Do Your Sums Before Paying Off Home Loan

You are in your mid 50’s and on the career home stretch.  You’re at, or are approaching peak earning capacity, and have had a few pay rises the last few years. The kids have finished school, are working and independent, and now’s the time to really focus on setting yourself up for retirement.

Prime Suspect: The Mortgage.
That is a natural and very visible target.  It’s staring at you every time you open your internet banking app, and those monthly statements are a constant reminder of how much you still owe.
But is paying the money directly into your mortgage the smartest and most efficient way of going about it?

Unfortunately, we see many people heading into retirement relying on their super to pay off their house, which is intended to provide for retirement income rather than a debt repayment fall back position.

That doesn’t mean you can’t use your superannuation proactively and consciously as a tool to supercharge your mortgage repayments, and either pay your home off quicker, or provide a nice bonus to your retirement savings out the other end.

And it all comes down to tax.
Superannuation is still one of Australia’s best tax planning vehicles.  For most Australians, tax on deductible contributions is only 15%, rather than anywhere up to 49% on earnings in your personal name.  And this difference in tax is where the magic can happen.

Let’s take a 55 year old couple in the second top marginal tax bracket, 39% including levies.  This means they are earning somewhere between $80 000 and $180 000 per annum.  They are wanting to retire in 10 years, want to pay off their mortgage in that time, and can find an extra $750 each per month ($1500 in total) from their salary to put towards the mortgage.

We will also assume they have a $250 000 mortgage with a longer term average interest rate of 6%   and for better comparison purposes we will assume they continue paying today’s minimum interest payment on the loan.

The analysis will also assume a Balanced superannuation portfolio, with long term average earnings of 6.7% per annum.

Let’s look at two options.
At the 39% tax bracket, you need to earn $1229 gross to be left with $750 net. If the $750 each ($1500) goes into the mortgage, in addition to the interest payments, in 10 years time, the mortgage will be paid off, and you would have a further $19 400 in cash saved.

If we assume however that the same gross amount of $1229 each is salary sacrificed into super, at a 15% marginal tax bracket, that leaves $1045 each in the fund. Between the two of them, that’s a $589 per month, or $7071 per annum boost, and represents a guaranteed 39.3% return on investment, courtesy of the ATO.  Beat that.

After 10 years the accumulated superannuation contributions total $400 130.  At age 65, $250 000 can be withdrawn, and $150 130 left as a welcome retirement bonus.   This represents a total benefit of $130 730 by utilising super rather than directing straight into the mortgage.

For those nearing retirement, this represents a home renovation if required, funding for a few new small cars during retirement, a number of overseas holidays, or simply an extra couple of hundred dollars per week to make retirement so much more enjoyable.

Article Originally Published in The West Australian, Your Money, 18 June 2018

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