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Don't sit on super
This article appeared in the November 2012 ASX Investor Update email newsletter. To subscribe to this newsletter please register with the MyASX section or visit the About MyASX page for past editions and more details.
A guide to making earlier investment choices, and ensuring your retirement savings last.
By Nerida Cole, Dixons
Making superannuation savings last longer in retirement has become more important and a greater challenge as life expectancies rise. At the same time, investors are facing competing priorities and increasing economic obstacles as they seek to build sufficient funds to meet their projected retirement needs.
The introduction of compulsory employer super contributions 20 years ago has helped to grow retirement savings, but many people are finding they need to build their super at a faster rate - a difficult task following reductions to concessional contribution limits in recent years.
Having to cater for the prospect of more years in retirement and the relatively low value of ongoing government support, planning for a sustained, comfortable retirement will continue to test even the most astute of us.
There is no easy solution, but it is important to recognise the challenges and have strategies in place. You can make a huge difference by focusing on four key areas:
- Planning what you want in retirement
- Using the super system
- Getting the investment portfolio asset allocation right
- Choosing an appropriate superannuation fund.
Lifestyle needs not uniform
The Association of Superannuation Funds of Australia (ASFA) has researched investors' standards of living in retirement and determined that for a comfortable lifestyle, a couple would require about $55,213 per annum or $40,391 for a single person.
These figures are useful as a guide only but do not allow much room for entertainment, dining out or travel. Retirement will be quite restrictive for some people, particularly in metropolitan areas where costs of living are higher.
There is really no definitive target for retirement savings because each individual or couple will have different requirements depending on lifestyle, housing, health and family situation. Big-ticket items such as clearing home loan or investment debts, changing properties or helping children buy a home also need to be considered - not only to work out how much capital is needed in retirement but also because lump-sum requirements have a big impact on the structure of a portfolio.
The introduction of, and recent increase to, compulsory superannuation guarantee contributions (SGC) by employers will help younger super fund members to accumulate modest superannuation balances by the time they reach retirement age. For those closer to retirement who have not benefited from a lifetime of SGC, it is particularly important to make additional contributions to superannuation now.
With decreasing concessional contribution limits, it has become difficult to boost superannuation purely through salary sacrificing. Once this limit has been reached, another option is to make non-concessional contributions of up to $150,000 per annum of post-tax money (or $450,000 bringing forward three years of contributions).
Although you are not receiving personal tax concessions up front, it can still be an effective strategy as the earnings and capital gains generated on the capital held within the super environment receives tax concessions. In summary, start making contributions as soon as possible and maximise available contribution limits.
The importance of asset allocation
Perhaps the most important strategy for building retirement savings and ensuring longevity of wealth is the mix of investments, or the asset allocation, within your portfolio. To achieve long-term success, it is more beneficial to focus on the broad asset allocation as the first priority, and then diversify across asset classes, followed by selecting strong individual investments within the desired classes.
This is a more specialised approach than just diversifying for the sake of it. Experts in this approach will first consider economic and financial conditions at a global level, then work their way from the top down to consider regional and local conditions before making decisions about which asset classes are expected to outperform and underperform.
Rather than just spreading the portfolio across all asset classes, in certain conditions you may make the deliberate decision to allocate zero funds to a particular asset class if you think it will underperform. With this approach, your portfolio is more likely to endure both sector and investment-specific risk over its life.
The proportion of funds invested in growth and defensive assets will also depend on your investment time horizon and appetite for risk. Most investors approaching retirement want a combination of stable investments that can provide a reliable source of income, and enough growth investments to protect their capital from too much inflationary damage.
Getting this balance and the subsequent asset allocation right is not a set-and-forget approach. For long-term success you need to review the portfolio as your circumstances, investment markets and global economic conditions change.
Although Australian equities are the most common and easily accessible, they are not the only growth assets the Australian market has access to. Diversifying into investments such as emerging markets and equities exposure in some regions of Asia can provide good alternatives for growth. Some commodities and natural resources act as a hedge against inflation, as well as acting generally in a counter-cyclical way to other equities and bonds.
Paying off debts
Although the mix of investments in your superannuation portfolio is vitally important for achieving the desired investment outcomes, you also need to keep retirement lifestyle needs in mind when constructing the portfolio. On reaching retirement, it is not uncommon to have outstanding debt on a mortgage or investment loan. If you intend to draw from superannuation to extinguish a debt, you need to ensure you have sufficient funds to provide an income in retirement and allow a lump-sum withdrawal.
You may also want to build a portion of funds in more liquid assets to cover the withdrawal. Otherwise, the quick sale of a large portion of your superannuation assets could expose you to market timing risk.
An increasing trend is to downsize the family home at, or in, retirement. It can take time to reach this type of decision and it may have significant implications for the capital available for retirement and living costs.
The amount you need for retirement will depend on these types of capital decisions, your desired day-to-day standard of living and any plans for making bequests. If possible, you should structure your portfolio to produce a realistic and sustainable level of income to meet these goals and avoid the unplanned sale of assets, potentially at unsuitable prices.
Transparency equals opportunity
Your choice of super fund should reflect the features, investment choices and level of control you need. Having greater transparency and investment options will provide greater opportunities to pinpoint which markets to acquire or avoid, but you may need to weigh this up against fees and the level of personal involvement required.
There's a big variation in investment choice between different super funds. Self-managed superannuation funds (SMSFs) offer the greatest investment choice because investors have the ability to invest in all investments allowed under the superannuation rules, including direct equities, term deposits, income investments and property.
SMSF trustees are a growing group in the Australian investment market and fund managers are introducing a number of innovative products to cater for their particular needs.
Another feature to consider when choosing a super fund is the ability to commence pension accounts (or income streams). This becomes crucial when approaching or reaching retirement, but is still important to consider from an earlier age.
If your current super fund does not allow you to commence an income stream upon reaching retirement, you may need to sell down all your investments and roll them over into an account or fund that does have this facility. Apart from the administrative hassles, this can expose you to market timing risk.
You will save time, effort and, potentially, your investments - now and in retirement - by setting up an appropriate structure to hold your superannuation investments.
In summary, to achieve a comfortable retirement it is important to consider your super contributions, asset allocation and fund selection. These are not things that should be left to chance or until it's too late.
About the author
Nerida Cole is Head of Financial Advisory at Dixon Advisory, a leading wealth management firm.
SMSFs provides useful information about the basics of establishing a fund. The page also features an ASX video on SMSFs, in which the television presenter Anne Fulwood interviews Graham O'Brien of ASX business development.
The views, opinions or recommendations of the author in this article are solely those of the author and do not in any way reflect the views, opinions, recommendations, of ASX Limited ABN 98 008 624 691 and its related bodies corporate ("ASX"). ASX makes no representation or warranty with respect to the accuracy, completeness or currency of the content. The content is for educational purposes only and does not constitute financial advice. Independent advice should be obtained from an Australian financial services licensee before making investment decisions. To the extent permitted by law, ASX excludes all liability for any loss or damage arising in any way including by way of negligence.
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© 2013 ASX Limited ABN 98 008 624 691