The end of the financial year is just a few weeks away. If you’ve had a successful year financially, perhaps you’re looking for ways to shave a little off your tax bill. We all know that paying taxes is important. It’s our contribution to a functioning society. But where rules and incentives exist that encourage you to reduce your contribution then it’s only sensible for you make use of those provisions.
Most last minute tax deductions require to you buy something in order to get a deduction. You save some tax, but you no longer have that cash. Hopefully you have an asset or service that you needed, but often it’s more of a nice to have than a must have. The most common example here is a tradie buying a new ute when the existing one would have done the job fine, or a knowledge worker buying the latest laptop. Great if it’s something that you absolutely needed, but frequently more of a splurge that you justify to yourself as being tax deductible.
The other challenge with last minute tax deductions, is identifying those available to wage earners, which is most of us. Many of the deductions available are more accessible for self-employed people.
But there is one tax deduction that wage earners have gained in the last few years, which was once only open to self-employed people, and that is top up superannuation contributions. Until a couple of years back the only way a normal wage earner could tax effectively top up their super was via salary sacrifice arrangements, and this was not something that could typically be done as a lump sum at the end of the year. But that has now changed. Anyone, whether employee or self-employed, can now top up their superannuation and include the contribution as a tax deduction.
The great thing about this type of tax deduction is that really what you’re doing is giving money to your future self. It’s not like other deductions where you have to hand over money and receive a thing that in all likelihood diminishes in value over time. With a top-up superannuation contribution, its value will grow over time through the wonders of compounding, and you’ll get to spend that money later in life. This is why in the title of this episode I refer to it as the most impactful tax deduction available. A $10,000 super top-up when you’re 30, will add around $85,000 to your ultimate retirement benefit at age 60.
But that’s not all. Your top up super contribution is a bit of a positive double whammy tax wise because not only does it save you some tax now, in all likelihood you will convert your superannuation savings into an income stream upon retirement, and the income that you draw will be tax free – the most compelling element of Australia’s superannuation system.
A few details to be aware of. Firstly, this financial year the maximum total superannuation contributions that can be made that are tax deductible is $25,000. This includes compulsory employer super contributions, and any other superannuation contributions that your employer might make. It also includes any salary sacrificed contributions that you have made. Taxation penalties can apply if you go over the $25,000 cap so before making a top up superannuation contribution make sure you are clear on where you stand within this limit.
The next thing to note is that as with regular employer superannuation contributions, a 15% tax is applied when the money is received by your super fund. And where your income is over $250,000, an additional 15% tax is applied ie. 30% in total. The calculation on when this extra level of contributions tax applies has some complexity to it, so if you’re considering making a top up superannuation contribution and your income is over about $200,000 you should definitely talk to your financial planner before contributing.
Central to the functioning of our superannuation system is the concept of preservation. Preservation means that the money you put into your superannuation account cannot be accessed ,that is it’s preserved, until you are over 60 years of age and retired. This then is the real cost of gaining this tax deduction. You are forgoing the use of your savings for some period of time. You’ve lost access to your money. It is important therefore to not be so blinkered in obtaining a tax deduction that you leave yourself in a fragile position in terms of your ability to withstand short-term emergencies.
Finally, it’s worth mentioning that for those whose superannuation balance is under $500,000 there are some great provisions around making catch up contributions. These involve making use of prior year unutilised contribution cap capacity. This is a strategy that we’ve been using particularly for people with significant capital gains tax liabilities. Certainly something that you may want to explore.
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