One of the most common questions is whether it's still worthwhile staying in super. Most of the inquiries come as a result of disappointing sharemarket returns, or because fees are seen to be too high for the service provided. The reality is, neither problem is unique to super: after all, it's only a structure that lets you hold assets in a low-tax area. Market returns and fees are an issue outside super, too.
Whether the use of super is appropriate depends on individual circumstances, but the massive tax and super changes that came into effect on July 1 are a signal for everyone to examine their options.
For starters, let's think about the unique benefits of super. No other investment option gives you the ability to invest with pre-tax dollars then hold your funds in an environment where income tax is just 15 per cent and capital gains tax is 10 per cent. Furthermore, it is one of the few assets you can own that is not available to the trustee in bankruptcy cases. This is why super is particularly effective for anyone in business.
The benefits get even better once you retire after 60 and start to draw an income from your fund. The fund itself ceases to pay tax while the income you receive is tax free.
The personal margin tax rate changes that have just come into effect have raised the tax-free threshold to an effective $20,542 a year. Until now, super had been touted as the perfect savings vehicle for people within 10 years of retirement because the lack of access was not a major disadvantage and funds could be held in a low-tax area.
But since July 1, anyone with a taxable income of less than $20,542 can stay in a tax-free area.
Moving money to super would disadvantage them as earnings there would be taxed at 15 per cent from the first dollar earned.
There has been much hype about the tax cuts that are supposed to compensate Australia for the effects of the carbon tax. The cuts are only $6 a week at most and are limited to low-income earners - there are no tax cuts for those earning in excess of $80,000 a year. For them, super remains the most effective tax-saving vehicle around, even though the amount that can be contributed to it by people aged 50 or older has been halved.
A radical initiative will involve the effective elimination of the 15 per cent contributions tax for low-income earners from July 1. From that date, anyone earning less than $37,000 a year will be entitled to a low-income super contribution equal to 15 per cent of any concessional contributions made. The maximum amount of compensation is $500.
For example, Sue receives $37,000 a year, which includes a 9 per cent compulsory employer contribution of $3330. Contributions tax of $499.50 (being 15 per cent of the contribution) will be offset by a government contribution of $499.50, which will wipe out the contribution tax.
Because the 15 per cent personal marginal tax rate has been increased to 19 per cent, salary sacrificing to super is still worthwhile for people earning between $20,542 and $37,000. People earning less than $20,542 a year would be worse off by salary sacrificing.
Despite the unique advantages of super, a better strategy for younger people may be to borrow for investment instead of making salary-sacrificed contributions to super.
Take Bill and Mary, both 40. They want to start building wealth and decide they can spare $10,000 a year from their gross salaries. Bill decides to salary sacrifice $10,000 a year to super, which means he will be investing $8500 a year after the 15 per cent contributions tax has been deducted.
If his super fund earns 9 per cent, he will have an additional $793,000 in his super fund at 65. Mary chooses a different course and borrows $120,000 to invest in a share trust - the interest will be about $10,000 a year, tax deductible. If the trust earns 8.5 per cent a year, when tax is taken into account, she will have $878,000 (minus the $120,000 loan), at 65 - an extra $85,000.
The reason for the difference is that Mary has $120,000 working for her at 40 - it will be more than 14 years before Bill has $120,000 working for him because he is only investing a net $8500 a year. Also, because Mary is investing outside super, she isn't losing access to her money.
There is now an even more compelling argument for high-income earners to borrow for investment in lieu of salary sacrificing to super. For them, contributions will lose 30 per cent - not 15 per cent - after June 30, so they will receive greater tax benefits from gearing.
In any event, most would be salary sacrificing to the maximum now. With contributions limited to $25,000, they can't even take advantage of the compulsory 9 per cent in full.
The reduction in contribution limits has led to a flood of emails asking whether a transition-to-retirement pension (TTR) is still a good strategy. The answer is a resounding yes.
Even though the benefits will not be as good for high-income earners as they once were, the strategy's effectiveness for lower-income earners remains unchanged.
What made TTRs attractive was the ability to continue contributing to super while drawing a tax-free or concessionally taxed income from the fund. They enabled anyone adopting the strategy to take advantage of the difference between the 15 per cent tax on contributions and their marginal tax rate.
Think about someone earning $100,000 a year. Their employer would be paying compulsory super of 9 per cent, or $9000, which is below the $25,000 maximum concessional contribution.
Suppose they reduced their income to $84,000 by salary sacrificing $16,000 a year to super. Their take-home pay would reduce by $10,080 but the net contribution to super would be $13,600 after the 15 per cent tax. They are immediately $3520 better off.
Let's look at two case studies prepared by Colonial First State. Both are 55.
The first person earns $150,000 a year and has $700,000 in super. Because of the reduction in the cap, they can only salary sacrifice an extra $11,500 a year. However, starting a TTR should boost their super balance by $20,770 at 65.
A person aged 55 on just $50,000 a year with $300,000 in super does better because they can salary sacrifice an extra $20,500. The use of a TTR strategy would give them an extra $39,900 at 65 if their super earns 7 per cent a year.
Super can be an effective tool in maximising Centrelink benefits because money in super is not counted until pensionable age.
Dave is 65 and Sue is 57. The bulk of their super is held in Sue's name, where it won't be assessed by Centrelink until she reaches 65. Depending on their other assets and income, Dave can enjoy a substantial age pension for the next eight years.
As the above cases show, super remains an effective wealth-building tool but, as ever, it is critical to get the right advice for your circumstances.