A short discussion about Contribution Splitting

There is a saying that everything old is new again. I guess that means I'll be 'new again' any day now. That however, is not the reason for this post.

 

A few years ago, there were things called "Reasonable Benefits Limits" or RBL's. These RBL's were the maximum amount of  concessionally taxed super you could access, before paying higher levels of tax. There was a 'lump sum' RBL, and a 'Pension' RBL. For a couple, where one partner made more money than the other over their lifetime, they could reach and exceed their RBL's, while the other partner, was way, way under. The ability to split your contributions, and thereby 'even out' some taxes, was introduced. Contribution Splitting.

 

 

(No, not those splits. They're painful)

 

However, a few years ago, RBL's went by the wayside. The way super was taxed was changed, and RBL's (and contribution splitting apparently), went by the wayside. However, for some people, in some circumstances, superannuation contribution splitting can still lead to strong strategic outcomes.

What contributions can be split?

There are a number of types of contributions that can be split, but the two most common types that may be split are:

·         employer contributions

·         personal deductible contributions

 

How much can be split?

Contributions to taxed superannuation funds that are able to be split are referred to as taxed splitable contributions.

The maximum amount of taxed splitable contributions is the lesser of:

·         85 per cent of the concessional contributions for a financial year, and

·         the concessional contributions cap for the financial year.

 

Benefits of superannuation contribution splitting

Superannuation contribution splitting can result in a number of advantages for a couple, including:

·        where the receiving spouse has little or no superannuation savings of their own, superannuation contribution splitting offers the couple the ability to access two low-rate cap thresholds on lump-sum withdrawals from the taxable component. Where lump-sum withdrawals are made on or after preservation age (55), but prior to age 60, this can effectively double the tax free amount that is able to be withdrawn by the couple as a lump sum to $350,000

·        where contributions are split to a spouse who is under Age/Service Pension age, this may increase pension entitlements as superannuation assets of the younger spouse are not assessed when in accumulation phase while they are under Age/Service Pension age, and

·        a contribution split to an older spouse may allow superannuation benefits to be accessed earlier under a condition of release.

 

Unfortunately, only accumulation funds can offer members the ability to split their contributions. Members of Defined Benefit schemes don’t have this ability. Also, not all funds do offer this benefit to members.

It I important to note that there are eligibility requirements for the receiving spouse of a splitting request, as well as legislation around contribution limits. While there are benefits to the strategy, as always, there are potential traps.

Finally, contribution splitting is of no value (or even interest most likely) to a single person, regardless of their age.  However, for many people, in certain circumstances, it is a very handy tool in the professional planners toolbox.

 

How much is enough?

How much income you will need in retirement may well be THE most important queation you should ask yourself when considering your finacial future. We find that our clinets initially have a vey hard time projecting this into the future, or even working out their current expenditure.

Most people don’t have a good idea of what expenses they will incur in retirement until they actually get there, so using a standardised measurement, such as the ASFA Retirement Standard, as a guide can help clients to plan properly.

The ASFA study considers how much is needed to fund a “modest” and a “comfortable” retirement income and is updated each quarter. Figures released for the December 2010 quarter show the following income requirements.

Modest retirement for a single: $21,218
Comfortable retirement for a single: $39,393

Modest Retirement for a single: $30,708
Comfortable retirment for a couple: $53,879

Even at the comfortable level this does not represent a lavish lifestyle. For example, a “comfortable” retirement income for a couple only includes $187.14 for food and $303.28 for leisure in their weekly budget. This means careful budgeting and expenditure management is still required.

These figures also assume the person owns their own home. Higher income is needed for those renting or still paying off debt. Thesae figures also are in today's dollars, and don't take into consideration inflation. So, if you were 40 (a good age in my book), a comfortable retirement for a couple would require nearly twice as much, or close to $110,000 per annum, by the time you get to 65, assuming prices growth of only 3% per annum.

Finally, then you need to work out the lump sum required to pay this income for life.

You can see why starting as earlier as possible, even if you don't think you are 'rich enough' to plan for the future, is so important.

We welcome any comments.

Is there a Chinese proverb for everything?

There is a saying that has been credited as a Chinese proverb that goes along the lines of "The best time to plant a tree was 20 years ago. The second best time is now." Put simply, what it means is that if you wanted a tree, you should have planned ahead. If you have not planned ahead, you had better get started.

Of course, the same goes for wealth creation and planning for your retirement. If you want to retire, you had better do something well before 65. For some of us, it might seem a long way off, but rather than take that for granted, you can use this to your advantage. Small steps taken over a longer period of time can achieve the same result, with less impact on your current lifestyle. And, as important as it is to plan for later in life, there has to be some balance between future goals, and current lifestyle. So then it would appear to make sense to give yourself as long as possible to get where you want, with the smallest impact while you are getting there.

