I have become accustomed to an inbox full of emails. But this week a query came which covered most of the fundamentals a couple moving towards retirement need to understand.
He told me he was 53, earning $72,000 a year, and was contributing 5 per cent of after-tax dollars in superannuation on top of the employer contribution of 9.5 per cent. He confessed he had been a late starter to the world of financial literacy and so had just $50,000 in super. His wife was 44, earning $50,000 a year, with $90,000 in super. They had just bought their first home for $500,000 and owed $400,000 at a variable rate of 2.9 per cent. They had $10,000 in an offset account. Their goals were to pay off their house within 10 years, and retire at age 70. He sought my suggestions as to the best way to retire comfortably.
The good news here is that, despite his age, he hasn't left planning for retirement too late. There are still 17 years to go, and the family has the benefit of two incomes to boost their wealth-building process.
My first step was to run the figures through the Superannuation Contributions Calculator on my website at www.noelwhittaker.com.au.
If we use a yearly salary increase of 3 per cent, and rate of return of 8 per cent, we find out that in 17 years his balance should be $440,000 from the employer contributions alone. Using the same assumptions for his wife, her balance should be $510,000 in 17 years. The reason for her higher final figure, even with her lower salary, is the larger figure she is starting with. This shows the importance of starting early and getting a good superannuation balance going as soon as you can, so compound interest can work its magic.
I told him I wouldn't be rushing to get the house paid off in 10 years, because any money used for extra house repayments comes from after-tax dollars, and earns an effective rate of just 2.9 per cent - the mortgage rate. They would be far better off maximise their contributions to super. There are two reasons for this: first, their superannuation funds should give much better returns than 2.9 per cent per annum; and second, contributions up to a total of $25,000 a year each, including the employer contribution, can be made from pre-tax dollars.
They are both in the 34.5 per cent tax bracket when Medicare is taken into account, which means that it takes $7650 in pre-tax dollars to produce $5000 in after-tax dollars. So it's a choice of paying $5000 off the mortgage - a return of 2.9 per cent - or contributing $6500 (after 15 per cent entry tax) to super where it may earn an average of 8 per cent per annum.
So, by letting their home loan plod along, and putting extra personal deductible contributions of $6500 each into superannuation, their combined superannuation balances should increase by $440,000 in 17 years.
Let's fast forward 17 years: their total superannuation would be $1.4 million, which should more than adequately provide for their retirement. By giving themselves a 17-year time frame they have increased their superannuation from $140,000 to $1.4 million, while living well along the way. And they can now withdraw a tax-free amount from their super to pay off the last part of their home loan.
This is a great example of what can be achieved by anybody who makes the time to analyse their situation, set goals and take some action. Remember, the earlier you start the easier it will be. I appreciate that earning rates, interest rates and inflation may change over the years - if so, this couple will be well placed to handle them.
Noel Whittaker is the author of Making Money Made Simple and numerous other books on personal finance. firstname.lastname@example.org