Coordinate to get the most from super changes
April 13, 2017 | Robin Bowerman, Vanguard Investments Australia
The imminent arrival of a limit on super tax-free pension accounts together with lower contribution caps is likely to have the unintended and positive consequence of bringing more couples closer together when it comes to their investment strategies.
It seems inevitable that more spouses, including younger couples, will coordinate their saving efforts so each contributes as much as possible to super and eventually holds as much as possible in tax-free pension accounts. And depending upon their circumstances, more high-balance super members in particular are likely to make their balances as even as possible.
Let's recap on several of the fast-approach key super changes.
From 1 July, an indexed $1.6 million limit will apply to the amount transferrable into a tax-free super pension account. And members with total super balances (in accumulation and pension accounts) of more than $1.6 million will no longer be eligible to make non-concessional contributions from that date.
Further, the concessional (before-tax) and non-concessional (after-tax) contribution caps are reduced from 1 July.
These changes mean is typically even more reason for couples to synchronise their savings – both inside and outside super.
Even younger couples with little expectations at this stage of their lives of saving as much as $1.6 million (in today's dollars) individually in super will typically benefit from each spouse contributing as much as possible each year. And, maybe their lives may take a turn where the possibility of overshooting $1.6 million pension limit (indexed as mentioned) becomes realistic.
The list of financial matters that couples might discuss with themselves (and perhaps with their financial advisers) is lengthy.
Such matters may include: budgeting together; setting shared long-term goals; co-ordinating investment and saving strategies to reach their goals; and setting appropriate asset allocations and diversification for portfolios held jointly and individually.
Other topics to think about discussing as a couple include how to minimise investment costs and whether family members hold enough life, permanent disability, income-protection and health insurance for a family's needs. And one of the less-tangible benefits of taking a joint approach to family finances is that both spouses should gain a better understanding of how family money is managed.
A series of research reports and commentaries by consultants Rice Warner include these points:
- "Wealthy couples could retire with up to $3.2 million in tax-free pension accounts [as at July 2017] by accumulating their superannuation reasonably evenly. Previously, it did not matter how super was divided between a couple – so long as the relationship stayed together."
- Advisers should consider new issues given the $1.6 million limit such as how to optimise the split between super and non-super investments. Based on certain assumptions, it was possible for a super fund member with no other taxable income to hold, say, $400,000 outside super and paying "little or no tax on investment earnings".
- "Couples co-ordinating their plans have improved chances of being able to catch-up contributions tax effectively after a career break to look after young children."
- "If two-thirds of Australians are in a marital relationship at retirement age, it simply makes sense that they would be looking at life post-retirement through the lenses of their combined net wealth (including any eligibility for a couple's age pension)."
Harmonising saving, investing and managing of personal finances will no doubt involve quite a change in mind-set for some couples. Yet it is likely to provide an extremely positive return.
Almost the world's best for retirees
April 13, 2017 | Robin Bowerman, Vanguard Investments Australia
What are the best countries for a comfortable retirement? What countries have the best retirement-income systems? It seems the answers to these questions are rather positive for Australian retirees.
The recently-published 2017 Best Countries survey from US News & World Report, BAV Consulting and the Wharton School at the University of Pennsylvania ranks Australia as the world's second-best country for a comfortable retirement – behind New Zealand and ahead of Switzerland, Canada and Portugal in the top five.
Survey respondents aged 45 years and up ranked the best countries for retirement on seven attributes: affordability, favourable tax environment, friendliness, "a place I would live", pleasant climate, respect for property rights and a well-developed public health system.
The questions were asked in the context of where a person would consider moving to upon retirement if cost were no object. It is worth noting that the Best Countries survey did not seek views about the adequacy of a country's retirement-income systems.
Up to approximately 21,000 survey participants from around the world were asked to grade countries under such headings as best countries overall (Australia came eighth with Switzerland taking first place), best countries for women (Australia sixth), quality of life (Australia fourth), best countries to invest in (Australia 22nd) and best countries for a comfortable retirement.
The latest Melbourne Mercer Global Pension Index, as discussed by Smart Investing late last year, once again ranked Australia's retirement-income system third out of 27 countries assessed (accounting for 60 per cent of the world's population) in terms adequacy, sustainability and integrity. While Australia was given a B-plus, the front-runners - Denmark followed by the Netherlands - received A grades.
Australia's high rating in the pension survey was largely due to our "robust" superannuation system and Government-funded age pension, but "there was work to be done" to achieve an A grade.
