06
Nov 2015

Retirement planning question

Retirement planning question

Written by a Hudson Adviser 

How do you see the role of annuities, as sold by Challenger for example, as part of a retirement strategy?


An annuity is an insurance product that pays out income in exchange for a lump sum and can be used as part of a retirement strategy.

Annuities are a popular choice for investors who want to receive a steady income stream in retirement. Here's how they work:

1. An investment is made in the annuity and it then makes payments to you on a future date or series of dates.
2. The income you receive from an annuity can be doled out monthly, quarterly, annually or even in a lump sum payment.
3. The size of payments is determined by a variety of factors, including the length of your payment period.
4. You can opt to receive payments for the rest of your life, or for a set number of years.
5. How much you receive depends on whether you opt for a guaranteed payout or a payout stream determined by the performance of your annuity's underlying investments.

Annuities can form a valuable part of the conservative portion of a retirement portfolio. That is, provided the level of security and income generated equals or exceeds other asset classes that could also be used. By their very nature, they can provide some certainty of income, however there is a layer of management cost that is invisible.

The major benefit of using this product is to partition growth assets away from income assets, to allow the growth assets to remain untouched during times of market turmoil. However, it is possible to achieve the same outcome without these products. 

The major downside to annuity currently is the low level of interest rates on offer that makes the returns achieved poor. 
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07
Aug 2015

Your questions answered

Your questions answered

Answer by Hudson Adviser Phillip McGann

QUESTION: If someone between the age of 56-60 elects to take a transition to retirement what are the specific criteria that they have to meet for accessing the offset on tax paid on the payments? Can these draw-downs effectively be tax-free under certain circumstances. If so what are these conditions?

 

ADVISER ANSWER

You are asking about the tax treatment of pension payments on a Transition Pension for recipients aged between 56 and 59, which relates to the preservation age which depends on your birth date (see table below).

 

DATE OF BIRTH

PRESERVATION AGE

Before 1 July 1960

55 years

1 July 1960 to 30 June 1961

56 years

1 July 1961 to 30 June 1962

57 years

1 July 1962 to 30 June 1963

58 years

1 July 1963 to 30 June 1964

59 years

After 30 June 1964

60 years

 

NOTE: As of 1 July 2015 the preservation age is 56 when it was 55.

 

To answer your question it is important to understand that everyone has 2 x tax components within their superannuation:

 

1. Tax-free component - this comes from any after-tax contributions and never grows - the earnings on this capital is taxed at super fund rate and the net earnings become part of the taxable amount (next section).

 

2. The taxable component - this is formed by the tax-deductible contributions, including SGC and salary sacrifice, as well as any earnings from the capital within the fund (after tax). Whilst in "super accumulation" phase.

 

For those between ages 56 to 59 the income stream on an allocated pension (transition or otherwise) is added to your taxable income and taxed at your marginal rate.

Rollover from super to pension

To start a transition to retirement strategy, requires a rollover from the Super (Accumulation) fund to an Account Based Pension (often referred to as an Allocated Pension).  At this point the percentage of ‘taxable’ and ‘tax free’ components are locked in percentage terms. 

 

Let me give you an example:

  • Balance of superannuation: $500,000

  • Tax-free component is: $200,000 = 40%                         

  • Taxable component is: $300,000 = 60%                                  

The pension draw-down

The pension can be drawn anywhere between 4% and 10% of the commencing balance in year one. Assuming it is set at the minimum drawing rate of 4% – the draw down would be $20,000 in the first year. Based on the locked in percentage components.

  • $8,000 (40%)  would be tax free

  • $12,000 (60%)  would be taxable in your tax return

The tax treatment

The $12,000 per annum is taxed at your own personal marginal rate, however you get a 15% rebate - ie. $1,800 rebate against any tax you might have to pay. If the rebate exceeds the tax on that income you can offset it against other income tax, however if it exceeds all tax to be paid then you cannot claim a refund of tax (unlike excess franking credits which you can).

 

Once you reach 60 then all the income is tax free. But those tax-free and taxable components are still maintained and in the event of your death, any proceeds going to non-tax-dependants could see 15% tax deducted from the taxable component before going to them. That leads to the importance of some re-contribution strategies to reduce this impost.

