I’m into my 22nd year of helping Australian’s gain choice through building wealth and financial independence. Much of what I share draws from the clients that I interact with every day. The entire Financial Autonomy framework was built by reverse engineering how my most successful clients achieved their success.
In that vein, today I wanted to share with you two ways in which I’ve seen moderately wealthy people really take a step forward, with approaches that perhaps go against the conventional wisdom. Maybe you can’t use them yourself right now, but an awareness of their application might still assist you as you develop your personal Financial Autonomy plan.
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Okay, let’s dive into this week’s episode, two unconventional strategies the rich use to get richer.
It’s important that I preface this episode with an extra General Advice warning. I’m not suggesting you should pursue these strategies. There’s a very good chance they would not fit your circumstances and they definitely entail risk. Just use them to question your thinking, and of course seek out professional advice that is specific to your circumstances.
Conventional money advice is always to be cautious with borrowings. Allow plenty of margin for the unexpected, and generally don’t get over exposed. However there’s an instance where those on high incomes wisely ignore this advice.
One of the greatest tax breaks that exist in Australia is the Capital Gains Tax exemption on your primary residence.
Property prices have shot up in the last year or so, but even zooming out a little and considering a longer time horizon, most Australian property owners, at least those with freestanding homes on blocks of land in established suburbs, have seen the value of their properties rise. And if that property is the home that you live in, all of that gain is yours, tax free.
The first strategy I want to share with you then is that some people with the ability to borrow large sums discard any idea of being conservative, and buy the biggest, most expensive home that they can convince a bank to finance. I’ve seen some where all they can afford to pay is the interest, no principle reductions, though I suspect that would be tough to get over the line today.
I’ve talked in the past about the importance of gearing in wealth creation. Well this is gearing on steroids. Borrow every cent the bank will give, stretch it out over the longest loan term possible, and go for gold.
Sure, the $2million home would have comfortably covered all their needs, but why not go all in and stretch ourselves to buy the $4million property? Why? Because let’s say you hang onto the property for 10 years and over that time it doubles in valuable, which is a plausible outcome if you have a tiny bit of luck on your side.
The “sensible” person saw their $2million purchase rise to be worth $4million, making them $2million wealthier in the process.
But the person who went nuts and bought the $4million home now has $8million to play with, a $4million dollar, tax free outcome.
Now the “sensible” person would have paid down their original mortgage somewhat, whilst the theoretically more imprudent person likely made little dent in their loan, assuming a similar cash flow and ability to make loan repayments. Logically, the more aggressive purchaser will have paid more interest to the bank given their far larger loan. Over 10 years at current rates that would amount to about $600,000.
So the equation is you’ve made an additional $2million tax free profit through being really aggressive, and the cost was $600,000. I’d take that every day of the week.
And let’s not forget, you’ve had 10 years of enjoyment of the grander property too.
Where I’ve seen this work particularly well is to go big on the home when a couple has school aged kids. And then when the kids become adults and move on, sell the property, clear the debt, and use the tax free gains to purchase a very nice, smaller, debt free property for the next phase of your life.
There are plenty of valid questions around the equity of the capital gains tax exemption on primary residences, especially equity across generations. But Australians are firmly attached to property. It is inconceivable that a government would consider removing this exemption. So that being the case, strategies that milk this opportunity to the max are certainly worth being aware of.
To sum up, strategy number 1 is to buy the most expensive property you can possibly afford, taking maximum advantage of the Capital Gains tax exemption for principal residences.
We all know that another great tax play here in Australia is to utilise the superannuation system as much as possible. But there are limits. Limits as to how much you can contribute, and limits as to how much you can then use to live off in retirement.
Well, not quite.
The most we can put into a tax free pension, which is the main point of building up savings in super in the first place, is currently $1.7million. Now that’s quite a lot, and therefore most people focus on using as much of that cap as they possibly can.
But there are some high-income earning people who can see they are going to end up going beyond this point. The conventional approach would be that if you are facing that outlook, don’t put any more into super than absolutely necessary. On this line of thought, anything above $1.7million is “wasted”.
But that’s not really true. Sure, if you retire with $2million dollars in super, you can only get $1.7million of that into a tax free pension. But the excess $300,000 can still remain in the superannuation system, in accumulation phase. Now tax in accumulation phase is 15% on income and generally 10% on capital gains. If you have other investment income in retirement to the point where you need to pay tax, it’s very likely your tax rate will be higher than 15%, so housing your wealth in super is likely to remain attractive.
Strategy 2 then is to deliberately plan to overshoot your $1.7million pension balance cap.
Now there are limits to how much you can contribute in a year, but provided your balance is under $1.48million (2021-22FY) you are able to make a lump sum after tax contribution of up to $330,000. If you’re some time away from retirement, and your financial planner has forecast that you are on track to exceed your pension transfer balance cap, then perhaps you commit to completely blowing it out of the water by putting in $330,000. Your employer contributions plus the compounding of earnings will result in your balance building and building, leaving you with a tidy excess super pool that you can access when in retirement for excess spending, family gifts, or whatever you like.
So strategy two is – deliberately blow out your superannuation pension balance cap limits.Back to All News