Superannuation is Australia’s primary method of funding retirement and is only increasing in relevance as the contributions and investments grow.
In this blog, we will explain in greater depth, how super works, the different types of contributions, an overview of investments, and some tax considerations.
What is Super?
Superannuation was born from the old idea of a workplace pension fund mainly set up by unions of various workforces. This became outdated as workers shifted from staying with the same employer for their lifetime to changing jobs regularly to pursue greater opportunities, passions, and financial rewards.
The superannuation industry gradually progressed before the Keating Government in 1992 made it mandatory for employers to pay between 3-4% into their workers superannuation fund.
The mandatory contributions, or superannuation guarantee contributions (SGC), have increased significantly since 1992 and are currently 12% of your salary as of the 25/26 FY and will increase to 12.5% in the 26/27 FY. These contributions form the baseline of how your super grows and are provided by your employer as part of your salary agreement, but you may also choose to make further contributions yourself through the various different contribution types.
These mandatory contributions are what has created one of the leading retirement benefit schemes in the world, managing over $1 trillion in assets.
Along with adding money from your salary or personal contributions, your super is also growing in line with the investment returns of whichever investment option you have chosen. Depending on which super fund you are with, you could has as few as 5-10 different investment options to some other funds having other 1,000. Having an understanding of how you are invested is just as important as having an understanding of how much you are contributing.
There is a catch with super, all the money you are contributing to it and all of the investment earnings are locked away for your retirement, with a few exceptions, meaning under the current rules you will either need to be 60 and retired, or 65 and still working to access your retirement savings.
Contribution Types
There are two main types of contributions, concessional contributions, which are contributions that are taxed and non-concessional contributions, which are contributions that are not taxed.
The current caps for both these contributions are $30,000 for concessional, and $120,000 for non-concessional. These caps are increased gradually in line with the Average Weekly Ordinary Time Earnings (AWOTE), with the non-concessional cap always being four times the concessional cap.
Concessional contributions consist of employer contributions, salary sacrifice and personal deductible contributions. Although the employer contributions are compulsory, salary sacrifice and personal deductible contributions are not. Salary sacrifice and personal deductible contributions are becoming increasing popular as they decrease your taxable income. An example of this is if you are earning $100,000 per year and paying tax at 32% (inclusive of the medicare levy) many people choose to salary sacrifice of make a lump sum contribution and claim it as a tax deduction by lodging a notice of intent (NOI) as the contribution tax rate is 15%. This becomes a tax effective way to build wealth as for every dollar you put in, within the contribution limits and dependent on your taxable income, you could get between a 17% and 32% return through tax savings.
These contributions can also be useful for people looking to take advantage of the First Home Super Saver Scheme (FHSSS), which allows an individual to make up to $15,000 in concessional contributions over 3 financial years that can then be used as a deposit for their first home, up to $50,000 including earnings on those contributions.
Personal deductible contributions are also commonly used when an individual has realized a significant capital gain through the sale of an investment property or other asset and would like to reduce their tax liability. This is particularly useful if they have access to the carry-forward contributions which allows you to carry forward any unused allowable contributions from the previous financial years if your super balance is under $500,000 at the beginning of that financial year.
It is very important that when considering any of these contributions to talk to a financial planner as there are numerous rules tied to all these contributions, and if you breach a contribution cap you could end up worse off than you started.
Non-concessional contributions are used a lot less than concessional but are still very important when considering your overall retirement plan. As the non-concessional contribution cap is significantly higher than the concessional contribution cap, it is commonly used to add larger amounts to super when there is a life event such as selling a property, receiving an inheritance, receiving a redundancy etc.
Similar to the concessional carry-forward, non-concessional contributions also come with the ability to use different financial years contributions caps through the bring forward rule. This rule allows you to bring forward two future financial years of non-concessional contributions allowing a contribution of up to $360,000 with the current contribution caps. It is important to talk to a financial planner before considering this as it then affects any future contribution plans and also can be affected by the Transfer Balance Cap (TBC).
There are also some non-concessional contributions that bring with them significant financial benefits.
Spouse contributions are a less well-known contribution type that can help you save money on tax. If your partners income is below $40,000, you may be eligible to make a spouse contribution, which goes in as a tax-free non-concessional contribution, and provides you with a tax offset of up to $540.
