Investment, Super or Mortgage – which may be appropriate?

Investment, Super or Mortgage – which is the best? 

If you’ve received a bonus, a payrise or have surplus cash to invest then you may want to think twice about leaving this money in the bank as the current low-interest rates on offer are not likely to provide much of a return on your investment. Our article Is Cash no Longer King? explains more. 

But what else should you do with the money? Some of the more common alternative strategies may include:

1. Investing in your own name;
2. Using the money to reduce a personal mortgage;
3. Topping up superannuation.

Factors such as your timeframe until retirement, your tax-bracket and whether you’ll need to access the money in the future will all impact on which savings strategy is most suitable for you. 

There are a number of general advantages and disadvantages to these strategies that you may wish to consider before making a decision: 

The advantages of reducing a home loan are:

• Peace of mind in knowing that the home loan balance is reducing and progress is being made towards becoming debt-free.
• Reducing debt frees up cash flow which you can use to implement other investment and savings strategies.
• Repaying non-tax deductible debt as quickly as possible helps to reduce the overall interest expense on the loan.
• As the value of the home increases so too will the equity available in the home, which could be used for future investments, borrowings or to renovate or purchase other assets such as an investment property.
• The family home is a capital gains tax free investment.

The disadvantages of reducing a home loan are:

• Home loan repayments are made from after-tax dollars. For example, if your marginal tax rate is 32.5% this means that for every $100 earned, you have just $67.50 to repay on your home loan*.
• Potential for opportunity cost when returns from investments or superannuation are higher than the interest you are paying on your mortgage.
• Not all home loans have a redraw facility, which means that you may not be able to redraw money, should you need to access it in the future.
• Some home lending providers do not allow for additional repayments or early repayment of a home loan without penalty.

* Tax rate doesn’t take into consideration Medicare levy, offsets or rebates. 

The advantages of investing are:

• Ability to diversify savings by investing in a range of asset classes such as cash, fixed interest, shares and property.
• Option to access the funds if required by making a withdrawal from the investment when needed – subject to exit costs, fees and capital gains tax.

The disadvantages of investing in your own name are:

• Investment must be made from after-tax dollars.
• Returns from any investments owned in a personal name will be subject to tax at marginal tax rates.
• Tax may apply to any capital gain made on the investment. No discount will be available if the assets are bought and sold within a 12 month period.

The advantages of investing in superannuation:

• Superannuation is a tax-effective environment. Earnings are taxed at a maximum of 15%. You can read more about taxation and superannuation funds here.
• If you’re self-employed, you may be able to claim a tax-deduction for contributions of up to $30,000pa if you are under age 50 or $35,000pa if over.
• Boosting superannuation will increase the capital you may have available in retirement.
• Salary sacrificing to superannuation allows you to use pre-tax income to make a contribution. This is a tax-effective way to save for the future. Contributions are taxed at 15% which may be less than your marginal tax-rate.
• If you use your after tax income to make a contribution to superannuation then no contributions tax is payable.
• If you earn $49,487pa or less and make after tax contributions to superannuation, you may be entitled to the Government’s Co-Contribution scheme.

The disadvantages of investing in superannuation:

• Superannuation is a long-term investment and money invested is generally not accessible until you reach your preservation age and have retired from the workforce.
• The performance of the superannuation fund will depend on the investment option/strategy selected for the fund. If the fund has a large exposure to growth assets such as shares or property then the investment returns may fluctuate in line with market movements.

Selecting the best option will depend on your personal situation and individual goals and objectives. There is no “one size fits all” approach to decide whether to direct spare cash to invest, reduce a mortgage or to top up super. As these strategies can be complex in nature and everybody’s situation and goals are different, it pays to seek professional advice. And remember that it doesn’t have to be one or the other, often a combination of strategies can also work well.