Mortgage Or Super?

Paying off your home loan signals an important landmark in your financial life and to many it is your biggest financial goal in life. However, it is always important to consider alternative investment strategies. Sometimes the best strategy may not be the most obvious. Additionally, once your home loan is paid off, it’s time to decide what to do with the extra income that used to go towards your home loan repayments.

Which should come first, super or the mortgage?
Most people still believe that they are better off putting surplus money into their mortgage before investing elsewhere. Let’s take a look at Alan’s situation to see if this is always the case.

Case Study – Meet Alan

Alan is 50 years old and plans on retiring in 10 years at age 60. His salary is $70,000 pa and his living expenses are $50,000 pa.

Mortgage interest rate:

8.00%

Super earnings rate:

7.64%

He has a mortgage of $300,000 that requires a minimum annual payment of $30,000 (included in his living expenses).

Alan also has a current super balance of $100,000.

Alan thinks it is worthwhile to direct any surplus money towards his mortgage as he only has 10 years till retirement. Alan also wants to build up his super for retirement and so is unsure which investment strategy will give him a better result in the long run.

Alan can either put his surplus into his mortgage or into superannuation.

Scenario 1 – Alan chooses to make additional mortgage repayments:
Alan has an additional surplus income of $4,653 available in the first year (when he is 50) to pay off his mortgage. His employer will continue to pay 9% into his super fund over the 10 years until retirement.

If Alan decides to make additional mortgage payments until age 60 he will be in the following situation:

Final super balance

Final mortgage balance

Net Wealth

$272,600

$70,564

$202,036

Scenario 2 – Salary sacrificing surplus income into super:
Alan is able to salary sacrifice $5,777 into superannuation in the first year (when he is 50) and still meet his living expenses of $50,000. He will also need to continue to make minimum mortgage repayments of $30,000 each year (included in his living expenses).

If Alan salary sacrifices into super for 10 years, his following situation will be as follows:

Final super balance

Final mortgage balance

Net Wealth

$450,284

$213,081

$237,204

Which scenario provides a better financial result for Alan?

By electing to salary sacrifice into super rather than make additional mortgage repayments Alan’s overall financial position has improved $35.168. Alan’s super balance has significantly increased which will assist him to maintain a comfortable lifestyle during retirement.

Once Alan’s income goes into super his money is only taxed at the concessional rate of 15%. If Alan had taken that money as income he would pay tax of 32.5%. That’s a tax saving of 17.5%!

Once Alan retires at age 60 he will still need to pay off his mortgage. He can do this very effectively in one go by withdrawing the full mortgage balance from his super. This lump sum withdrawal will be tax-free (under current superannuation rules).

What are the risks associated with this strategy?
In Alan’s case, he is financially better off salary sacrificing surplus income into super instead of increasing mortgage repayments. However, your own situation will be different and there are some risks associated with this strategy such as:

  • The risk of interest rates rising and super earnings falling – in scenario 4, Alan is still advantaged, but this could change if rates were significantly altered or if he were younger and had longer till retirement.
  • The risk of legislative change – the superannuation and tax system could potentially change making this strategy more or less tax-effective for Alan.
  • Super is preserved until at least age 55 – if Alan suddenly needed his money for an emergency it would be locked away in super until he was at least 55 or had met another condition of release.
  • Age – the example assume that Alan will not draw on his super balance until age 60, at which age withdrawals become tax-free. If this strategy is undertaken by someone under age 60, tax may be payable and therefore this strategy may not be appropriate

In Alan’s case, he can significantly benefit by investing more in super rather than investing more to reduce his mortgage. However, it is important to note that your own situation will be different and this strategy may or may not be suitable. If you think this strategy may be applicable, speak to your Count Adviser who can assess your situation and recommend a suitable plan.

Tax rates and information can change, so make sure you discuss your options with your Count Adviser.

So how much do you need in dollar terms per annum?

Annual pre-retirement income ($)

70% ($)

60% ($)

100,000

70,000

60,000

80,000

56,000

48,000

60,000

42,000

36,000

55,000

38,500

33,000

50,000

35,000

30,000

45,000

31,500

27,000

40,000

28,000

24,000

30,000

21,000

18,000

Once you have determined your required annual income, you then need to establish exactly how big your retirement nest egg needs to be to provide that level of income for life.

The table below shows the level of capital required for some income levels, assuming retirement at age 65 years:

Desired annual retirement income*

Capital required if earning 6% pa

Capital required if earning 8% pa

$60,000

$966,641

$796,642

$55,000

$886,088

$730,255

$50,000

$805,534

$663,868

$45,000

$724,981

$597,481

$40,000

$644,428

$531,095

$35,000

$563,874

$464,708

$30,000

$483,321

$398,321

$25,000

$402,767

$331,934

$20,000

$322,214

$265,547

*Figures are indexed at 3% pa to reflect the effects of inflation. Centrelink entitlements and tax are excluded from the calculations. Calculations are based on a female retiring at age 65 with an average life expectancy of 22 years.