Making the most of a windfall

Who among us hasn’t daydreamed about receiving a windfall? In reality, people receive large sums of money in the form of inheritances, redundancy payouts and lottery wins all the time. Yet many soon find themselves back in their pre-windfall financial position.

To take a recent example, 28-year-old Victorian Brodie Bond burned through a $220,000 inheritance in 12 months by splurging on drugs, alcohol, clothes and a car (which she crashed).i

The wisest use of a windfall will depend on its size and its recipient’s circumstances. But here are some broad guidelines for avoiding Brodie’s fate.

Splurge (a little bit)

You’re going to want to live it up a little. That’s fine, but make a deal with yourself to spend, say, at most 10 per cent of the windfall on a new car or family holiday. Then devote the other 90 per cent to investments that will facilitate long-term financial security.

Pay down debts

Before you start looking at investments, it makes sense to clear non-productive debts beginning with the one with the highest interest rate, such as a credit card. Then look at non-tax-deductible debt such as your home loan.

Paying off the mortgage has emotional as well as financial benefits - the sense of security that comes with owning a home is priceless. Yes, while mortgage interest rates are low you might get a better return investing elsewhere, but you’ll have money to plough into other investments after slashing your housing costs. Plus, those who receive a windfall while they still have a substantial mortgage can save hundreds of thousands in interest by paying back the bank early.

Top up your super

If you are close to retirement or already have substantial equity in your home, you might top up your super.

If you received a large windfall, you could make an after-tax (non-concessional) super contribution of up to $300,000 in any three-year period, for those aged under 65 depending on your superannuation balance.

You can also make tax-deductible (concessional) contributions of up to $25,000 a year, including contributions made by your employer. You may also have the option of combining five years concessional contributions and depositing up to $125,000 in any one year.

The pro of super is that it is a tax-effective home for your retirement savings. The con is that you can’t access your money until you reach retirement age.

Start (or grow) an investment portfolio

Over the long term, it’s hard to get a better return on your money than buying growth assets such as shares and property.

While past performance is no guarantee of future returns, during the 20 years to December 2017, Australian shares returned (before tax) 8.8 per cent a year and residential investment property returned 10.2 per cent.ii

In recent years, technology has made it much simpler and cheaper to trade shares. The advantage of investing directly in the sharemarket (rather than indirectly through your super fund) is that you can sell your shares and access your money whenever you want. The disadvantage (which also applies to investment property) is that you’ll have to pay capital gains tax on your profits at your marginal rate, less a 50 per cent discount if you hold the investment for more than 12 months.

Historically, Australians with spare capital have been inclined to purchase an investment property. Around two million Australians own one or more.iii Australia’s major property markets are currently deflating, but this may offer good buying opportunities down the track.

Final tip – don’t get carried away

Humans seem prone to blowing windfalls. Academic studies suggest people take bigger risks with money that arrives out of the blue than with money they’ve had to work for.iv

Post windfall, after you’ve celebrated your good fortune, discuss your changed circumstances with your spouse and, where appropriate, other family members. Avoid the temptation to do anything rash, such as quit your job. Your investment strategy will vary depending on your circumstances but, whatever it is, keep in mind Warren Buffett’s two investment rules.

Rule One: Never lose money.

Rule Two: Never forget Rule One.

i https://www.news.com.au/lifestyle/health/health-problems/brodie-bond-wasted-her-220k-inheritance-on-ice-booze-and-clothes/news-story/27f8f858d13c4f4b90599a0f15c74191?from=rss-basic

ii https://www.asx.com.au/documents/research/russell-asx-long-term-investing-report-2018.pdf

iii https://www.corelogic.com.au/resources/pdf/reports/CoreLogic%20Investor%20Report_June%202016.pdf

Financial rules to live by in 2019

Australia has enjoyed almost three decades of economic sunshine. But it’s worth remembering that dark clouds can appear without warning over both individuals and economies.

You may have little control over being caught up in a round of redundancies or experiencing the fallout of an international trade war. But you can choose to manage your finances in a way that lets you keep your head above water come what may.

