Superannuation

Given the extreme market volatility of the past four years, some investors may be wary of putting more into superannuation than they absolutely have to. But it’s important to remember there are good reasons to think long term when it comes to salary-sacrificing into super.

It’s a great way of “drip feeding” each month into the underlying assets of your fund with regular contributions as you’re investing across all the market’s ups and downs. And the tax advantages mean there is more to invest than if you took the money as after-tax salary and started investing then.

When receiving your annual super statement, it’s all too easy to focus on the short term and be so put off by lacklustre returns that you revise down, put off or fail to increase in line with promotional increases your salary-sacrifice contributions. But by doing so you’re missing an opportunity to smooth volatility by steadily investing into the market across all cycles – no matter what your asset class.

Dollar-cost averaging is buying into the market bit by bit rather than investing everything in one go. In falling or choppy markets you’re buying at lower and lower prices and the concept avoids sitting on the sidelines trying to time a market swing back up as you are already investing. Making regular salary-sacrifice contributions works in exactly the same way.

Deciding on a particular dollar amount or percentage of your salary to be diverted pre-tax into super is also a great way to set up enforced saving. And it’s the fact that your money goes in before tax is paid that is so powerful.

Thousands extra a year

Take as an example someone earning $100,000 a year who is considering salary sacrificing $10,000 a year into super (on top of the 9 per cent compulsory contribution paid by their employer) or investing the after-tax amount themselves.

At the moment they are paying $4050 in tax (that’s including this year’s $200 flood levy), which leaves only $5950 to be invested. If, instead, the $10,000 is diverted straight away to their super fund they will face a tax of only 15 per cent (contributions tax on any super amount going into the fund) – meaning there is $8500 to be invested. Straight off, there’s $2550 more each year to be invested, which can make a significant difference with compound interest over time.

Long-term gain

Now let’s look at how making a sacrifice in the short term can be worth it long term. Luke, 30, earns $60,000 a year and has only $22,000 in super.

By relying just on the compulsory 9 per cent super, if he retires at 60 he will have to live on just $22,890 a year, supplemented by the age pension from the age of 67. By salary-sacrificing $6000 a year (which will actually cut his take-home pay by only $4108 a year), he can boost his retirement income to $30,078. That’s a short-term sacrifice of about $4000 a year for $7000 a year more in retirement. Luke will, of course, earn more as he gets older, which will enable him to power up his super even more.

Regular reviews

Whether you’re setting up or already have a salary-sacrifice arrangement, make plans to review it regularly – that way you can increase it along with salary improvements as well as track your progress with calculators on websites such as www.moneysmart.gov.au (run by the Australian Securities and Investments Commission) to check you’re on target for your retirement goals.

Also take into account limits on contributions – if you’re under 50 the most pre-tax money you can put into super is $25,000 a year; if you’re 50 and over it’s $50,000 but only until June 30 2012. Remember, these amounts include the 9 per cent compulsory contributions your employer makes on your behalf. If you go over these limits, you’ll be hit with tax penalties, which will make the whole exercise pointless.

Watch out for fees

When working out how much you’ll need to salary-sacrifice to get you to your goal or how much you can you afford to forgo in take-home pay, use the opportunity to check out your super fund’s fees.

Say your fund’s management costs are 0.7 percentage points of your balance, whereas another comparable fund (in terms of underlying assets and results) charges 0.4 per cent. Based on someone earning $100,000 a year with $100,000 in super who salary sacrificed $12,000 a year, they could boost their retirement savings by just more than $36,000 by switching to the other fund. That saving is based just on the impact of fees.

Use the fee calculator on www.moneysmart.com.au to see what impact switching could have on your end result. And don’t forget about the big industry funds – in most cases, they are open to all, boast impressive performance and have some of the lowest fees.