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Home / New Zealand

Money: Diversify with investments - you might like it

Mary Holm
By Mary Holm
Columnist·
23 Mar, 2001 12:01 PM8 mins to read

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by MARY HOLM

Q: We're both aged 41 years, and we have a mortgage-free home valued at $370,000.

Our investments are two rental properties, valued at $430,000, with a mortgage of $316,000.

Our company's super fund is changing soon, and I've now been given the option of cashing in $55,000 tax-free or reinvesting it in the new company fund.

I would like to know your advice on what to do with the $55,000. I don't need it at present (although I would love to buy a Beamer one day).



A: If you two continue to do as well as you have so far, you might have a Beamer and a boat in a decade or two.

Right now, though, you're wise to avoid such money drainers.

So what do you do with your $55,000? In many situations, the smartest move would be to pay off your mortgage. It's easy, risk-free and often financially wise.

But it might not be best for you.

First, you have too much in property and too little elsewhere, which raises your overall risk.

True, if you reduce your mortgage, you'll speed up the day when you are mortgage-free and can then start investing in other assets. But that could still be a long way off.

For the sake of diversification, I would like to see the $55,000 go into shares and, perhaps, fixed interest.

Second, your mortgage is on rental property, not your home, so it's not as desirable to pay it off fast because you can deduct the interest on your tax return.

If the interest rate is 9 per cent and you're in the 33 per cent tax bracket, you end up paying only 6 per cent after tax.

To do better than paying off your mortgage, you need to find an investment with an after-tax return of more than 6 per cent. (If you're in the 19.5 per cent tax bracket, find 80.5 per cent of your mortgage interest rate. If you're in the 39 per cent bracket, find 61 per cent of the rate.) It's not nearly as difficult to find a good alternative investment as it would be on a home mortgage.

With no tax deduction, the after-tax cost of the home mortgage is the full interest rate - 9 per cent in our example. You would have to find an investment with a return of more than 9 per cent after tax.

Nine per cent is a tall order. Six is only medium height. Let's look at how you might invest to earn more than 6 per cent after tax.

Your best bet would be a managed fund - unit trust, investment trust or similar - that invests in many different shares.

Any share investment will fluctuate, and its value will fall from time to time. But at 41, you've got time to recover.

Hang in there, and the chances are good that over 20 years a share fund investment will grow considerably.

If your new company super fund gives you the option of investing largely in shares, that might be the place to put your $55,000.

You're not going to benefit from any employer subsidy of contributions, because your money is just being transferred. But your employer might pay some or all of the fees charged by the fund, which can be a big advantage.

The trouble is, though, that even the riskier funds in many work schemes are fairly conservative, holding only, say, 60 or 70 per cent shares, with the rest fixed interest, cash and perhaps property.

That reduces expected long-term returns - perhaps to the point where you would have done better paying off the mortgage.

At your age, and with the assets you have behind you, you can afford to go with a pure share fund.

If that seems too scary, go ahead and pay $55,000 off your mortgage.

Promise me, though, that once you're mortgage-free you'll venture beyond property.

Q: My husband and I are trying to decide how to save money for our children's education.

Our household income is $60,000 a year. We have two children (1 and 3). Our mortgage is $107,000, and we have no other debt. We have about $8000 invested in New Zealand shares.

The options we are considering include:

* Investment in an international index fund such as WiNZ, TORTIS-International or BNZ, inputting a minimum monthly payment, eg $100 a month.

* Investment in a specific education fund. However, we are unsure of the legalities of these. We are wary of money being able to be withdrawn only for educational purposes, as child A or B may not undertake tertiary study but need financial assistance elsewhere.

* Paying off our mortgage before considering any of the above.

We wish to remain in control of this investment, which is to be given to our children only at our discretion.



A: The simplest way to keep control of the money is to invest it in your names, rather than the children's.

One downside is that you pay higher tax than the kids would, although that probably wouldn't make a lot of difference to a long-term investment in an international index fund.

If the tax issue bothers you, you might benefit from one of the special education funds around, or you could set up your own trust. These plans can also protect the money from creditors, or from you two getting your sticky little fingers on it if you change your minds.

But it sounds as if you want to maintain the right to get sticky fingered. And why shouldn't you?

And there's no denying that while trusts and education funds really suit some people they reduce flexibility and add cost and complexity.

As one wag put it, you might end up putting as much towards your adviser's kids' education as towards Little A's and Little B's.

That leaves you with two good choices: an international index fund or repaying your mortgage.

Unlike the couple in the previous letter, your mortgage is on your own home. So a better investment would have to have an average after-tax return of more than your mortgage interest rate.

Even with mortgage rates falling, that's a tall order.

Could you earn more than your mortgage rate in an international index fund? Easily in 1998 and 1999. But returns on those funds were negative in 2000. Looking ahead, there's no telling.

If you feel like taking a bit of a gamble, you could put just the $100 a month into a fund. Even if returns are disappointing, that won't knock you back too much.

But I suggest you concentrate on having a blitz on your mortgage.

If you could pay $1300 a month, you would get rid of an 8.25 per cent $107,000 mortgage in ten years. If you could manage $1525 a month, it would take only eight years.

In eight years, Little A will be 11 and Little B nine. If you're mortgage-free then, you've still got at least seven and nine more years to save for them.

Unless you're particularly squeamish about risk, that's long enough to put at least the first few years of savings into a world index fund.

As you get closer to the time when each child will need their money, you might switch to term deposits. Short-term investments in shares lose value reasonably often.

One big advantage of getting rid of a mortgage is the security it gives a family. If you're made redundant or your income drops you then have a lot less to worry about.

Q: I am following your comments on annuities very carefully as there is little discussion on these instruments in New Zealand (unlike in the UK, say).

I found your comments in last weekend's Herald on this topic very thought-provoking (they took me off on a tangent to matters such as the use of annuities as an alternative to income protection insurance). In your article you refer to Tower.

Are there any other large companies actively involved in the sale of annuities in New Zealand?



A: Yes there are.

I asked Darryl Colmore Williams, of Aon Consulting, as he often gets quotes from several companies.

His list is: AMP, Fidelity Life, Royal & Sun Alliance, Sovereign, and Tower.

Is there anyone else?

By the way, I can't quite see the relationship between annuities and income protection insurance.

* Mary Holm is a freelance journalist and author of Investing Made Simple. Send questions for her to Money Matters, Business Herald, PO Box 32, Auckland; or e-mail: maryh@journalist.com. Letters should not exceed 200 words. We won't publish your name, but please provide it and a (preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice outside the column.

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