Financial rule #1: Have an emergency fund

A recent NAB/Centre for Social Impact report found one in seven adult Australians had no savings. One in three were just two missed pay cheques away from serious financial stress.i

The advantages of a rainy-day fund are both practical and psychological. If you do suffer an unexpected setback, you’ll have a financial cushion to fall back on. Plus, knowing you have, say, three months’ worth of living expenses set aside will allow you to make unhurried, rational decisions. (There’s a growing body of research that shows financial stress causes people to behave in short-sighted ways likely to deepen their financial distress.)

Financial rule #2: Get the right insurance

Many Australians who wouldn’t dream of not insuring their home and vehicle are happy to hope for the best when it comes to their income. Surveys suggest only around a third of adult Australians have life insurance, income protection or TPD cover, and many of those are under-insured.ii

If you’re one of that majority of under-insured Australians you may wish to consider the wisdom of insuring your car (which could be replaced for a few thousand dollars) but not doing anything to ensure you – or your dependents, if you’re no longer around – can stay on top of mortgage payments and grocery bills should the income from your job or business disappear.

Financial rule #3: Be smart about debt

While lenders are beginning to tighten their home-lending criteria, there’s never been a time when credit has been so readily available. Technological advances mean this access is only going to become more ‘frictionless’ during 2019.

When it comes to debt, it’s important to understand the difference between the good, the bad and the ugly.

Good debt is used to create wealth, for example, borrowing to buy appreciating assets such as a house or investments. Then there’s acceptable debt, such as getting a car loan so you have the means to get to work. But credit cards, as well as increasingly popular buy-now-pay-later services such as Afterpay and ZipPay, and the short-term online loans offered typically facilitate bad debt, where high-interest credit is used to fund holidays, restaurant meals, clothes shopping and the like.

It’s unrealistic to expect you’ll never splurge using other people’s money but do try to keep it to a minimum, shop around for the best interest rate and repay what you owe as soon as possible.

Financial rule #4: Forge a positive economic partnership

Money issues can be a major cause of tension in relationships if left unspoken. By opening the lines of communication around money you will not only help build harmony but also make it easier to develop and reach shared goals.

You and your better half are unlikely to be at the same point on the saver-spender spectrum, so some conflict is inevitable. Nonetheless, it’s possible to engineer workable compromises around joint finances.

The ‘Yours/Mine/Ours’ method works well for many. It involves each partner getting a set amount of money to do whatever they wish with, allowing them to enjoy some autonomy. The trade-off is that both agree to direct the rest of their disposable income towards reaching mutually agreed goals. For example, paying off the mortgage within five years, making voluntary contributions to super or building a share portfolio.

i Financial Resilience in Australia 2016, NAB and Centre for Social Impact, p.9,https://www.nab.com.au/content/dam/nabrwd/documents/reports/financial/financial-resilience-report.pdf

ii Life Insurance – Are you underinsured? Canstar, Oct 2016, https://www.canstar.com.au/life-insurance/life-insurance-are-we-underinsured/; Underinsurance in Australia, Finder, https://www.finder.com.au/underinsurance-in-australia

Fostering financially savvy young adults

From student debt to new technology and landing that first job, today’s young Australians are transitioning into adulthood in a world very different from the one their parents entered. While economies and societies might change, the principles of managing one’s personal finances stay the same.

Most parents try to instil good money habits in their children from an early age. Eventually they outgrow piggy banks and pocket money but the opportunities to help them navigate the world of personal finance don’t end with childhood.

Here are five lessons parents might consider passing on to their offspring as they make the transition to independent, financially savvy adults.

Lesson 1: Becoming independent requires work

Even if you can afford to fully support your young adult children while they are still students, encouraging them to take on a part-time job can teach them valuable financial and life lessons. Not only will the income allow them to save for goals such as gap-year travels, but they will also learn how to make a job application and the soft skills required in the workplace.

If they are eligible for employer-paid superannuation, you could show them how to check their account, consolidate accounts if they have had more than one job, and discuss the magic of compound interest.

Lesson 2: There are no free lunches

Today’s young adults have near-instant access to credit through high-tech offerings such as payday lender apps and buy now-pay later services such as Afterpay.

The self-discipline required to manage these new forms of instant credit is a big ask, especially when many of us still have problems with old-fashioned credit. A recent ASIC report found that Australians collectively had 14 million credit cards with an outstanding balance of $45 billion. Around half a million Australians were in arrears and almost a million were dealing with persistent debt.i

If you can’t convince your children to avoid the temptation posed by ‘frictionless’ credit, at least explain that easy money commonly involves high interest rates and charges. If your child is determined to take out a personal loan, help them review terms and conditions and encourage them to shop around.

