Taxation

One of the biggest traps in many households lies in joint savings accounts started when a couple first sets up home. Over time, things often change but the bank account does not.

Take a situation where one partner becomes the breadwinner and the other has time off from paid work to raise children or pursue other interests.

“They should definitely put the investments in the lower-paid spouse’s name,” says financial planner Mike Ingham, principal consultant with Godfrey Pembroke. “A big trap . . . is they end up with interest being split across both of them and the higher earner paying unnecessary tax.”

Reluctant to change

Ingham adds it’s quite difficult to get couples to change bank accounts into the name of the lower-earning spouse even though there are big tax savings and no reason why both can’t have full signing rights.

McCallum cites the case of a couple with $300,000 in a joint cash account earning 6 per cent – that’s interest each year of $9000 each. He is on the top marginal rate and pays tax of $4185 on his $9000 interest income (because the account is in both their names) while his lower-earning wife (who works part-time) pays tax on her $9000 interest income at 16.5 per cent (including the 1.5 per cent Medicare levy), totalling $1485. That’s a tax bill of $5670.

If the account was in her name, she would pay 16.5 per cent tax on the whole $18,000. That’s just $2970 instead of $5670, in one move saving the couple $2700.

From high flyer to low tax rate

While the above gender occurrence is reasonably common, consider another case cited by McCallum where a redundancy brought a former high flyer to a lower tax rate.

“Both members of the couple were on the top tax rate but when he was made redundant his $300,000 payout was put into the couple’s joint cash account,” says Financial adviser Kate McCallum, a director at Multiforte Financial Services. “He’s now looking at a new enterprise and the possibility of setting up his own business (and will be earning a small income from the odd piece of consulting work), so it makes sense for the cash to be sitting in his name.”

It saves his partner from paying tax at the top rate on half the redundancy payout. “This, like so many other couples, is a legacy issue where they haven’t thought through changing bank accounts even though their circumstances have changed,” adds McCallum.

So often households face the dilemma of one parent (typically the woman) having less chance to save super as she cuts down paid work to be the chief care giver to children. One solution is for breadwinners to split super contributions with their spouses. Colonial First State’s Wixted uses the imaginary case of Ruth and Jonas to show how it can be best to do this by salary sacrifice.

Cost-effective contributions

“Ruth works part-time to raise children with Jonas, who has enough extra income to make super contributions for Ruth while she has a lower income,” Wixted says. “Assuming Jonas is in the 38.5 per cent tax bracket [earning between $80,000 and $180,000] the most cost-effective way of contributing $5000 a year on behalf of Ruth is through splitting a salary sacrifice contribution he makes into his own account.”

The cost of making a $5000 contribution into Ruth’s account will be $5882 of his salary by doing it this way. If he took all his salary as cash and then made the super contribution, he would need $8130 of pretax salary to provide $5000 after tax.

“The effectiveness of each strategy depends upon marginal tax rates,” says Wixted. Broadly, if you’re paying tax of 30 per cent or more, you’d be better off salary sacrificing and then splitting the contribution into a spouse’s fund.

This can make a real difference to Ruth’s super balance. Assuming she has $20,000 in her fund when she starts part-time work and that Jonas splits $5000 of his contribution into her account for 10 years, after 20 years her balance will be $202,695. Compare that with $71,071 if she does nothing to boost her super.

By doing this, Jonas still has to stay within allowable limits on super contributions. His pretax salary-sacrificed amounts are called “concessional” contributions and because he is under 50 he can’t contribute more than $25,000 a year in this way. He also has to remember that his compulsory 9 per cent contribution counts towards the concessional cap.

McCallum says this strategy will be even more useful if proposed reforms permanently increase the concessional contributions cap to $50,000 a year for those aged 50 and over who have total super balances below $500,000.

At the moment, if you are over 50 years of age, 2012 is the last year you can make a concessional contribution of $50,000 as it’s set to halve after that to $25,000.

“Given the proposed change, this would be very useful for cases where one partner was close to retirement but needs to increase their super balance,” she adds.