Chapter 2: Long-term commitment: how much you need to accumulate
The federal government introduced compulsory superannuation in the 1990s. This move sent the message that all Australians have to plan for their own retirement. Relying on the age pension to subsidise your lifestyle in retirement is no longer a viable option, unless you can meet certain conditions. To qualify for the age pension you need to satisfy a residency test and a strict income test and asset test. These tests are to check whether the total income you derive each year and the amount of assets you currently own fall within acceptable limits. To make access to the age pension even more difficult, the federal government has legislated to progressively increase the age pension age to 67 years by 2023. In this chapter I discuss how much you need to accumulate to fund your retirement.
It’s not your money until you retire
A major nuisance with contributing money into a complying superannuation fund is your inability to access your preserved benefits to help finance your immediate lifestyle needs. This could become a major concern if you need funds now (for instance, you want to buy a home), and you have a substantial sum locked away in your super fund that you can’t touch. Unfortunately, superannuation is not like a bank account where you can make regular deposits and withdrawals. Technically speaking, any money you contribute to a super fund cannot be legally accessed until you reach your preservation age, and satisfy a condition of release (see chapter 8, and more particularly table 8.1 on p. 170). And there are stiff civil and criminal penalties to deter you from trying to do so!
Table 8.1 shows that if you were born before 1960 your preservation age is 55 years of age, and if you were born after 1964, your preservation age is 60. Depending on your age at the time you make a super contribution, you may need to wait for more than 40 years before you can access your preserved benefits.
How much should you put into super each year?
Ideally, the earlier you start and the more you contribute to your super fund each year; the greater the benefits you can expect to have when you decide to hang up the pen or shovel. Unfortunately, not everyone is in a position to contribute a substantial sum each year. The amount you can afford will usually depend on your current age, your gross annual salary and your personal circumstances. As superannuation is a long-term retirement strategy, it’s best to plan well ahead and choose an appropriate investment option in your super fund, or appropriate investments if you have an SMSF, that have the capacity to deliver long-term capital growth (see chapter 7).
Many superannuation funds provide free retirement calculators on their websites, which you can use to help you work out how much you need to set aside each week, and how long it will take to accrue the amount you require. These retirement calculators take into account the following key variables:
• your current age
• your gross annual salary
• your intended retirement age
• your current superannuation balance
• whether you intend to salary sacrifice (make before-tax contributions deducted from your salary)
• whether you intend to make personal non-concessional (after-tax) contributions
• your super fund’s investment earnings rate
• your super fund’s fees and charges.
Young adults and superannuation
If you have just completed full-time education and you’re in your early twenties, retirement is not likely to be a major priority at this point in your life, given that you need to wait more than 40 years before you can access your super. However, under current legislation, once you turn 18 years of age and earn more than $450 per month, your employer must make superannuation guarantee contributions on your behalf to your nominated super fund. The contribution rate is currently 9 per cent of your gross salary. For instance, if you’re currently earning $600 a week; your employer will contribute $54 to your nominated super fund ($600 × 9 per cent = $54). Of course, the more you earn, the greater the contribution being made on your behalf. The federal government plans ;to progressively increase the super guarantee contribution rate to 12 per cent by 2019–20; see appendix A, table 11.
If you have some surplus funds, you have the option to make salary sacrifice contributions or non-concessional contributions (after-tax contributions) to your super fund as well. Under a salary sacrifice arrangement, extra super contributions are deducted from your gross salary or pre-tax income (see chapter 5). If you earn less than $31 920, you could take advantage of the federal government’s superannuation co-contribution scheme. Under this plan, if you make a $1000 non-concessional contribution (or after-tax contribution), the federal government will contribute $1000 to your super fund as well (which is effectively a 100 per cent return on your investment!). But, as they say in the small print, conditions apply (see chapter 5).
At a glance: super and low-income earners
The federal government has introduced a number of tax incentives to help low-income earners boost their retirement savings. These include the following.
• If you earn less than $37 000, the federal government intends to contribute up to $500 to your account to eliminate the effect of any contributions tax that’s payable on your employer’s superannuation guarantee contributions.
• If your assessable income is less than $31 920, and you make a $1000 non-concessional (after-tax) contribution to your super fund, the federal government will make a $1000 contribution on your behalf. The amount the government contributes reduces if you earn more than $31 920 and ceases once you earn more than $61 920; see appendix A, table 10.