Lesson 3: Good, tolerable and bad debt

Once your child is old enough to be targeted by credit providers, it’s time to have the conversation about different types of debt. Talk them through how good debt is used to purchase appreciating assets such as real estate. Acceptable debt covers things such as taking out a car loan, so you have the means to get to work or study and don’t need to rely on parents to chauffer you around. Bad debt is using other people’s money to splurge on travel, clothes or the latest gadget.

Lesson 4: Investing doesn’t need to be time-consuming and boring

The same technology that has made it so easy to get into debt has also made it easier to start the investing habit.

In recent years, micro-investing platforms such as Raiz and Spaceship have made it simple and attractive for techsavvy Millennials to start investing in equities. These platforms make delaying consumption near painless by, for instance, rounding up purchases to the nearest dollar then directing the ‘spare change’ into investments.

If your progeny is working and receiving super, you might also want to suggest they download their super fund’s app, so they can monitor their financial progress on the go.

Lesson 5: Setting goals to make dreams come true

When your young adult starts working after years of student thrift, the temptation to spend is understandable. While it’s important to have fun, you can point out that setting goals and sticking to a budget in the short to medium term means they can put themselves in a position to travel the world, buy a property and maybe even retire early.

Money isn’t everything but teaching your young adults how to manage it well increases the odds that they will lead the life they dream of. Even better, you won’t need to erode your retirement savings bailing them out of financial trouble.

i https://asic.gov.au/about-asic/news-centre/find-a-media-release/2018- releases/18-201mr-asic-s-review-of-credit-cards-reveals-more-than-onein- six-consumers-struggling-with-credit-card-debt/

Home ownership in the spotlight

Housing affordability continues to be a major concern in Australia and not just for would-be first home buyers. It also affects pre-retirees forced to work longer to repay bigger mortgages and older Australians unable to downsize from large family homes due to a lack of affordable options.

The latest 2016 Census revealed a gradual decline in home ownership over the past decade from 68 per cent of all Australian households in 2006 to 65 per cent in 2016. And those of us with mortgages are more likely to be stretched to the limit, with over 7 per cent of home buyers paying more than 30 per cent of their income on mortgage costs.

It’s not only homeowners feeling the pinch. Rising house prices mean more of us are renting in the private market. Almost 25 per cent of households are renting privately, up from 21 per cent a decade ago; a further 4.2 per cent are in public housing. This puts upward pressure on private rents and increases demand for public housing.

Price growth easing

The national debate about housing affordability is understandably loudest in Sydney and Melbourne where the median price of houses and units is $880,000 and $675,000 respectively.i But residential property is always a tale of many markets.

While the constant warnings from some quarters that Australia’s housing boom is about to bust has not yet come to fruition, the rapid price growth of recent years appears to be slowing.

According to the CoreLogic Home Value Index, annual price growth eased from 12.9 per cent in March to 9.6 per cent by the end of June. In Perth and Darwin prices fell, while Brisbane and Adelaide posted modest gains. Hobart remains our most affordable capital city with a median price of $355,000 despite annual capital growth of 6.8 per cent.

Retiring with debt on the rise

The census also revealed that fewer of us own our homes outright. Mortgage-free home ownership is down from 32 per cent to 31 per cent over the same period. This could be due to more of us borrowing against the mortgage for renovations or investment, and higher home prices resulting in bigger mortgages that take longer to repay.

If this trend continues it could have implications for our retirement income system, which assumes that most people will retire with a home fully paid for. In a little over two decades the incidence of mortgage debt among people aged 55-64 has more than tripled from 14 per cent to 44 per cent.ii As more of us delay buying our first home until later in life, this trend is likely to continue.

To tackle housing issues at both ends of the age spectrum, the federal government announced some new measures in the May 2017 Budget.

New government incentives

The first of these is the First Home Super Saver Scheme. If the proposal is passed, first homebuyers will be able to make voluntary contributions of up to $15,000 a year to their super fund which they can withdraw to use towards a deposit, up to a maximum of $30,000.

