Get your money working for you
Money makes money when it is reinvested writes David Potts, whether through a superannuation account, holding a share portfolio or property investments.
Psst ... here are some get-rich schemes guaranteed to work without a Gold Coast unit, a goldminer or a Nigerian bank transfer in sight. Promise.
Anyway, they’re all gleaned from financial advisers who say for starters you must pay yourself first.
The advisers mean setting aside a small proportion of each pay packet – even 1 per cent is better than nothing, especially if you start straight away – to be invested. Have it direct credited before you get your mitts on it.
You can pay yourself inside or outside super depending how old you are, whether you have a mortgage and how much you trust future governments not to change the rules.
In the first year or two the mortgage is the go because the interest is loaded up front.
Still, using superannuation to the hilt is a no brainer to future riches, though you do have to be patient.
Super is a tax break, not an investment, so don’t blame it for the bad years that probably would have been even worse without it.
Salary sacrificing is the best way in because you’re swapping your usual tax rate for a flat 15 per cent. Even better, if you’re on the cusp between different tax brackets (incomes around $37,000, $80,000 and $180,000) it will cut your tax on everything else too.
The key to making super work for you is in choosing the right investment option. So in your 20s you don’t want to be in a conservative do-nothing capital stable fund but you would in your 70s.
Also watch out for fees. One of the cheapest is ANZ’s Smart Choice Super with a 0.5 per cent annual fee. By contrast, some super funds charge as much as 2 per cent for sharemarket investments. Since you’ll be in super for a lifetime that adds up.
In fact, a 2 per cent fee will halve the value of an investment in 36 years, compared with one with no fee. Scary, eh?
There are other things you can do about tax too, short of not paying it.
But negative gearing is only for mugs or the very lucky. Losing money year in and year out on an investment, even with the taxman helping out, could outweigh any eventual after-tax capital gain.
It’s also risky if you’re wrong, rates rise, or your financial situation deteriorates.
Gearing is good only on an investment that’s going to make a profit well before you sell it.
Other tax tips are putting investments in the name of the lowest income-earning partner, or the highest if gearing, and holding assets such as shares for at least 12 months so the capital gains tax is halved when you sell.
If you already have a capital gains tax bill and own shares that have lost value, sell them to get an offsetting loss.
Interest-earning investments such as term deposits can be timed so they mature in the following financial year, postponing the tax.
Better still, go for a cocktail of maturities so you’re never caught having to invest at very low interest rates.
It’s said of the sharemarket that the trend is your friend, but to get rich your guardian angel is compounding.
Money makes money when it’s re-invested. Dividend re-investment schemes, keeping the interest in a savings account, or making regular contributions to an investment are all ways to take advantage of compounding returns. The sooner you get started the better.
But where to invest? Shares are easier to start with since they need only a small amount of capital.
Blue chip, dividend-paying stocks have stood the test of time, not that you should buy them all at once.
A popular strategy is dollar cost averaging, where you buy a set value of shares periodically – say, $1000 worth every six months. Re-balancing, which is a variation on the theme, also works a treat. This is automatically selling some shares that have gained in price and buying others that have dropped on a pre-determined date (such as June 30 or December 1 or perhaps your birthday).
That way, you’re taking some profits and picking up potential bargains, as well as being forced to re-think your portfolio every now and then. Not that you should be chopping and changing all the time; it is one of the worst wealth-destroying things you can do.
The same goes for the investment options in your super fund. Maybe review them every decade, but that’s about it. You need to give compounding some space. Don’t worry about picking the right moment to buy shares either, otherwise you never will.
‘‘Trying to time the market is always a loser’s game,’’ Tim Buckley, global economist at Vanguard says.
You not only have to pick the best time to sell, but also the best time to buy back in again. Good luck there, because it’s not as if the market thoughtfully rings a bell to let you know.
Come to that, investing in something just because it’s done well in the past can be a huge mistake.
The truth is, a stock that looks a winner is just as likely to have the best behind it.
Mathematically, last year’s worst performer – so long as it isn’t broke – has just as much chance of being the best in the following year. Likewise, the best has just as much chance as being the worst.
