Written by Ivan Fletcher
As most of you will know, share markets have had a rough 2022 so far. The share markets last peaked around the 3rd of January and dropped to their lowest just before the end of June.
The Australian All Ordinaries Index is down 13.3% for the 6 month reporting period (1/1 to 30/6) and the US S&P 500 index is down 20.6%. The full 12 month period (30/6/21 to 30/6/22) is only marginally better with the Australian index down 11.1% and the US index down 11.9%.
With fixed Interest markets also showing negative returns as the interest rate cycle reverses, most Superannuation Statements for the last 6 months or 12 months ending 30/6/22 will show significant negative returns.
So where is the Silver Lining?
Most circumstances present opportunity. Here are a few ways you can take advantage of a down market, including a strategy on turning a capital loss into a tax deduction.
- Increasing ‘Concessional’ Super Contributions
It’s a perfect time to be putting more into super. If you have not been maximising your Concessional CAP ($27,500 this year) and you have some cash flow surplus you could commence or increase SALARY SACRIFICE, reducing your personal taxes in the process.
Alternatively, if you have some surplus cash savings tucked away over and above your usual buffer requirement, you can add this to super and claim a personal tax deduction with the same end result, lowering your taxable income.
For those with Total Super balances under $500,000 you can also apply ‘Catch Up’ contributions for unused CAPS from the previous 4 years.
- Increasing ‘Non-Concessional’ Super Contributions
If you have maximised your tax effective ‘Concessional’ contributions you can still make personal contributions to super (up to $110,000 p.a. or $330,000 utilising the 3 year bring forward provision).
Whilst the contributions do not provide a tax deduction upfront, the taxes applicable to the earnings and gains over time are limited to 15% on income and 10% on gains (provided assets are held for 12 months). In comparison, the marginal tax rate outside of super is 34.5% once your taxable income is above $45,000 and the highest marginal tax rate is 47% (inclusive of medicare) if your taxable income is above $180,000.
This strategy can be particularly beneficial to those with a significant windfall gain such as an inheritance or the sale of an investment property. For a larger sum it can be daunting to commit a large sum to investment during times of negative news. If this is you, the best way to conquer those doubts is to average into the market – spread your investment amount over 6 months or even 12 months.
- Building Investments Outside of Super
If you are not comfortable committing surplus funds to super due it being tied up until retirement, you could build an investment portfolio allowing you to keep access. You can still average into the market or set up a regular instalment plan. Investments into share markets should be done with a minimum horizon of 7 years. It is logical that long-term returns will be enhanced by cheaper buying prices.
- Converting a Capital Loss into a Tax Deduction
This strategy involves selling personally owned growth assets such as shares or managed funds with nil to low CGT impact (on the back of recent market losses) and use those funds to make deductible personal super contributions and boost your tax refund.
- You have unused capacity in your $27,500 Concessional Contribution CAP.Again, if your Total Super Balance (across all your super and pension accounts) is under $500,000 as at 30/6/22, then you may be able to contribute much more to super by utilising the unused CAP from each of the last 4 financial years.
- You have positive equity (net of debt) in shares or managed funds (or similar liquid assets) sitting in an unrealised Capital loss (or at least minimal Capital gain) position.
1. Concessional Contribution Capacity
Hopefully you are all now aware that you can give yourself a tax deduction by making a personal contribution to your own super. This is well documented in past Hudson Reports.
Provided you are within the qualifying criteria, you can make personal contributions within the regular $27,500 CAP for personal contributions and claim a tax deduction against your Marginal Tax Bracket.
Neil expects to earn $100,000 for the financial year and receive a total of $10,500 in employer (SG) contributions. This means Neil has a further $17,000 available in unused Concessional contributions for the 2022/23 tax year.
Neil can therefore make a personal contribution (from his own bank account) to his super fund and claim a tax deduction in his personal tax return.
In this example, however Neil has 2 children in private schooling and there is no spare cash from the household income to cover a $17,000 contribution to super.
2. Unrealised Capital Loss Position
Neil and his wife Carol have a $50,000 portfolio of managed funds and direct shares (with nil debt). Whilst the overall portfolio has a net unrealised Gain position, some of the investments are in an unrealised Tax Loss position.
$20,000 of investments have an unrealised LOSS of $1,500
$30,000 of investments have an unrealised GAIN of $3,000
$50,000 Total Investments with net Gain of $1,500
If they were to sell $17,000 of select investments from the unrealised Loss part of the portfolio, there would be no CGT to pay and the sale proceeds could be used to fund a personal super contribution.
Warning – If your portfolio is originally funded by debt, then the effectiveness of this strategy may be significantly reduced or not viable. If your loan value is higher than your investments valuation then this strategy is likely unviable. You will need to consult with a tax agent on whether part of your portfolio could qualify for this transaction without compromising the tax-deductible interest on the loan.
Order Of Events For A Successful Strategy
- Assess the unrealised gain /loss position of your existing portfolio. Broker Reports of Managed fund reports may make this task considerably easier where available.
- Hand pick investments that you know will collectively avoid a Capital Gain overall and then sell to cash.
- Consult with your tax agent if you have borrowings involved in your existing portfolio.
You will need to have investments of greater value than your associated borrowings.
- Make a personal contribution to your super before 30 June.
- Lodge a Notice of Intent (to claim a tax deduction) with your Super Fund.
- Provide the Confirmation of your Personal Concessional contribution (which will come from your super fund) to your tax agent to ensure you claim the deduction in your tax return. This is THE MOST IMPORTANT STEP to ensure you gain the tax benefit.
The Tax Benefit
$5,865 Additional Tax Refund ($15,000 x 39% Marginal tax Rate inclusive of Medicare levy).
($2,550) Less Contributions tax Paid by Super Fund ($15,000 x 15%)
$3,515 Net Tax Saving
This is the equivalent of a 19.5% net return on the strategy.
In addition, you will continue to benefit from future investment returns on the funds now in super where a lower tax rate (15% compared to Sean’s personal tax rate of 34.5%) is applied to the investment earnings.
Other Considerations – Alternative use of funds
The funds will not be accessible in super until age 65 for most people, so if the shares are designed to fund a personal goal such as a child’s wedding, car upgrade, renovation or once in a lifetime holiday – then this may be a show stopper for this strategy – or maybe you have enough to do both.