With Bill Shorten’s Labor party proposing a number of changes to the rules that govern the playing field upon which we make our investments, I’ve been thinking about the future of investing for income.
Coincidentally, I was contacted by the Morrison Government MP, Tim Wilson, Chair of the House Standing Committee on Economics, which has launched a formal inquiry into refundable franking credits. “The objective of the inquiry is to give a voice to the hundreds of thousands of Australians who will be directly impacted by any change to policy,” he told me.
“To that end, we have designed a simple website where people can make direct submissions to the inquiry including a standard template, as well as opportunity for people to enter their own information if they choose.”
The website can be found at https://stoptheretirementtax.com.au/
Given the background of many of my subscribers, I thought I’d let you know about the place where you can let politicians know how you will be affected by Bill’s changes with regards to franking credits.
But I don’t want this to be political, preferring to think about how someone will have to invest in retirement without the benefit of franking credits that give rise to tax refunds because the trustee is in the best tax rate of all — the 0% one!
Of course, some of you might be thinking that I have a vested interest in the subject of franking credits and retirees, as many might be investors in my Switzer Dividend Growth Fund. And you’d be right because the potential rebate of tax paid on the investments in companies that pay the 30% company tax rate add to the appeal of our fund for retirees.
For non-retiree investors, the changes won’t affect their relationship with SWTZ or any other fund. Bill’s policy will surely encourage financial planners to encourage their clients to invest outside of super or will do their best to get their clients onto a pension and so they will be able to get tax refunds!
Undoubtedly, these Labor changes will create a lot of work for financial planners and accountants but a lot of retirees might give up on the self-managed super fund and simply put the money into those good-performing industry super funds. Bill and his union colleagues would not be upset by this development, as the growth of SMSFs has taken away a lot of high net worth former members of these funds.
It’s clear if someone has $1 million in super and is averaging a return of 5% (so that’s $50,000) and then up to $21,400 comes via the franking credits tax refund, that DIY super trustee will need an alternative investment plan. By the way, that’s a big loss of income to a retiree who could not be called rich. They look comfortable to me but if Bill gets his way on tax credits and refunds, these people will become decidedly uncomfortable.
So what might an alternative strategy be?
With house prices falling, an investment property might be an option. But Bill’s negative gearing policy means you’d have to buy a new property to get any tax benefits and it will depend on whether a lender will lend to you in this highly-discriminatory financial environment. I’ve come across people with millions in assets but lenders won’t touch them for a loan to buy an investment property because of their age and that they’re not working in the conventional sense.
They might be investing, which, if you’re not a retiree, could easily be called self-employment working but alas, retirees cop a big fat “NO!” when they look for loans.
Currently, until a smart baby boomer lender starts marketing themselves, older Australians will find it hard to borrow to get tax advantages that younger Australians are free to avail themselves of via negative gearing into new properties. Now Bill is stopping negative gearing on existing properties and though existing negatively-geared properties will be grandfathered, if you come to sell an existing property, you’ll probably have less buyers because investors won’t be able to negatively gear the property.
Retirees who’d like to go long property inside an SMSF will find it hard because many of the banks have got out of providing loans for this play. I suspect non-bank lenders will fill the void but the interest rates will be high because they have less competition.
Some retirees will buy an investment property and purely pick up the rent so their kids will have to deal with the lower future sale proceeds and the higher capital gains tax, as Bill is reducing the capital gains discount from 50% to 25%.
One option some retirees will take will be to chase stocks that are capital gainers. This would be a good idea in positive years for stock markets but if a crash comes, their capital could be crushed by 50%, as in the GFC, and their future dividend return would really shrink because these stocks aren’t good yield plays.
A part of the reason why I created SWTZ was to have a vehicle that would continue to pay good dividends even in bad times. That means a retiree, or any risk-averse investor, would receive income while he or she waits for the market to rebound, as it always does.
I have often said that a smart investment strategy is to invest in dividend-paying stocks. When they over-perform in the good years, a wise investor would siphon off the extra returns and bank them for bad times, when their capital falls or when the annual dividend isn’t quite as good, say, because there’s a recession.
As an alternative, investors might look at floating bond funds to raise the returns from income. The Switzer High Yield bond fund aims to do that. There are others out there that have the same goal.
There are even foreign-based funds that invest in dividend stocks in some of the best companies of the world, while others, such as the Neuberger Berman’s High Yield Bond LIC, look for solid yields from companies based outside Australia. Some investors will also look at annuities but the returns on these have worried many retirees, though the guarantee of money over a long period of time makes appeal.
My point is that if Bill has his way, then those who want reliable income at the expense of big capital gain will have to become more diversified, and maybe even less risk averse, or they might have to get used to living on less income each year!
I tried to look at a retiree going out of pension mode back into accumulation mode with their super nest egg but my colleague Paul Rickard with his superior numeracy picked holes in my outside the tax and Bill Shorten square ideas. The bottom line is you might have to live with less if you want to play safe but if you are prepared to invest more aggressively you could offset any losses from Labor taking away your tax refunds.
However, a stock market crash, which could be on the cards over the next few years could play havoc with your capital and annual income.
Bill’s changes will force us to think outside the square. As I’ve said, the coming of Bill should be good for financial advisers so Shorten might be doing one part of my business a big favour! That said, I’d prefer the Senate tell him that he should permit retirees to have a tax refund up to an acceptable amount.
One last thought. Our Switzer Income Conference on 27 November in Melbourne and November 29 in Sydney will be an opportunity for us to share our thoughts on what income products and strategies should be considered if Bill takes over. Come along and join us at either the Melbourne or Sydney event.
To receive your tickets, click here, choose the event you’d like to attend and enter the promotional code ‘SSR’.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regard to your circumstances.
