Tuesday, December 01, 2015

After Tax Super vs. Offset Account

At the moment, Australians can contribute up to $A180k per year to superannuation from after tax money on top of up to $A35k (if over 50) from pre-tax income. This seems like a crazy high limit and has no analogue in the US retirement system, for example. There is now a lot of talk about lifetime caps on super contributions. An easy way to do this would be to cut or eliminate this post-tax contribution limit. I had thought about making post-tax contributions starting in about 5 years time (when I would be about 55) and up to retirement. In the meantime, the plan was to build up our offset account and then pay down and redraw the mortgage. But now I am thinking that government might eliminate the post-tax option, I am wondering whether it would make sense to make these contributions sooner.

The gain from adding post-tax money to super is the tax-free earnings on the money after retiring. However, at least at the moment investment taxes are lower than regular income taxes and so we are talking about avoiding an 10% (after franking dividend tax in 38% bracket) to 23.5% (long-term capital gains tax in 45% bracket) tax starting 10 to 15 years in the future. Let's say the super investments make an 8% return, then the extra yield from avoiding tax by investing in super rather than non-super investments is about 1.3% per year. And this won't start to 10-15 years out and it is uncertain that the opportunity will go away and stop us doing that a few years later.

In the meantime the offset account is earning 4.55% tax free virtual interest with perfect certainty. A superannuation account would probably earn that after tax in the next 10-15 years, but there is a lot of uncertainty about that and the money is locked up for the next 9 years.

Is the answer to diversify and do some of both strategies?


enoughwealth@yahoo.com said...


If you invest $100,000 outside of super you'll be paying marginal tax rate on income (dividends) and get the franking credits. But once the $100,000 is inside super it immediately will only be taxed at 15% on investment income and still get the franking credits.

So, the comparion should be:
outside of super: 10% (if in 38% bracket, minus franking credit)
inside of super: -18% (15% flat tax rate on income in super, minus franking credit)

so the immediate difference is 28%, not 1.3% ??

There's also a slight saving in capital gains tax (10% inside super vs. half marginal rate outside of super) for current year long-term (>12mo) gains, and a more significant saving if you had an investment held for say 20 years before realising the gain... outside of super you'd pay marginal tax rate x 50% on long term gains, vs. inside super 0% cap gains tax once its in pension mode.

ps. the tax savings inside super can also be brought forward a lot if you had the post-tax super savings invested in a SMSF, then started a TRP when you hit 57%. The 4% min 'pension' payout would get taxed at your marginal rate (and recontributed back into the super fund), but because the SMSF was now in 'pension mode' it would immediately enjoy the 0% rates on income and capital gains. So the net saving is not paying the 15% superannuation tax rate on investment income - the extra personal income tax paid on the 'pension'. Its only marginal when started at age 57, but when you hit 60 the 'pension' doesn't get taxed so the tax saving is more.

ps. You'll have to check all these figures for yourself as I may have some of them wrong/out-of-date, and everything may soon change with the government and opposition parties all eyeing superannuation as a potential tax honeypot at the moment.

I'd be kicking some after-tax money into super if I had any spare, but after maxing out my salary sacrifice contributions I don't have much 'spare' after-tax cashflow to contribute. That's one reason I'd be happy to see them put a lifetime cap on non-concessional superannuation contributions.

mOOm said...

The 1.3% is the extra rate of return, not tax rate, after retirement that I would get on each extra dollar that was in super rather than outside super. Currently, I am looking at saving money in an offset account vs. adding it to super. So for the rate of return from now till I am 60 (preservation age for me), the relevant comparisons are a certain 4.55% tax free (the mortgage rate) vs. an uncertain 8% with relatively low tax as you point out. So, maybe 7% after tax. I haven't got anything like that rate of return over the last 10 years or course... so it might be too optimistic. And I hate locking money up in a system that the government seems to like to keep changing. OTOH the post-tax contribution window might be closing soon... I think they are much more likely to tax contributions more and reduce the contribution amounts than go back to taxing payouts again, despite the latter making more economic sense than the former... So, that's my dilemma.