6 per cent so far this financial year. That's nothing like the rout in the sharemarket because balanced funds have sizeable amounts in things like bonds, which put on 2 per cent in the last quarter.
Super might have shrunk, having climbed 70 per cent in the past five years, I might add, but new money going in is either picking up some long-term bargains or a juicy interest rate.
Anyway, a lot can change between now and June 30 in either direction.
But if you like the idea of quitting work earlier, you need to bite the bullet and put more in.
More sacrifice, more money
Of all the super strategies that will help you retire earlier, only salary sacrificing brings some here-and-now benefits too.
The others, in one way or another, lock your money away until you retire or turn 55 (if you were born before 1960).
Salary sacrificing will cut the tax on whatever you put into super from as much as 46.5 per cent to just 15 per cent.
But that's only the half of it.
Depending on where you are in the tax scale, it could pull your rate down a notch so everything else gets more lightly taxed as well.
Say you're on $76,000 and salary sacrifice $2000 in a year. That'll pull your tax down from 40 to 30 per cent on your other income.
By the way, any franked dividends you earn would become tax-free.
Some lucky taxpayers will be dropping a tax rung without doing anything thanks to the cuts on July 1, but at least this way you can join the club.
Incidentally, those tax cuts are a great way to kick off, if not top up, salary sacrificing. Just tell your boss well before July 1.
The only time salary sacrificing doesn't work is when you're already on the 15 per cent marginal tax rate.
Remember, $100,000 a year is the most you can put into super if you're over 50, or $50,000 if you're under 50.
And the ordinary employer contribution of 9 per cent of your salary is technically also sacrificing and so counts as part of the limit.
Once in super, the earnings are taxed at only 15 per cent. That gives you the benefit of years of compound interest (and dividends) to build a nest egg.
Rewarding co-habitation
You can even salary sacrifice to the point where you get a government handout for your super fund.
Under the co-contribution scheme, it will more than match what you put into super if your taxable income is $28,980 or below. In fact, the Government will contribute $1.50 for every $1 you put in. It stops at $1500, for your $1000.
Above $28,980, there's a sliding scale and the contribution stops altogether at $58,980.
Sorry, you can't count contributions from salary sacrificing.
By all means drop your income to the threshold by salary sacrificing, but after that you have to make your own contribution from whatever you have left after tax.
Don't forget your spouse's fund, either. It might be better for you to pay into your spouse's super.
If all else fails there's always the spouse rebate. You get a rebate of $540 for a $3000 contribution if your partner earns less than $10,800 a year.
Magic pudding
The magic pudding of super is the so-called transition to retirement pension, available to anyone working who's 55 or older.
It's almost a parody of the super system. You're better off salary sacrificing and then taking it out again because that'll leave you with more super than you started with. The reason is that you collect a tax break at every turn.
True, it's designed to thwart early retirement but it does let you work less if you want to and will certainly boost the coffers when you do retire.
The first helping of the magic pudding is salary sacrificing, swapping your marginal bracket for a 15 per cent flat tax.
The next serve is your private pension. As soon as you take the money back out you get a 15 per cent tax rebate.
The cream on top is that once you start a private pension, your fund no longer has to pay tax on its earnings.
If you're greedy, you'll get even more. There's nothing to stop you salary sacrificing down to $28,980 then putting $1000 of your pension back in to collect a $1500 co-contribution handout.
The question is whether a magic pudding strategy is safe in this market. After all, the only ones who can take advantage of it are going to be close to retirement and won't want to be liquidating stocks in this market, especially when a loss won't even be deductible against anything because there's no tax. Relax, it'll still work. Your fund will have a cash balance that you can use first. And don't forget you're pouring more money in too. In fact, thanks to the magic pudding, more money finishes up in your super than you started with.
Assets that are assets
Speaking of cash, one sure way to prolong your working life because you can't afford to retire is to stick your money in the bank. After tax and inflation have kicked in, you'll be going slowly backwards over time.
Even within super, where the tax rate is only 15 per cent, holding too much in cash will crimp your wealth.
You can count on one hand, in fact since 1980 on one finger, the number of times being in cash would have been better than shares.
And then it was only for a year.