The Government co-contribution is another type of non-concessional contribution that can provide the greatest return per dollar of any contribution. If you earn between $47,488 and $62,488 you could contribute $1,000 into your super as a non-concessional contribution and receive up to $500 extra through the scheme. The amount you will receive does decrease for every dollar over $47,488 you earn before receiving nothing once you earn over $62,488.
When considering any of these contributions, you need to also consider how they affect your personal situation which is where a financial planner can assist in giving you comprehensive personal advice that takes your goals into consideration when guiding you through from wealth generation into the retirement drawdown phase.
Investment Options
If you have never looked at how your super is invested than you are likely one of the many that are invested in the default or lifecycle investment options. While lifecycle investment options have been around since the early 1990’s, they rose to popularity after the GFC when a lot of pre-and-post retirees had their retirement plans shattered by the market crash. The idea of setting up lifecycle investment options is to reduce the amount of risk you are taking within your super for people who are not paying attention to their super so that if you are close to retirement age than you should be less affected as you have less of your super in growth assets that are affected by market movements.
While lifecycle investment options are good for those who do not pay attention to their super, they are definitely not perfect and not offered by all funds so it is always better to have a good understanding of how you are invested and the amount of risk you are taking.
When selecting an investment option there are usually a number of diversified options that offer professional management over the various assets held within the fund of Australian shares, International shares, property, cash, bonds etc. The options correlate with how much you want to have exposed to the growth assets of shares and property. A conservative option typically has 30% in growth assets, moderate 50%, balanced 70%, and growth 85%+.
Investing, whether within super or outside of super is always based on risk versus return. We know that long-term growth assets (shares, property etc.) should outperform defensive assets (cash, term deposits, bonds etc.) as you need to be rewarded for the risk you are taking. An example of this can be found on any super funds website when you look at the returns, where a growth fund over the last 10 years has typically averaged between 8-10% returns while a conservative fund has averaged between 3-5% over the past 10 years. With the catch that growth funds will fall significantly more during a financial crises that a conservative fund.
As the Government wants to increase competitiveness within the industry, it has never been easier to switch between different investment options and even different super funds.
It is important to understand the risks you are taking and finding out what amount of risk you are comfortable with which a financial adviser can discuss in much greater detail the likely outcomes of different investment options and how they may affect your personal situation.
Accessing Your Super
The current preservation age is 60, but also requires you to leave your employment. You can decide to return to work at a later time and still retain access to your super if you wish. Alternatively, you can access it once you turn 65 if you wish to continue working. Once you have met a condition of release, you can choose to either take your money as or lump sum, or more commonly, turn your super into an account-based pension to pay you an income to cover your living expenses in retirement.
A commonly used scheme for those who want to reduce their work hours is the transition to retirement pension. This scheme was brought in to encourage people to reduce their hours rather than retire completely as they can access up to 10% of their super balance, which can be paid fortnightly or monthly, to supplement their reduced income.
There are a number of other ways to access your super, the most often seen being through total and permanent disability (TPD), but you should contact a financial adviser before doing so as if you are under 60 than some if not all of your withdrawals will be subject to tax.
Common Mistakes
While there are some strategies around operating multiple super accounts, most of the time it results in paying extra admin fees and more importantly potentially having double ups on insurances, particularly income protection (IP) that may result in you paying for cover you can’t actually claim on. Insurance is a very important part of protecting your retirement plans but is a complex area and it is important to discuss with a financial planner what your situation is and how much cover you need so that they can tailor your cover to your circumstances and goals.
Other common mistakes are staying in an underperforming super fund, particularly with how easy it is to transfer between funds. Also, not maximizing or making additional contributions, as the affects of compounding interest have a significant impact on your standard of living in retirement.
Getting Professional Super Advice
- Seek advice whenever there is a change in your life I.e change in cashflow, buying or selling an asset, receiving an inheritance, or you just feel that your money could be working harder for you.
- You should always look for a financial adviser that explains things in ways that helps you understand as it is not an advisers job to tell you what you have to do, it is an advisers job to educate you and allow you to make the decisions that benefit you.
Don’t leave your retirement to chance. Let our expert consultants help you build a smarter super strategy. Explore our Superannuation Services.