Maturing nicely
So you have reached your mid forties and have an established and well-paid job. In this case, salary sacrificing a sizeable portion of your gross salary may be high on your to-do list. This is especially the case if your current superannuation fund balance is nothing to write home about. If you do this, your combined employer and employee contributions cannot exceed the concessional contribution cap amount. This is currently $25 000 if you’re under 50 years of age. For example, if your gross annual salary is $80 000, your employer is required to make a $7200 super guarantee contribution on your behalf ($80 000 × 9 per cent = $7200). Under these circumstances, the most you can salary sacrifice is limited to $17 800 ($25 000 – $7200 = $17 800). But you can make non-concessional (after-tax) contributions as well (see chapter 5 for more details).
Approaching retirement age
One great thing about superannuation is your capacity to substantially boost the amount you can contribute each year to a complying super fund. If you can afford to do so, making a sizeable payment may be worth contemplating if you’re close to your preservation age and you’re keen to maximise your retirement benefits (see Case study: funding your pension on p. 196). For instance, if you’re in your mid fifties, in addition to making a $50 000 concessional (before-tax) contribution, you can also make a one-off $450 000 non-concessional (after-tax) contribution. If you make a $450 000 non-concessional contribution, you can’t make any further non-concessional contributions for the next two years (see chapter 5). You can also take advantage of contribution splitting, which allows you to split any concessional contributions you make to your super fund with your spouse or partner.
Let the good times roll: income in retirement
The level of income you need to live in retirement depends mainly on the lifestyle you want in your old age, as well as on your current life expectancy. For instance, a person aged 60 is likely to live for another 25 years in retirement. When calculating how much capital you need to accrue, you need to take into account issues such as the impact of inflation, and the possibility that you could run out of money if you were to live to a ripe old age. A qualified financial planner can help you with this exercise. Currently it’s generally considered a single person needs around $40 000 of income each year for a comfortable lifestyle, while a couple needs around $54 000 for a comfortable lifestyle in their old age. For more information see Westpac ASFA Retirement Standard on the ASFA website <www.superannuation.asn.au> (to find the details, click on ‘Resource Centre’ on the home page and choose ‘Retirement Standard’ from the drop-down menu).
As a general guide, 70 per cent of your final average salary is ordinarily regarded as a reasonable pension for maintaining a comfortable lifestyle in retirement. If you accept this point of view, the capital you need to accumulate is about 15 times your desired pension. So, according to this formula, if you consider $60 000 to be a reasonable pension per year, you need to accumulate around $900 000 by the time you call it a day and retire ($60 000 × 15 = $900 000). Once you have determined the amount of capital you need, it then becomes a simple matter of calculating the amount you must contribute each year, the likely investment earnings rate of the fund, minus income tax and account-keeping fees. Using a retirement calculator can help you with this exercise.
And it’s all tax free!
A significant benefit of being a member of a super fund is that, once you turn 60 years of age and satisfy a condition of release (such as retiring) all pensions and lump sum payments payable from super funds are exempt from tax. Both a lump sum and a pension are also excluded from your assessable income! So as far as the Tax Office is concerned, if your super pension is your sole source of income, your taxable income is effectively nil. This is great news if you also derive assessable income from other sources (such as interest, dividends and rent). This is because, under Australian tax law, no tax is payable once your taxable income falls below $16 000, given that you can claim a low-income tax offset; see appendix A, table 3. The good news gets even better, because once you turn 65 years of age you could also qualify for a senior Australians tax offset; see appendix A, table 4. To add icing to the retirement cake, the investment earnings your fund derives to fund your pension payments is also exempt from tax. For example, if you had managed to accumulate $900 000 in your super fund, and the fund’s investment earning rate is 8 per cent per year, $72 000 will be credited to your account each year, and no tax is payable on this amount ($900 000 × 8 ;per cent = $72 000).
Useful references
• Understanding Money website <www.understandingmoney.gov.au>, and click on ‘Superannuation’ and ‘Retirement’.
• Australian Securities & Investments Commission consumer website <www.moneysmart.gov.au>, go to:
• ‘Tools and resources’ and click on ‘Calculators and tools’ from the drop-down menu, and ‘Superannuation calculator’ from the page that ;opens
• ‘About you’ and choose ‘Young adults’ from the drop-down menu, and ‘Top 10 finance tips for young people’ from the page that opens
• Centrelink website <www.centrelink.gov.au>. Go to ‘Individuals’, then ‘Retirement’ and click on ‘Age pension’ under the heading ‘Payments’
Australian Taxation Office publications
• Superannuation tips for young people