Nor does it pay to flit from one investment to another. Since it's impossible to pick the tops and bottoms without fluking it between shares, property, bonds, international equities and whatever, why bother? Especially when you're likely to finish up going backwards by chopping and changing.
Instead, pick an asset allocation that suits your age and circumstances. For example, a high-powered share fund is more likely to suit someone in their 20s while a conservative fund with more fixed interest in it will suit investors closer to retirement.
Get your gearing on
It's not something financial advisers make a point of, but the fact is negative gearing, when it's done properly, will make you better off sooner than super.
Plus, there's the distinct advantage of being able to get to your money when you want it. And choose your own time for retiring.
The reason gearing can work wonders is simple: you have a lot more money to play around with.
Pumping a borrowed $500,000 into an investment unit will have what Einstein called the miracle of compounding working for you from day one.
Salary sacrificing, say $10,000 a year, will be a harder haul.
But the risk with gearing is a lot higher too.
With property especially, the entry price is high and it's hard to diversify. Pick the wrong place in the wrong spot and it'll take years for your investment to do anything.
In fact, after the interest costs, maintenance and inflation you could well be worse off.
Although negative gearing goes hand and glove with property, blue chip shares are even more suitable because their franked dividends come with a 30 per cent tax rebate.
The other benefit of shares is that you can be more diversified.
Always gear against a portfolio, not a single stock.
Oh, one other thing. You need to take the negative out of negative gearing.
Unless your investment becomes positively geared, so that the income is more than the expenses, the chances are it's a dud. It would take an unprecedented price boom just before you sell it to get you off the hook.
By the way, lower tax rates aren't necessarily bad for gearing.
Although your annual tax deduction is lower, the bigger and better impact will be the lower capital gains tax when you sell.
Still, shares are riskier than property, which can never drop to zero.
Er, can it?
Home-made funds
One solution to the risk problem is to salary sacrifice and gear.
And guess what? For the first time you can do both in super.
The borrowing has to be in the form of an instalment warrant, which basically means other assets in the fund can't be used as collateral.
The new rules are especially appealing for DIY funds since they can now gear into an investment property.
Being super, there are rules about who can buy what from whom.
The Tax Office says: "We are concerned where borrowings feature non-commercial interest rates, or where there is capitalisation of interest, or where members provide personal guarantees secured beyond charges over the asset purchased."
Still, there's no mistaking the potential of super funds being able to borrow.
What's more, the borrowings don't count toward the $100,000 contribution cap either.
Case study: negative gearing poser
It sounds like a great problem to have. When he turned 60 last year, Laurie Young started a magic pudding pension, which has slashed his tax bill to almost nothing.
But he's also negatively gearing an investment unit, which only makes sense if you're paying a lot of tax.
So Laurie is tossing up whether he should bring forward four years his retirement from his executive job in the public service, or sell the unit.
"It may be in my interest to stop working and take my money out of super and pay off the loan, or else sell the property," Laurie said.
"It'll depend on the market."
Since his fixed-term interest-only loan doesn't expire until next year - when the chances are it will have to be refinanced at a higher rate, which he fears will be "a big shock" - he can mull over his decision.
But meanwhile he's been enjoying big tax savings from what's called a transition to retirement pension which he started seven months ago after his super fund, First State Super, sent him to an adviser.
Laurie will pump the maximum allowable $100,000 into his super by salary sacrificing this year, simultaneously paying himself a pension which is tax free because he's over 60 (if you're between 55 and 60 you get a 15 per cent rebate instead).
"I'm saving tax on all the money I'm putting in and on all the money I'm taking out because of the transition to retirement pension," he said.
But he's rethinking the investment unit: "I don't have to pay much tax anyway so I'm wondering whether negative gearing is such a good deal."
Not that super is completely straightforward either. Thanks to the collapse of the sharemarket's bull run, Laurie faces a lower super payout next year. He is taking the minimum 4 per cent out, or $44,000 a year, but because the total has shrunk that also means a lower pension.
"When I started it, super schemes were doing really well and I thought I could take some out without diminishing the capital. Since October, returns haven't been so great and it's actually eating into my capital.
"I'll rethink the percentage at the end of the financial year and see if I can live on less."
First published by TheAge.com.au on April 28 2008
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