Saving grace
Rates aren’t as bad as they seem, once you take account of low inflation
Wondering about the best savings options for your hard- earned cash? Today, personal finance writer Mary Holm has top tips to ensure your money is working hard for you — and how to get the best term deposit rate, even when interest rates are low.
What’s the future of term deposit interest rates? There’s absolutely no incentive to save with current interest rates. This is the opinion of many people I know who ask the Government to stop taxing interest income.
It’s no use a bank economist saying we are not saving enough when he fails to recognise that people are stupid to do so with current interest rates.
I was once sailing in a smallish yacht through the narrow stretch of a harbour. The sails were full and we seemed to be going full- steam — sorry, full- sail — ahead. It felt great. But when we looked at the shoreline we realised we were actually going backwards. The force of the tide was stronger than the force of the wind.
Some time later, the wind had dropped and the tide had changed. The sailing wasn’t nearly as exhilarating, but we were getting where we wanted to go.
Investing in bank term deposits in the late 1960s to early 1980s was like the first experience. It felt wonderful to earn interest well into the teens. Your savings balance zoomed up.
The only trouble was — as our graph shows — inflation was even higher than interest rates.
Your $ 1000 term deposit might be $ 1120 a year later, but you could buy less with the $ 1120 than you could with the $ 1000 the year before. You were sailing backwards.
These days, your $ 1000 might be just $ 1030 a year later — at an interest rate of 3 per cent. But with inflation at just 1.7 per cent, your buying power is growing. Your yacht is making progress.
And that’s all that matters with money. As anyone who has used a foreign currency when travelling knows, it’s not about the numbers, but what you can buy with your cash.
Let’s add tax into the mix. In the bad old days, after paying lots of tax on your interest you were even further behind. These days, you can still come out ahead after tax.
There’s a good argument — and I’ve made it before — for adjusting tax brackets to match inflation, so that we don’t pay higher tax just because our incomes have grown with inflation. But while “bracket creep” should stop, it isn’t nearly as bad as it was in the 70s and 80s.
Sorry, but I can’t see why we should stop taxing term- deposit interest altogether, while continuing to tax other forms of income.
All in all, term deposits are not too bad a deal these days, and especially if you do the following things: Shop around. That’s easy on websites such as www. interest. co. nz. It shows, for example, that several banks are offering more than 3 per cent for 12 months on $ 5000, and more than 4 per cent for five years on $ 5000. Go to your own bank and ask if they can raise their rate for you. Several people have said that worked for them. Consider similar alternatives with somewhat higher average returns. Bankrun PIE term funds give many people a tax break. With cash managed funds — run by KiwiSaver providers and others — your money isn’t tied up. But your return will vary — which might be good or bad — and you’ll pay fees. On your question about future interest rates, nobody knows. Many say rates will rise — given they are low by historical standards. But other experts say conditions have changed, and rates may stay lower from now on.
In light of that, it’s a good idea to have some deposits maturing soon and some further down the track.
KiwiSaver — who pays?
I was particularly interested in a recent Q& A about employers’ responsibilities towards paying KiwiSaver contributions.
My employer deducts the employer contributions from the wages of those who choose to be in KiwiSaver — so effectively I am contributing 4 per cent as an employee then 4 per cent of my own money as the employer contribution.
Its argument is that individuals who aren’t in KiwiSaver would effectively be on a lower salary if it didn’t do this, and that as a small business ( 20- 30 employees) it could not afford to increase everyone’s wages by 4 per cent. However, I believe that’s the point — as an incentive to join KiwiSaver.
I queried this with the Citizens Advice Bureau a few years back, and they said it was frowned upon but wasn’t actually breaking any rules. However, I am curious as to whether you think this practice is legitimate?
Total remuneration, as it’s sometimes called, is certainly legal. It was banned by the Labour Government in mid- 2008, but allowed again by National after it won the election that year.
Some people agree with your bosses, that total remuneration is fairer to those who don’t join KiwiSaver. Others take your view, that employers are meant to be incentivising people to join. And I tend to be on your side.
But there’s not a lot you can do about it — except perhaps say when negotiating a pay rise, “You’re saving by not contributing to KiwiSaver, so how about giving me more money in my hand?”
If you think you’re contributing too much, you could reduce your contributions to 3 per cent plus 3 per cent. Ask your employer to adjust it.
Smashing the mortgage
Is it worth joining KiwiSaver or better to concentrate on paying off the mortgage in our situation?
I am 36, my partner 30. We have a $ 400,000 mortgage on a fixed term that will expire next year.