In a move designed to free up more housing stock for young families, the Budget proposed allowing people over 65 to downsize and put up to $300,000 of the proceeds into super without it counting towards existing contribution caps. Couples could contribute up to $600,000. This may make downsizing more attractive for some, but it may not be the best strategy for everyone because the family home is exempt from the age pension assets test while super is not.

State governments have also stepped up assistance for first home buyers, with grants and stamp duty savings.

It remains to be seen whether these measures will significantly improve housing affordability for first home buyers or encourage Baby Boomers to downsize to a smaller nest.

Whatever your stage in life, we can work with you to help achieve your version of the Great Australian Dream.

i All housing prices from CoreLogic ‘Capital City Dwelling Values Rise 0.8% over June Quarter’ https://www.corelogic.com.au/news/capital-city-dwelling-values-rise-0-8-over-june-quarter

ii ‘Australians are working longer so they can pay off their mortgage debt’ http://theconversation.com/australians-are-working-longer-so-they-can-pay-off-their-mortgage-debt-79578

Achieving your dream of early retirement

Spending more time with your family. Picking up a brand new hobby. Exploring exotic destinations for longer than your scant weeks of annual leave would allow. However you paint it, retirement is a beautiful goal to work towards. And starting early means you’ve got more time and energy to enjoy it.

Early retirement has become a popular financial goal for Aussies from a wide variety of different backgrounds and circumstances. A 2016 global survey found that out of 17 countries surveyed, Australia has the one of the highest proportion of people wanting to retire early. In fact, 75% of Aussies aged 45+ wanted to retire within the next five years – as much as fifteen years before pension age.i

Unfortunately, most cannot afford it. There’s a big disconnect between those who want to retire early, and those whose finances will allow them to stop work.
 

What do early retirees have in common?

Those who successfully retire early aren’t just lucky, or from wealthy backgrounds. A US-based study found that early retirees fostered habits and abilities that allowed them to build their wealth sustainably over time.ii

The first is the mindset and discipline necessary for saving. Consistently choosing to save rather than spend – plus compound interest – means real wealth is built over decades.

Speaking of decades, early retirees are more likely to have set long-term goals and focused on them. There’s a psychological reason that this is difficult for many people. Our brains are hardwired for instant gratification and it doesn’t just affect our propensity to snack or hit the sales. Anything we can see, or at least visualise strongly, is much more attractive than anything that’s too far in the future to picture.

Of course, good habits in both these areas are less effective if they’re not shared by your spouse. A spender can undo much of the good work of a saver, even if their finances are not completely intertwined.

Then, there’s the advice factor. That study also found that those who retired early were more than twice as likely to have worked with a financial professional.

How to work towards a comfortable early retirement

Do you want to retire with time to enjoy your golden years? There are plenty of ways you can start building towards an early retirement.

1. Make a plan
   Your plan should be holistic and consider all your circumstances, including children and grandchildren, and spending changes in retirement. Of course, we’re happy to help you map out a plan that’s right for you.
    
2. Establish goals
   If you’re one of the aforementioned ‘instant gratification’ types, try breaking down your savings and investment goals in to bite-sized pieces. Instead of looking at one benchmark (likely in the millions of dollars), look at multiple small goals, and ascribe them labels. For example, call your first chunk of retirement savings your ‘renovate/move house fund’. Nickname your salary sacrifice ‘retirement travel fund’. Feeling like you’ve achieved goals will help keep you on track.
    
3. Invest wisely
   Don’t allow your investment decisions to be driven by trends. Get to know your own risk appetite and tolerance. And always make sure that any individual investment is right for your personal circumstances and life stage.
    
4. Manage your debt
   It’s not fun or glamorous, but paying off debt should be a top priority. Every time you divert a dollar from paying off debt, you’re effectively charging yourself interest that you’ll have to deal with later in life. It’s harsh, but you won’t be able to retire comfortably whilst still making debt payments.
    
5. Set up multiple income streams
   It’s important to consider possibilities and entitlements beyond your super, such as government benefits. By starting early, you may also be able to build other income sources such as cash-positive property or a share portfolio.

Want more help on making your early retirement dream a reality?
Contact us to arrange an appointment.

i http://www.smh.com.au/money/australians-dream-of-early-retirement-but-cant-afford-it-20160225-gn3hph.html

ii http://www.allianzusa.com/lovefamilymoney/insights/common-traits-for-workers-that-retire-early/