Irrespective of each country's social, political, historical and economic influences, the pension report stresses that many of their challenges in dealing with an ageing population are similar. These include encouraging people to work longer, the level of retirement funding and reducing the" leakage" of retirement savings before retirement.
Although the suggestions of the Global Pension Index are directed mainly at government and the pension/retirement sectors, individuals may pick up useful personal pointers from most of its suggestions to, perhaps, discuss with a financial planner. In other words, consider taking a personal perspective on this global retirement-incomes challenge.
These personal pointers may include:
- Think about whether to work until an older age than initially intended. The longer a person remains in the workforce, the greater the opportunity to save for what will be a shorter and therefore less-costly retirement. (An individual's ability to work longer will much depend, of course, on personal circumstances including health and employment opportunities.)
- Try to save more in super within the annual contribution caps. And if self-employed, consider making voluntary super contributions. Unlike employees, the self-employed in Australia are not required to save in super.
- Think carefully before accumulating pre-retirement debt with the purpose of repaying it with super savings – it could reduce your standard of living in retirement. This is part of the pre-retirement "leakage" referred to by the Global Pension Index.
- Take your superannuation pension rather than a lump sum upon retirement if possible. This will keep your savings in the concessionally-tax or tax-free super system for longer and, most importantly, make your retirement lifestyle as comfortable as possible for as long as possible. The report for the Global Pension Index suggests that one possible way to improve Australia's retirement-income system might be to compel super members to take part of their super as a pension.
It's comforting that thousands of people around the world regard Australia as one of the very best places for a comfortable retirement if they could afford to shift to another country after leaving the workforce and cost was not a barrier. And it must provide a degree of comfort that Australia's retirement-income system is "relatively well placed" in the worlds of the Global Pension Index.
Unfortunately, other research has long shown that a large proportion of Australians have inadequate - often grossly inadequate - retirement savings.
As global retirement-income systems grapple with the demographic shift of an ageing population with declining birth rates and seemingly ever-greater longevity, individuals should be doing as much as they can to maximise their own retirement savings.
In your interest: a mortgage buffer
February 22, 2017 | Robin Bowerman, Vanguard Investments Australia
The Reserve Bank's decision this week to once again leave the official cash rate at a record low of 1.5 per cent is likely to encourage prudent homebuyers to keep building up or at least maintain their mortgage buffers if possible.
Homebuyers who make higher repayments than the minimum required are developing a valuable buffer to help cope with future rate rises or unexpected financial setbacks. A mortgage buffer makes much sense.
More than three years ago, the Reserve Bank reported that "anecdotal evidence suggests" that about half of households had not reduced their regular monthly repayments as interest rates had fallen. And it is likely that this buffer-building pattern has continued through the subsequent years of rate cutting.
The central bank's latest half-yearly Financial Stability Review, published in October, records that mortgage buffers held in lenders' offset accounts and redraw facilities remain high at about 17 per cent of outstanding loan balances. This equates to about two and a half years of scheduled repayments at current interest rates.
"However," the bank cautions, "these aggregate figures mask significant differences across individual borrowers. Many borrowers have little or no buffer, especially the newest borrowers and those considered more at risk of experiencing financial stress, such as borrowers with lower wealth and income or higher leverage."
A loan with a redraw facility enables borrowers making extra repayments to withdraw the money if needed. And a mortgage offset account is a saving or transaction account attached to your mortgage with the current credit balance offset against your mortgage, reducing interest payments.
Some financial planners liken the making of additional mortgage repayments to making a higher-yield, tax-free investment that involves no risk.
Take the example of a homebuyer with a 39 per cent marginal tax rate (including Medicare) and home loan with a 4.5 per cent variable rate.
For such a homebuyer, the making of extra repayments is the equivalent of earning a pre-tax return of 7.38 per cent on a fully-taxable investment. There is no risk involved because the repayments had to be made anyway.
The mortgage calculator on ASIC's consumer website MoneySmart shows how much a homebuyer might save in interest by making even relatively modest additional repayments every month. Take a homebuyer with a $300,000 capital-and-interest loan with a current variable rate of 4.5 per cent. The loan term is 30 years.
Based on certain assumptions, MoneySmart calculates that by repaying $100 extra a month, this homebuyer will cut the term of loan from 30 years to 26 years and five months while saving more than $34,000 in interest.
One of the calculator's assumptions is that the interest rate will remain at the extremely low rate through the life of the loan, which, of course, is highly unlikely in the real world. In practical terms, this means that making higher monthly repayments than required while rates are so low is likely to produce significantly larger savings that suggested by the calculator.
