- The pros and cons of self employment and income splitting.
- Comparing shares with property is tricky.
- How movements in the dollar affect investment in international share funds.
QOn the topic of income splitting, raised last week, my question is: Why do people put down and tend to pick on people who are self-employed or running their own businesses?
I often wonder if we are doing the right thing. It would be nice sometimes to work from 9 to 5 and leave work behind at the end of the day. Our office is at home.
Quite frankly there is no end to the day, and we often find ourselves scrounging holidays at the end of the year, realising we haven’t had one.
We do earn way more money doing it this way, and we will enjoy our retirement — if we are still alive.
I’m sure the lawyer who wrote last week is credible, and enjoys working with his secretary. Why should people have different pay rates just because they are related?
The IRD would not look at any company where the Girl Friday (not related) is paid a hefty amount for a few hours work.
The only difference you will find is that she/he will get their money in their hands, whereas a family member’s may go straight back into the business.
There is one more problem I and others may face. As a secretary of a building company, I pay a hefty ACC levy as the bulk of the business being done is building work.
It’s swings and roundabouts, but the tax rates are very high. And I’m not sure that the more you earn the more you pay in tax is fair in itself.
I believe everybody should be taxed exactly the same. If you have found a way to earn good money, why should people be penalised or run down by others who think they are less fortunate?
Just talk to them and you may realise the grass is not all that green on the other side. Smacks of tall poppy.
AOne probable reason that people hold grudges against the self-employed is that they often skite about their tax breaks.
I frequently hear self-employed people saying they deduct all their phone or car expenses, restaurant meals and so on. Invariably, Inland Revenue has never audited them, and they might find it rather embarrassing if they were audited. But that’s not the point here.
People also envy the self-employed for their lack of a boss, the flexibility to work when it suits, and the ability to avoid commuting by working from home.
But, as you point out, there are two sides to the coin. You often work really long hours. And working from home means you never escape the workplace.
You also get no paid holidays, sick leave or employee benefits, and have to be self-motivated. And, while you are making good money, that’s not always the case, especially for those starting out. Self employment is often risky.
In this time of high employment, most people can choose whether to be self-employed or work for others.
It would be great if everyone would make their choice, and then enjoy the advantages of either employment or self-employment without crowing about it.
If they don’t like their choice, they can always switch.
One point you seem to be missing, though, is the tax break that comes from over-paying a family member.
It’s true that the IRD wouldn’t care if an unrelated Girl Friday, or any employee, was paid “a hefty amount”. But if the employee is related, that makes all the difference.
Last week’s letter gives us an example. The lawyer’s brother-in-law says he pays his wife $20,000 to $30,000 for doing little. That money is then taxed at the wife’s low tax rate, rather than her husband’s higher rate, reducing total family tax.
As you say, the wife’s money may go straight back into the business. But that’s the family’s choice. It has still been taxed at too low a rate.
Funnily enough, if you got your way and everyone was taxed at the same rate, this problem wouldn’t exist.
QWhen people compare equities against residential property — as in your column last week — they compare net against gross.
I have not seen where they take into account real estate commission, legal fees, engineers’ reports, rates, maintenance etc.
AThe trouble is that whatever is included or excluded, the comparison can be misleading.
As you point out, buying and selling properties is much more expensive than buying and selling shares or a share fund investment.
And when people calculate the profit they have made on a house, they often overlook the thousands spent over the years on rates, maintenance and insurance.
On the other hand, if they lived in the house they got free accommodation. And if they rented it out they got rental income. In most cases, that would more than offset rates, maintenance and insurance.
To add to the complications, property investments are usually geared with a mortgage, while share investments usually aren’t.
If you gear, and the asset value grows x per cent a year, your investment grows by several times x. But you have to pay interest for the privilege.
When the asset growth rate is higher than the mortgage rate — as has been the case recently — you’re ahead. When it’s lower — and that could well be the case in the near future — you’re worse off than in a non-geared investment.
It’s the old apples and oranges problem. But at least it helps to be aware of the differences.
QA reader, in a letter in your column last Saturday, was very disappointed in their return from a unit trust.
They didn’t mention what type of trust it was. However, if it was an international unit trust then there is a very important factor to take into account when purchasing. That is: what is the state of the NZ dollar when you buy (since you are using NZ dollars to buy international commodities)?
I also did badly with an international unit trust. But I soon realised I bought when the NZ dollar was at record lows (silly me).
The dollar then began a solid steady increase against world currencies, i.e. my trust got 20–30 per cent less for its money, based on currency alone.
It wasn’t the fact the share market went backwards. The market bounced back over two to three years. However, the currency remained strong.
My second error was diversifying into something I didn’t fully understand. I would do it again, but would use regular amounts (I did a lump sum) over a long period, keeping an eye on the currency and market value.
AMovements in the Kiwi dollar can, indeed, affect the value of an international investment as much as movements in the asset value.
But that can help as often as it hurts.
Sure, if share values fall and the currency moves against you at the same time, you lose in a big way. But at other times a decline in shares will be offset by currency movements. And when both move in your favour — as happened in the late 1990s — it’s bonanza time.
Still, as you say, it’s important to understand what can happen.
In some cases, you have the option of investing in a hedged international share fund. Through the use of financial instruments, the fund managers remove the effects of changes in the Kiwi dollar’s value.
This can make a huge difference. As I said last week, one hedged international index fund grew 13.5 per cent a year over the last three years while its unhedged stable mate grew just 3.7 per cent.
However, given the current relatively high level of our dollar, the chances are pretty good that the dollar will fall some time in the next few years. And if it does, the unhedged fund will grow faster than the hedged one.
Over the long term — and a share fund investment should be for the long term — it tends to all come out in the wash. But if you want a smoother ride, you can always invest partly hedged and partly unhedged.
There is, though, a good argument for sticking with unhedged.
When the Kiwi rises — lowering the value of an unhedged investment — you are compensated by lower prices for imports and overseas travel.
And when the Kiwi falls — making imports and overseas travel more expensive — you’re compensated by higher returns on your unhedged investment.
In light of that, you might want to stick with your investment.
By the way, when you say, “Silly me”, you’re being too tough on yourself. Currency movements are notoriously difficult to predict.
True, you could have avoided investing the lot at the worst time by drip feeding regular amounts over a period.
But, if you’ve got a lump sum to invest you can do more harm than good by holding back some of the money, presumably in a bank account, for more than say six months. It might well earn less than in the share fund in the meantime.
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Mary Holm is a freelance journalist, a director of Financial Services Complaints Ltd (FSCL), a seminar presenter and a bestselling author on personal finance. From 2011 to 2019 she was a founding director of the Financial Markets Authority. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to [email protected] or click here. Letters should not exceed 200 words. We won’t publish your name. Please provide a (preferably daytime) phone number. Unfortunately, Mary cannot answer all questions, correspond directly with readers, or give financial advice.