The same goes for that hot share tip a mate gave you. If it’s that hot you can be pretty sure it has already had its run and you’re too late.
And if it hasn’t done anything yet, it probably won’t because chances are your mate doesn’t really know that much about it anyway.
Where was I? Oh yes, re-balancing pre-supposes you have more than one stock of course, as you should.
After all the mantra of financial planners is diversification.
Holding different types of investments doesn’t mean having two stocks instead of one, but a sharemarket investment and something in bonds, for example. Or say an investment property along with a share portfolio, or at least a fund investing in the top 50 stocks.
Also, turn the mortgage to your advantage. You’d be surprised how versatile it is. For starters, the offset account is a great way to save without paying tax. Making repayments above the minimum will cut the interest bill and you can always take the money out again when you need it.
It’s also one of the best ways to save for things like the kids’ education. Where else are you going to earn 5 per cent after tax a year?
Another strategy is converting the mortgage into interest only and using the savings from the lower repayments, to fund a tax-deductible investment loan.
Incidentally, switching to interest only is a handy boost close to retirement.
It’s a chance to plonk more into super from the extra cash using the much higher cap of $150,000 a year for ‘‘voluntary’’, as distinct from salary-sacrificed contributions.
When you retire after 60 you can take the money out tax-free and pay off the mortgage.
By the same token, if you’ve also got an interest-only investment loan, or a margin loan in the case of the sharemarket, it’s better to pay down the mortgage on the home first because it’s not tax deductible.
What about consolidating credit card and other debts into the cheaper mortgage?
Depends on how self-disciplined you are. The only way this will work is if you keep making the repayments you would have on the credit card.
Otherwise you’re just lengthening the life of the debt and you’ll finish up paying more.
And did I mention you should pay at least 5 per cent of the credit card’s monthly balance? Anything less and you’re paying interest on interest.
These very low interest rates raise the question of fixing the mortgage.
If you can fix for less than you’re paying now, taking any fees for switching into account, why not?
And if you’re paying much more than five point something, a trip to the bank might be in order.
How to save $10,000 a year
Take your lunch to work. At three $6 lunches a week, you save $860.
Don’t buy the daily $2 scratchie. Saves $800.
Take a list to the supermarket. Based on spending $20 a week too much, saves $1040.
Use public transport. About $10 a week cheaper than the car, saves $480.
Buy Christmas and birthday gifts at sales only. Let’s say saves $100.
Drink more tap water and one less Coke or coffee a day. Saves $1200.
Switch to a cheaper mortgage. Canstar says on average saves $1500.
Salary sacrifice $5000 into super. On average earnings of $77,000 tax saving is $850.
Pay off the credit card. On average debt of $4573 ASIC says interest saving is $786.
Sign up with cash rebate brokers such as yourshare.com.au and get back hidden insurance commissions, for a typical household saving $1872.
Swap books and DVDs with friends or borrow from the library. Let’s say that’s an average of $10 a week, saving $520.
Get rich bucket list
Pick a low cost (less than 1 per cent a year in fees) super fund.
Salary sacrifice into super. This will cut your tax rate to 15 per cent on what you put in (limited to $25,000 a year, or $35,000 if you’re over 60).
Choose an investment option within super commensurate with your age.
Be careful whose name you put investments in to save on tax.
Avoid selling shares within 12 months so as to get the 50 per cent discount on capital gains tax.
Make the interest payment on termed-posits fall no earlier than July 1 to postpone the tax.
Choose a cocktail of term deposits so you’re not caught out by falling interest rates.
Blue chip dividend-paying shares have stood the test of time.
Re-invest interest and dividends.
Set an amount you want to spend and invest at regular intervals so you average out the price you pay Don’t try to time the market.
Only consolidate loans into the mortgage if you’ll keep making the same payments.
Diversify within and between assets over time.
Turn the mortgage to your advantage using the offset account to save, and fixing some of it.
Pay at least 5 per cent of the credit card balance monthly.
Fix some of the mortgage.