We are saving a minimum of $ 1000 each month ( but planning to increase this to $ 2000), to pay off a lump of the mortgage when the term expires. We’re both on good incomes, so are hoping to keep ratcheting up our savings each month to pay the mortgage off in 10 years.
Neither of us is in KiwiSaver. We were living overseas, and when we moved back were able to buy our first house without it, so did not see the point of joining.
Here is the crux — we both work in jobs where we have total remuneration packages in our contracts, where our employers’ KiwiSaver contributions are deducted from the total package.
If we join and start contributing, our pay cheques would not only decrease by the 3 per cent we contribute but also by the 3 per cent employer contribution. We do not want to lose this 6 per cent as we want to put it towards the mortgage.
Is it still worth joining just to pay in the minimum to get the maximum government contribution? Or would it make more sense to put that $ 1043 towards the mortgage?
But would waiting until we’ve paid off the mortgage be leaving it too late to start retirement savings?
Your goal is presumably to reach retirement with a mortgage- free home and a big chunk of savings.
It’s wise for everyone with a mortgage to ask your question: is it better to contribute to KiwiSaver while paying down the mortgage, or skip KiwiSaver and put as much as possible into getting rid of the loan first?
Unfortunately, the answer depends on the assumptions you make about future mortgage interest rates, KiwiSaver returns, and so on — things we can only estimate.
Generally, employees whose employers pay their KiwiSaver contributions are likely to be better off in the scheme and contributing 3 per cent — to get their maximum tax credits and employer contributions. Any further savings should go into mortgage payments.
But it’s a harder choice for you, without employer contributions.
You suggest the possibility of putting in just $ 1043 a year, to get the maximum $ 521 tax credit. But you won’t be able to do that in the first year. As an employee, you must contribute at least 3 per cent of your pay, and in your case also the employer’s 3 per cent.
However, after a year you can take a contributions holiday for up to five years, and then repeat that until you retire. And while on holiday you can put in the $ 1043 each year, perhaps as an automatic transfer of $ 87 a month.
At that stage, you’re in the same position as the self- employed and other nonemployees. Because you miss out on employer contributions, it’s not as clear that KiwiSaver beats mortgage repayment. Mathematically it might, but it might not.
I think, though, that KiwiSaver tends to win for a few reasons: Psychologically, many people like to see a retirement savings fund growing. And the fund will be all set up for you to shovel much more money into once your mortgage is paid off. In the meantime, you’re learning about how markets rise and fall and rise again. There’s nothing like having “skin in the game” to take an interest. Your savings are diversified into shares, bonds and so on, rather than all being in property. This reduces your overall risk. In your case, you’ve got that expensive first year to get through. But the money is still yours, sitting in KiwiSaver for many years with compounding growth. It will give your KiwiSaver accounts a great start.
One more tip: once your mortgage fixed term expires, consider making some of the loan a revolving credit mortgage. That will enable you to put all your income to work reducing your mortgage interest payments.
PS. I love your stroppy attitude towards your mortgage! Increasing your savings each month is a great strategy.
Fees for advice
I’m interested to know more about feebased financial advisers. You mentioned the consumer should pick a fee- based adviser because they are unbiased on investment options.
However, can a fee- based financial adviser also take commissions from investment service providers? Is there any law stopping them?
When I interview those fee- based advisers, is there any way to frame the question so they have to tell me the truth?
I suggest you just ask them outright, in person, “Do you receive any commissions?” According to the Financial Markets Authority, all financial service providers, including advisers, have to “tell you if they get paid by someone other than you — for example through commission.”
If you’re considering the fees- only advisers listed on the Info on Advisers page on www. maryholm. com, they have all agreed to the following:
“I guarantee that when I give any new client investment advice or help them to make any investments, the only money or other consideration I receive is explicitly stated fees that I charge the client. Any commissions or other considerations I receive from financial firms or others are passed on in full to the client.”
But I also say on that page, “Please note: I’m not in a position to check what the advisers in this table have told me. I’m relying on readers to report back if an adviser doesn’t stick to what they’ve said, so please tell me!”
The fact is that somebody could cheat. Usually, though, they get caught out in the end. Perhaps a former employee or someone from the organisation paying the commission tells. Mary Holm is a freelance journalist, a director of the Financial Markets Authority and Financial Services Complaints Ltd ( FSCL), a seminar presenter and a bestselling author on personal finance. Her website is www. maryholm. com. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to mary@ maryholm. com or Money Column, Private Bag 92198 Victoria St West, Auckland 1142. Letters should not exceed 200 words. We won’t publish your name. Please provide a ( preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice.