You’ve saved diligently all year, or perhaps you’ve received an unexpected windfall, bonus or inheritance. No matter how you’ve come across it, the question is likely to be about how to make the most of any spare cash – a common choice would be to inject it into your mortgage or add it to your superannuation fund.
“The decision is dependent on life stage,” says financial adviser Greg Pride of Centric Wealth. “If you’re a younger person, what’s the priority? To save for retirement or to reduce the interest payments on your mortgage?
“For an older person, super is a more pressing issue but you don’t want to take a mortgage into retirement either – it’s a guaranteed cost when there is no guaranteed income.”
The case for superannuation
Super is the most tax-effective option for long-term savings because earnings are taxed at a lower rate of 15 percent rather than the marginal tax rate you pay on your income. The drawback, however, is that you can’t access the money until retirement.
“The question people should ask is, will they ever say to themselves between now and retirement, ‘I want to use that money for something else?’,” says Steve Crawford, owner of Experience Wealth Advice and Victorian director of the Association of Financial Advisers.
“You would put spare cash into superannuation to end up with more money at retirement time. But if you do your sums and you’re going to have enough to be comfortable, there’s no need to take the risk of tying up all your money in super,” Crawford adds. “There are other ways to improve your retirement position without taking that extra liquidity risk.”
Both Crawford and Pride suggest diversifying your investments as the safest strategy for a financially secure future, including paying off the mortgage, making additional super contributions, and investing in shares and property.
The case for mortgage
Paying down your mortgage makes financial sense – you reduce the interest payments in the short term and you pay off your loan faster, which can save you money in the long term.
Furthermore, any additional repayments you make into your mortgage or an offset account gives you a return of an after-tax equivalent to the interest rate on your mortgage. That means if your mortgage interest rate is 6 percent, your after-tax return on extra repayments is also 6 percent.
“If you have an interest rate of 6 percent you would have to earn a 10 percent tax-free return on another investment to match the benefit of putting extra money into the mortgage,” Pride says.
Alternatively, refinancing into a lower interest rate home loan can free up thousands of dollars every year. RateCity shows variable home loan rates from 4.49 percent and fixed rates from 4.48 percent for one year, at the time of writing.
Crawford suggests a two-pronged approach if your finances allow it. “Our preference would always be to pay off debt ahead of anything else. At least paying off the mortgage, if you are ahead you could make a decision at the end of the year to put a bit of extra money into super as well.”