‘ Real’ or not, fund returns add up
There’s more than one way to calculate your KiwiSaver gains
I read with interest your reply with respect to KiwiSaver returns last week. You mention that the returns are, in a way, artificial. I think the way providers calculate them is artificial and grossly understated.
If I go to a bank and deposit money, they may pay 3 per cent. If I buy a business, I work out the return based on the amount I put in. That helps me to assess whether the return is sufficient.
In the case of KiwiSaver providers, they add what I put in, what my employer puts in, what the Government puts in, and then work out the percentage return on all that money.
Surely the return should be based on what I put in, like every other investment.
Every KiwiSaver return should be greater than 100 per cent, because the employer matches my input ( if at 3 per cent); then add the tax credits, kick- start, interest, capital gain, dividends and deduct tax. Now, that’s a real return.
For individuals, it’s what you end up with that matters. The providers should be providing true rates of return. It’s to their benefit as well, because it shows that KiwiSaver is one of the best investments in the world. Your thoughts would be appreciated.
I would also love to see an article on the Rule of 72 — a littleknown rule which I use regularly.
Last thing first — because that’s why I’ve made your letter the lead one this week. The Rule of 72 is often useful, and I haven’t written about it for a few years.
It helps you to quickly work out three things: how long it will take for an investment to double; the approximate percentage return on an investment that has doubled; or how long it will take for inflation to halve the value of money. For example: If your house value has doubled over 12 years, divide 12 into 72, to get 6. The value has grown by 6 per cent a year. If it’s doubled in eight years, divide 8 into 72. The value has grown by 9 per cent a year. If you want to double your money in 10 years, divide 10 into 72. You will need to earn about 7 per cent a year. If your share investment is growing at 4 per cent a year after fees and tax, divide 4 into 72. It will take 18 years to double. If inflation is 3 per cent, divide 3 into 72 to get 24. It will take 24 years for, say, $ 100 to halve in value. Note that the Rule of 72 works only for lump sum investments, not an investment like KiwiSaver in which you drip feed money over time.
The rule is an approximation. It is most accurate for returns of 6 to 10 per cent, and gets a bit dodgy for returns of less than 3 or more than 15 per cent. For example, if your house has doubled in two years — which has occasionally happened recently — the rule says your annual return is 36 per cent, but it’s more like 41 per cent. Still, it gives you a pretty good idea.
One of its beauties is that you can divide 72 by 2,3, 4, 6, 8, 9, 12, 18, 24 and 36, which makes calculations easier. And for other numbers, near enough is good enough.
Now, on to your point about KiwiSaver returns. There are two ways to look at them: What providers do, which is — as you say — to look at all the inputs and calculate the investment return they achieved on all that money. The return should be presented after fees and tax. What you call true returns — and what I did approximately for the July 1 column — which is to look only at the money you have put in. The return includes government and employer contributions along with investment returns, minus fees and tax. The first way shows how well your money has been invested and, for long- term returns, whether you have been with a good provider. The second shows how well your investment has done overall, and it’s the right one to use when comparing KiwiSaver with other investments.
It’s not correct, though, to say that when you’re using the “true” calculation, for every employee KiwiSaver’s annual return will be more than 100 per cent — which means your money more than doubles each year.
Let’s start by looking at your first year in KiwiSaver.
Lower- income people will almost always more than double their money in that first year — even if they don’t get the kick- start.
For example, if you earn $ 40,000, you contribute $ 1200, your employer contributes $ 990 ( after tax), and your tax credit is $ 521. Total inputs are $ 2711 — more than twice your contribution, even before adding investment returns, which are usually positive.
But because the tax credit is capped at $ 521 a year, doubling may not apply to those earning more than about $ 60,000 a year.
If you earn $ 100,000, you contribute $ 3000, your employer contributes $ 2010 ( after tax), and your tax credit is $ 521. Total inputs are $ 5531 — less than double your contribution. Investment returns might or might not make up the difference.
Still with me? The second year is like the first year in that your new contributions are roughly doubled. But that no longer applies to the money contributed during the previous year. That money receives only the investment return, which might be 4 or 5 per cent.
And as the years go by, more and more of the money in your account will have been deposited more than a year ago, and so will receive only the investment return. That increasingly waters down the “true” return on your whole account.
Your “true” return will still be boosted by this year’s employer and government contributions. So it will still be higher than the return reported by your provider. But — unless the markets have done incredibly well — it won’t be anywhere near 100 per cent.
On your comment that providers should use the “true” calculation, I think that would be too big an ask.
Currently, providers tell us what each of their funds earns, and if you’re in that fund, that’s what your investment returns are. If you’re in more than one fund, providers will take that into account. But I suspect it would be really difficult for many providers to keep track of each member’s “true” return — which would lead to a big jump in fees.
Also, it might be more confusing than helpful to many people.
Perhaps it’s easier to look at it this way: if twice as much goes into your KiwiSaver account as would go into another similar investment — because of employer and government contributions — your final savings will be twice as big. Not bad.
Fees for kids
Just to let you know that Aon only offers reduced fees for kids — but not free. So essentially it works out to the same total as my kids are charged at ASB.
Unfortunately that wasn’t the only mistake in last week’s column, where I said, “the following providers have told the Commission for Financial Capability that they waive fees for under- 18s who contribute regularly: Aon, Booster, NZ Funds and QuayStreet.”
I don’t know where the communication failed, but I’ve now checked with the providers, who say:
Aon’s flat admin fee is $ 40 a year for under 18s, compared with the full rate of $ 49.50. There is no requirement to contribute. Booster waives its flat fee for anyone of any age with a balance below $ 500, but has no special deal for children. There is no requirement to contribute. Craigs waives its flat fee for under 18s. There is no requirement to contribute. NZ Funds waives its flat fee for under 18s if they contribute $ 100 or more over a six- month period. QuayStreet waives its flat fee for under 18s. There is no requirement to contribute. The flat fee is, of course, only part of the story. Providers also charge a percentage of your balance. But for children with low balances, paying no flat fee can make quite a difference.
Getting good advice
I was particularly interested in what you wrote a while back about seeking financial advice, and contacted eight advisers listed on the Info on Advisers page on your website, eventually meeting five.
They were generally good — friendly and professional. The five I met all responded to my email in writing and via phone. I felt a bit out of place seeking advice from them but nobody laughed me off. But it was hard to differentiate between them, apart from the guy we are about to sign up with.
His email response gave me as much information as I got from the face to face meeting with the others, and the initial meeting went for 90 minutes ( with a 45- minute follow- up with my wife, both at no cost and with no hard sell).
There was far more detail — in terms of giving us a picture of where we are at and how things are likely to track in the future — than I got from the others. He is obviously a man who enjoys his job.
On top of that his fees were lower than the others ( bar one), the initial cost of writing up the advice was the lowest and the minimum investment is low.
Something else I came up with during the process was to ask each of them, “What questions would you ask if you were in my shoes?” Their response to that told me more about their ethos and what they saw as important than anything else I could come up with.
Great to hear the process worked well, and I like the way you made your choice.
Feedback from another reader: “I took your suggestion and paid to see a financial adviser, and I am very pleased with the result — a very fair price ($ 300) for completely independent advice and therefore peace of mind about what I was proposing to do with my money.”
As I said last week, it’s really worth putting time into finding the best adviser for you.
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.