Keep in mind that the Reserve Bank has cut the official cash rate 12 times since the beginning of November 2011 when the official rate was a much higher 4.75 per cent (against 1.5 per cent today). This opportunity to build-up a solid mortgage buffer is hard to ignore – if you can afford it.
What recent retirees can teach pre-retirees
February 22, 2017 | Robin Bowerman, Vanguard Investments Australia
Frank Sinatra's My Way probably hasn't been among the karaoke top 100 for years. Yet its signature lyrics, "regrets, I've had a few", will certainly resonate with all of us – including recent retirees.
As Smart Investing recently discussed – see Improve your financial satisfaction in retirement countdown – Vanguard analysts have surveyed thousands of pre-retirees and recent retirees in Australia, US, UK and Canada to measure their satisfaction with their financials.
The analysts Anna Madamba and Stephen Utkus were seeking, among other things, lessons that could be learned from the experience of recent retirees. (Pre-retirees are defined as those within 10 years of retirement while recent retirees have retired over the past 10 years.)
"In other words," write Madamba and Utkus, "we looked into recent retiree views about how differently they would handle their transition to retirement [if they had the chance to do it again]."
Recent retirees were asked if they strongly agree with the following statements when looking back at their preparations for retirement:
"I should have saved more": Australian recent retirees, 45 per cent.
"I should have started planning earlier": Australian recent retirees, 36 per cent.
"I should have dedicated more time to planning for retirement": Australian recent retirees, 28 per cent.
"I should have learned more about government benefits available to me": Australian recent retirees, 26 per cent.
"I should have learned more about my employer-sponsored superannuation fund": Australian recent retirees, 33 per cent.
"I should have hired an adviser": Australian recent retirees, 8 per cent.
Overall, the analysts found that recent retirees appear satisfied with how they handled their planning for retirement. That said, however, recent retirees recognise some clear deficiencies in their preparations – predominantly the need to save more and spend more time planning.
It is telling that just 8 per cent of Australian recent retirees surveyed regret not having consulted an adviser about their transition to retirement. As discussed over the past week by Smart Investing, the study points to the "advice gap" among pre-retirees, with a large percentage in the surveyed countries relying only on the guidance from family and friends; that's if they take any advice.
A task for advisers, superannuation funds and Government is to emphasise to pre-retirees the benefits of quality professional advice, particularly in the last 10 years of their working lives.
Save early, save often
February 13, 2017 | Robin Bowerman, Vanguard Investments Australia
One of the underlying attributes of Australia's superannuation system is that it starts young adults saving for retirement as soon as they join the workforce.
Without compulsory super contributions, many millennials – aged in their twenties to thirties and also known as members of Generation Y – may have second thoughts about saving for retirement early in their working lives.
Any reluctance to begin saving for retirement at a relatively early age is understandable given that their post-working days might be 40 years away or so.
A challenge, of course, is to convince millennials that saving for the really long-term is worthwhile. And part of that challenge is to persuade millennials about the value of adding to their superannuation guarantee (SG) contributions in such ways as making salary-sacrificed contributions.
A recent New York Times personal finance feature – For millennials, it's never too early to save for retirement – comments that it is "perennially true" that most young adults don't make retirement savings a priority.
However, its author tellingly adds, "millennials are in an ideal position to get started" because their perhaps seemingly modest regular savings have the opportunity to grow substantially over time.
The article is largely based on interviews with five people aged 28 to 32 about their attitudes towards savings and investing. The interviews produced some surprising and not-so-surprising responses.
For instance, a 28-year-old accountant interviewed has been saving for retirement since she was 17 and arranges with her husband for one of their salaries be saved each pay day. However, several of those interviewed recognise the need to properly save for retirement yet have never quite got around to it.
High in the reasons why young adults should begin saving and investing as early as possible is to reap the rewards of what is sometimes called "the magic of compounding".
Compounding occurs when investors earn investment returns on past investment returns as well as on their original capital. And the compounding returns can really mount (or compound) over the long term – particularly the extremely long term.
Ways to get the most out of compounding include:
- Start to save and invest as early as possible in your working life with as much as possible. Compounding needs plenty of time to produce its best results.
- Invest regularly to keep building your investment capital and to accelerate the benefits of compounding.
- Adhere to an appropriate long-term asset allocation for your portfolio – with enough exposure to growth assets.
A perhaps overlooked attribute of compounding is that disciplined investors who reinvest their earnings are less likely to be distracted from their long-term course by the latest market noise such as a bout of higher market volatility. Meanwhile, there returns keep compounding.
Current retirees who had recognised the value of compounding at the beginning of their working lives should now be enjoying its rewards.
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