Elsewhere in the blog we have highlighted why you need to plan ahead. But, is now really the second best time to plant your retirement 'tree'.

At the time of writing, many Australians remain concerned at the events unfolding in Europe, specifically the Greek financial crisis and what this might mean for the whole of Europe. The purpose of this post is to help make sense of current financial events and offer some guarded guidance for the future.

The cause of the Global Financial Crisis was fundamentally an excess of debt in the private sector of the economy caused by interest rates kept too low for too long. When you combine too much debt (much of it was lent to people and companies that had little hope of making their repayments if they ever hit a rough patch) with debt securities even the smartest people couldn't understand, well there's a recipe for a financial crisis. When the crisis did happen governments around the world did two things. Firstly, they took on the bad private debt of troubled institutions (those that were "too big to fail") and made the governments responsible for them. This was needed to make sure that the financial system continued to operate in as normal a way as possible. Secondly, they promised that the financial system would be better regulated in the future so that the financial crisis would not happen again (we are still waiting on this one).

The current situation has a direct linkage with these events. Greece spent up big when interest rates were low and the government thought economic growth would go on forever (thereby paying back the debt from a smaller proportion of future income). Now that economic growth is much weaker throughout the developed world, they won't have a bigger economy to pay back the debt. In fact, the proportion of the economy that will be needed to pay back the debt is so big that it will, in fact, slow the economy, because of the higher cost of borrowing.

So these are a number of reasons to be concerned about investing. But, currently, we are looking at data courtesy of datastream that shows why now might just be the second best time, on the assumption that you are looking to grow your wealth over the long term. The data is a graph that shows the average return of a 'growth' portfolio (85% growth assets/15% cash & fixed interest) over the last 20 years to the end of June 2010. This is then compared torolling 12 month returns, or what an investor would have received from being invested in a 'generic' growth portfolio over the same time period.

Importantly, any time that the red line is at or below the blue line, an investor should be able to expect average or above average returns over the long term. At present, the red line, is just about on the blue line. This does not mean that there will not be short term volatility, or that returns over the next 1 year will be high, but that someone investing now can reasonably expect to generate an average return over the long term. Also of note is that this average return is ahead of the cash rate, and the current mortgage rate.

Of course, as always, the comments here are general in nature, and do not take into consideration anyone's individual position. But the principle behind the post is that waiting for the 'perfect' time might mean you get to retirement and your 'tree' is bare.

She'll be right - Part 1

Every quarter, the Association of Superannuation Funds Australia (ASFA) update their Westpac ASFA Retirement Standard. The standard benchmarks the annual budget needed by Australians to fund either a 'comfortable' or a 'modest' standard of living in the post work years.

That obviously leads us to what ASFA mean by 'comfortable' and 'moderate'. Moderate is defined as better than the Age Pension, but still only able to afford basic activities. Comfortable is defined as enabling a healthy retiree to be involved in a range of leisure activities, and to be able to purchase a range of things, including household goods, a reasonable car, electronic equipment and domestic, and occasional international holiday travel. So comfortable is not 'luxury', and moderate is probably well below what most Australians would realistically want for themselves.

Don't be fooled by the idea that you will be happy spending significantly less in retirement. Just think quickly...is there not extra hobbies and activities that you would like to do in retirement that you don't do now? Maybe some travel? And what activities that you do now will you be 'happy' to give up?

The figures released by ASFA for the March Quarter 2010 show that for a couple to lead a comfortable retirement, they will need $53, 565 per annum. And remember, this is for a 'reasonable' car, and occasional overseas travel.

The next step here is to 'carry forward' this amount of money, and work out what will be needed when you go to retire. Roughly, if you are 40, and inflation continues at an average of 3%, then you will need about $110,000 per annum to meet these living standards. And to do that, and ensure that your money will last longer than you do, you will need a capital sum of around $2,000,000. And again, this funds a 'comfortable' $53,000 lifestyle in todays value. If you want a better lifestyle, you'll need more capital.

So where does 'she'll be right' come in. ASFA statistics show that the mean balance in super for men in Autralia is $87,600 and for women is $52,300 (more on this imbalance in She'll be right - Part 3). That is a long way short of the $2,000,000 mentioned above.

Further, ASFA figures indicate that the primary source of income for 66% of retirees aged 45+ is Government Pensions, which provide for less than a moderate standard of living. 7% have zero or negative income.

Summing up then, 'most people' would want for themselves a comfortable lifestyle, but have not funded this, and are not funding this, with the result being that nearly three quarters of retirees can expect, at best, a retirement that is less than modest.

If you are lucky, then your retirement might still be a few years off, but 'she might not be looking so right' after all.