Smart strategies for every income bracket

Even on a lower income, topping up super and choosing the right asset allocation can make a difference to your future lifestyle

If you’re earning $40,000 there are a few things you could do to make the most of your money. If you are part of a couple and your partner is earning quite a bit more than you, consider in whose name the investments should be held. When they are held in the lower-earning partner’s name the income (interest, rent or dividends) could be taxed at a lower marginal rate.

For example, someone with an income (after deductions) of $ 40,000pa is likely to be on a marginal tax rate of up to 32.5% (not including the Medicare levy); if their partner earns $90,000pa they are likely to be on a marginal rate of up to 37%. Holding assets in the name of the partner who is paying less tax will have the effect of boosting investment returns. If you already own the asset it is very important to obtain advice before transferring assets, as there may be tax payable on the transfer.

We often hear a lot about negative gearing but positive gearing might work for certain people in this income bracket. With negative gearing, the expenses (for example, loan interest and other costs) are greater than the income earned from the investment, which means that the investor is in an income-loss position. Under current tax law, the investor is able to use that loss to offset tax on income from other sources. It’s really only worthwhile if the asset rises in value over time.

Positive gearing flips this on its head as the investor makes a real profit from very early on with the income (rental income or dividends) being greater than the expenses. The income is taxed at the investor’s marginal rate, just like any other income. It means that the investor does not have to dip into other sources of income or other assets to fund the strategy. Just as with any other investment, it is important to understand the risks – when borrowing is involved, the risks of this type of strategy are increased.

If you’re investing in Australian shares, understand whether the dividends are franked. Franking credits (also commonly referred to as imputation credits) can be used to reduce income tax or even potentially be received as a tax refund (depending on the investor’s marginal tax rate). In effect, they are a way of passing on the tax paid by the underlying company to prevent double taxation of profits.

For those planning their retirement, many retirees can survive on $40,000pa. This may include a combination of drawing on an income stream from superannuation, dividends, rent and/or interest from investments outside super and even the age pension.

SOME TIPS ARE:

1Look at boosting your superannuation

In the lead-up to retirement, try to top up your savings. The federal government provides extra incentives for lower income earners who contribute to their super. Examples of this are:

If your assessable income plus reportable fringe benefits plus reportable employer super contributions is less than $36,813 and you make a non-concessional contribution of $1000 to super, the government could make a co-contribution of up to $500. The co-contribution cuts out completely once your personal income exceeds $51,813.

If your spouse’s assessable income plus reportable

fringe benefits plus reportable employer super contributions is less than $40,000 and you make an after-tax contribution to their super account, you may be entitled to the spouse contribution tax offset (of up to $540).

2Consider asset allocation

One of the biggest mistakes a couple approaching retirement can make is to be too conservative. While it is important to not take too many risks with the pool of money that needs to last throughout your lifetime, investing too conservatively may mean that returns are quite low and funds may be extinguished sooner than would have been the case if a more balanced approach had been taken.

3Invest in your education

Whether it’s a short course, a certificate, a trade qualification or a degree, investing in your education and then applying that knowledge in the workforce is one of the quickest and best ways to earn more income.

4Get cracking on a budget

Understand where your income is coming from and sort out where it is going. Shop around for better deals on insurance, gas, electricity, phone and data plans, groceries, etc. If you have a mortgage, touch base with your lender to see if you are on the best interest rate it can give you.

5Try not to get into “bad” debt

It can be tempting to borrow to buy the things you want but can’t afford right now – be it those clothes, that surround-sound system, the holiday, the new car. Borrowing for these things can be so easy thanks to credit cards, interest-free loans, personal loans, etc – but think very carefully about whether you really need them as they could end up costing you thousands of dollars extra in the long run. For those with “bad” debt already, focusing on repaying it is usually the most appropriate investment strategy.

6Choose appropriate investments

Your investment decisions will depend on your time frame and tolerance for risk. For those with a short time frame, cash and fixed interest (for example, term deposits) are usually the most appropriate option. For those with a longer time frame, more growth-based investments (property and shares) may be appropriate – usually via a managed fund – as they provide a more diversified exposure to the asset class that reduces investment risk at a lower initial investment (sometimes as little as $ 1000).

7Consider seeking advice

The fees may seem high but a good certified financial planner (CFP) can assist you with defining and prioritising your goals, budgeting, debt management, investing in the right asset allocation/investment spread given your goals and risk profile, structuring your finances for retirement and potentially assisting with Centrelink benefits. The Financial Planning Association is a good place to start looking for a planner and finding out more about the basics of finance. See fpa.com.au.

Catherine Sharples-Rushbrooke is manager at Advice Services Australia. She is a certified financial planner and an SMSF specialist.

Bad’ debt could end up costing you thousands of dollars in the long run