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19
Jun 2015

Your questions answered

Your questions answered

Answer by Hudson Adviser Phillip McGann

Question: Is it a good tie to invest in Bonds ? Short Answer Best time to invest in any BOND is when interest rates are at all time highs.

Worse time to invest in any BOND is when interest rates are at all time lows. 

In more detail
- Bonds can produce capital gains or losses based on interest rate movement. 
- IF long term bond rates fall – inversely they can make capital gains on top of their interest return. 
- IF in the long term interest rates rise, inversely the bonds will produce CAPITAL LOSSES – which depending on the sharpness of the rate move can be greater than the interest returns itself – resulting in potentially negative returns from BONDS.

So we know world interest rates are at all time lows, including Australian interest rates. Yes they may fall a bit more (given RBA move on short term rates recently) – but to advocate that BONDS will provide a better return than the share markets for the longer term – is not something I agree with.

Corrections do and will continue to happen in share markets and are not predictable (as this article indicates). Both type of investments have their place and use in investment strategies.

Share markets are still the best long term return in terms of asset classes (even thru the GFC), bonds play a roll for the conservative investor and/or including retirement structures. 


CAUTION
BE wary of spam marketing from untrusted or unknown sources selling bonds exposure as protection from share market corrections.

They are purely fear based and lack any informative basis and are usually extremely misleading (in my opinion).
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12
Jun 2015

Your questions answered

Your questions answered

Answer by Hudson Adviser Phillip McGann

Question: In regards to the banks article (in Hudson Report 29/05/2015). I wondered why they don’t offer better rates for AUS depositors, especially for term deposits , if it costs more for the bank to get funds from overseas? Would it not be cheaper and less admin costs to get the funds from Australians?

The reasons why the banks don't simply increase rates offered on term deposits and other accounts held by local investors instead of sourcing more funds from offshore investors are numerous but include: 

1) Funding offshore may well be cheaper than locally depending on offshore interest rates and competition in the local deposit market. 
2) Larger tranches of funds can be sourced quickly and easily offshore than in lots of smaller amounts from local depositors. 
3) The amount of deposit funds available locally is limited whilst the demand for borrowings in our economy is invariably larger resulting in more offshore borrowing. 

Overall the banks source funds from many different avenues to keep a varied and diverse funding base to keep their operations viable.  Read in full + comments 0 Comments

29
May 2015

Your questions answered

Your questions answered

Answer by Phillip McGann

Dear Adviser: If a property is worth $400,000 in the current market getting net rent of $1,912.00 per month, would it be more practical to keep it for regular income into the future, (nearing retirement) than sell and put into Super? The general Question is the property versus super issue - when one is on the lowest tax rate.

We are asked this question a lot from members nearing retirement - Why sell a property that is already renting well to simply crystallise a CGT expense and then contribute proceeds to Super? Why not just keep it as a non-super asset? 

In some cases this scenario is warranted as the CGT payable may well be sizeable and the ability to easily contribute the full proceeds to Super may not being available due to potential breach of contribution limits or eligibility reasons (income test or age etc).

In this case however, due to the absolute value of the property and the actual gross yield a sale and subsequent contribution to Super may well make more sense - assuming the individual is able to make a super contribution.

Whilst the 5.7% gross yield appears reasonable in the current property market, it must be remembered that in the absence of any debt and assuming the property is fairly old, the allowable taxation deductions from interest and depreciation would be minimal hence this gross yield may well decline to a lower NET YIELD (even for an investor on the lowest tax rate). Also, allowance needs to be made for other expenses (rates, management, maintenance etc) that may improve the tax situation slightly but further lower the net yield. It is this net yield that needs to be compared to the TAX FREE yield available in Super (that is in the pension phase). Also, the diversification and liquidity needs of the investor in retirement need to be taken into account - areas where property does not rate highly. 

For those on lower tax rates the issue is less acute, but NO TAX still beats low tax, and highly liquid diversified assets are a high priority for many in retirement as it allows for maximum flexibility.

If you are nearing retirement and wish to discuss your options, please book a consult with your financial adviser. 

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