- Dan (60) is a freelance web designer who earns $76,000 per year.
- He hasn’t always put money aside for super, so his balance is a relatively low $120,000.
- His wife Jenny (58) is a registered nurse on a salary of $85,000 with a super balance of $230,000.
- Their two children are independent adults and they have a home with a mortgage of $135,000.
Dan has just inherited close to $200,000 from his late mother and wants to know if he should pay off their mortgage or put it into super. After paying off their credit cards and going on an overseas holiday, he will have $170,000 left and doesn’t want to waste it.
The decision about whether to put extra cash into your mortgage or super depends on many variables, including years to retirement, the remaining term of the loan, mortgage interest rate and the investment returns in super. Extra mortgage payments generally make more sense in the early years of the loan when they will have the biggest impact on the total amount of interest you pay.
The current interest rate on the couple’s home loan is 3.99%, so repaying the mortgage would provide a tax-free return of 3.99% per year in the form of reduced interest expenses. Meanwhile, Dan’s super is earning 6.1%, before tax and fees.
Because they have no difficulty meeting their monthly repayments from their combined after-tax income of $122,361 and are on track to repay their mortgage before they retire, Dan decides he would rather have his full windfall earning compound interest of around 6% from day one, in a savings environment where he won’t be tempted to dip into it until he retires.
Individuals can make non-concessional (after-tax) super contributions of up to $100,000 per year or $300,000 in any rolling three-year period, so Dan is within the limit. These contributions are not taxed going in, while earnings in the fund are taxed at 15% rather than your marginal tax rate.
The couple currently have a joint super balance of $350,000. Dan makes personal tax-deductible contributions of $600 per month while Jenny’s employer contributes 9.5% of her salary, or $8,075 per year.
If they do nothing, according to MoneySmart’s Retirement Planner calculator they will have an estimated super balance of $477,342 when they retire at age 67 which will provide retirement income of $55,745 per year until age 90.
Initial estimated annual retirement income until age 90
Source: MoneySmart Retirement Planner
But if Dan contributes $170,000 of his inheritance as a one-off non-concessional (after-tax) contribution, they will have an estimated super balance of $651,172, and estimated retirement income of $60,227 per year.
Revised estimated annual retirement income until age 90 (after one-off contribution)
Source: MoneySmart Retirement Planner
This is close to the ASFA Retirement Standard’s comfortable retirement budget of $60,843, but well short of their current standard of living. If they set their target retirement income at 66% of joint net income, they would need $80,758 per year.
To boost their retirement income, they could use all their super by age 85 which would give them $71,816 per year.
Alternatively, they have the financial capacity to increase their concessional contributions and are currently well within their individual annual cap of $25,000 per year. If Dan increases his contribution to $800 per month and Jenny salary sacrifices $400 per month, they would have $61,472 per year until age 90, or $71,355 per year until age 85.
Revised estimated annual retirement income until age 90 (after one-off contribution and increased ongoing contributions)
Source: MoneySmart Retirement Planner
These are back-of-envelope estimates only. Dan and Jenny have some complex decisions to make if they want to give their savings a significant boost in run-up to retirement. They decide to seek professional advice from a licenced, independent financial adviser who can walk them through their options.
Learn more about how to plan your own retirement.
Note: The MoneySmart retirement planner calculator used for these projections makes certain assumptions. For example, it assumes ‘Balanced’ annual investment returns of 4.8% before tax and fees until retirement and a more conservative 3.8% after retirement. It also makes assumptions about fees. You can change these assumptions if they don’t align with your risk profile or your super fund’s fees and long-term returns.
For an illustration on the difference returns can make to your retirement balance see the following SuperGuide articles:
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