Adviser’s enthusiasm for KiwiSaver is way over the top
KiwiSaver is a good deal. But I was astonished by the claims made for the scheme by an experienced financial adviser in a recent industry magazine — and by his lack of clear thinking.
The adviser calls the debate between paying extra off a mortgage and contributing to KiwiSaver a no-brainer. “The mortgage is going to cost you 7 per cent, KiwiSaver benefits, if your employer is paying in and the IRD, is probably something like 150 per cent,” he says.
“No-one really presents to the public in that way. That’s what I would do with everybody, I’d say if you’ve got a $100,000 mortgage and don’t pay anything off it’s cost you 7 per cent, but if you put it into KiwiSaver you get a return of 150 per cent.”
I have two objections this. Firstly, the 150 per cent return won’t last much longer if the government’s proposed changes take effect.
The drop in the maximum tax credit to $521 a year; the taxation of employer contributions; and the increase in employer and employee contributions to 3 per cent of pay will all be happening by April 2013.
Sure, someone earning $20,000 will still receive close to 150 per cent. The tax credit and employer contribution will give them a 133 per cent return on their own contribution in the year it is deposited, and they’ll also receive investment returns typically between minus 5 and plus 10 per cent.
But the first year return dwindles as income rises. For someone on $60,000 it will be about 100 per cent; on $100,000 it will be 84 per cent; and on $200,000 it will be 76 per cent — all plus investment returns. For non-employees it will be 50 per cent plus investment returns.
Those returns are still fantastic. But note the words “first year return”. That’s where my second and more important objection comes in.
The money you contribute to KiwiSaver this 2011–2012 year is boosted hugely by the incentives. But after the first year, that money sits in your account earning just the investment return.
Next year, your contributions will similarly be boosted at the start, but then that money will also earn just the investment return.
As your KiwiSaver account grows, more and more of the balance will be previous years’ contributions, with just a small new contribution being boosted by incentives.
If the return in your fund at least equals your mortgage interest rate, contributing to KiwiSaver will still beat extra mortgage repayments.
But if the average return is lower than the mortgage rate, and you have many years in KiwiSaver, the initial boosts could be watered down to the point that you would have been better off repaying the mortgage.
Nobody can predict mortgage rates and KiwiSaver returns, so it’s hard to weigh this up. Some experts, making reasonable assumptions, say that KiwiSaver will probably beat mortgage repayment for most people. But for young non-employees, who don’t benefit from employer contributions, it’s marginal — and a million miles from a no-brainer.
Still, KiwiSaver has the advantage of diversification. It’s good to invest in shares, bonds and commercial property as well as in your home, to reduce your risk.
In conclusion, people with mortgages should take part in KiwiSaver. But they should contribute only enough to receive the full incentives — 2 per cent rising to 3 per cent of pay if they are an employee, and at least $1043 a year for everyone. Beyond that, put any extra savings into mortgage repayment.
Fortunately, then, the adviser’s message won’t lead people to make a bad decision. But it’s still misleading.
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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.