Paul’s verdict

Balance out the fun spending with wealth creation

Hi Emily. It is always great to get questions that make me laugh, so I really enjoyed the “delight of designer handbags” comment. They fit perfectly into my “anti-wealth” category. Mind you, I own a yacht, so I can hardly comment! The trick, though, is to try to balance out the anti-wealth spending with building your wealth.

Here I reckon you have done a good job. Buying a house at 27 was a great move given the strong returns in most parts of Australia over the past seven years. And despite a few handbags along the way, the fact that you started topping up your super when you first started work shows you have done really well with the balance between antiwealth spending and wealth building.

There are few miracles when it comes to money, bar a very small list:

Spend less than you earn.

• Invest for the long term in growth assets, such as property and shares.

• Eliminate high-interest personal debt.

• Legally minimise tax using super.

• Risk equals return.

• Compound interest.

Let’s combine a few of these. First, spend less than we earn, then top up super via salary sacrifice. At your age, I would think you would go with a balanced or growth fund, meaning we bring two more items from my list into play: investing in growth assets such as property and shares, then compound returns. Your super fund is highly tax advantaged, as returns are taxed at a maximum of 15%.

Let’s go with your salary of $68,000 and top up super by $50 a week. Any dollar you earn above $37,000 (up to $87,000) is taxed at 34.5%, including Medicare, so you would take home 65.5¢. $1 salary sacrificed into super is taxed at 15%, so you would have 85¢ invested. This is really important. You would need to grow the 65.5¢ that you get after tax by over 30% to catch up to the 85¢ in super. Meanwhile, the 85¢ in super is working away for you, taxed at a maximum of 15%.

With these numbers we can make a guesstimate, based on historical investment returns, as to how much you would have at, say, age 65. We should also allow for inflation. So let’s say your super will earn 4% a year, on average, above inflation. Our calculation is then based on the $115,000 you currently have, plus your employer’s contributions of some $6460 and then your $50 a week (or $2600 a year) topup. This totals $9060 a year, but after the 15% contribution tax, that’s about $7700 a year going into super. Pop this lot into a calculator and we get $868,000. This is in today’s money so it gives you an idea of what spending power you would have.

There is a whole bunch of stuff that can change this number. Your salary may go up, so your employer contributions increase, investment returns may be better than 4% above inflation, or worse! But it gives you a bit of an idea of the power of compound interest.

The only disadvantage of super is that you can’t access it until you reach retirement age, so you may wish to stick with employer super contributions and use your own money to invest outside super. A well-located investment property or a share portfolio can also work well.

So despite quite a few handbags, you are in a great financial position at 34. The trick is to balance out the fun spending with wealth creation and you are on track.