Why superannuation is no good for early retirees

In Australia our pension system is called superannuation, and it basically involves compulsory contributions from employers and voluntary contributions from employees into your superannuation account. There are stacks of rules for how it works, but you essentially can’t take any of the funds until you reach your preservation age, after which it is supposed to fund your retirement.

Currently preservation ages range from 55 to 60, depending on when you were born, and there is a common view/fear that the preservation age will continue to be pushed up to 67 to match the government age pension age. If this happened, it would mean that most “young” people (e.g born 1970s onwards) would not be able to access their superannuation until they are 67.

A fundamental problem with this system

The fundamental problem with the superannuation system: You can't access it until you're too old to be an early retiree.

The fundamental problem with the superannuation system: You can’t access it until you’re too old to be an early retiree.

The fundamental problem with the superannuation system: You can’t break this piggy bank until you’re way too old to be an early retiree.

If you are reading this post, you are probably quite interested in early retirement, whether that be retirement at 30, 40, 50, or even 55, as all of these are still early by conventional standards. The problem you will face of course is that if you are solely relying on superannuation to fund your retirement then think again as you’ll have to fund plenty of years from another pot of gold before you can even access your superannuation.

In my day job as a Partner at a large accounting firm, this doesn’t seem to be an issue in the minds of most clients, or even most staff for that matter. This is simply because they have bought into the typical consumer view that you just piss all your money away throughout your career and save a pittance along the way so that there is no other possible outcome than to retire in your mid to late 60s, and probably struggle to do even that.

Occasionally in our office though you do come across some people that a. might view this differently or b. even become aware that someone else (other than them) might view this differently and I wanted to share with you the story of two such people in our firm.

1. The insurance lady

Our risk insurance (i.e. life insurance, income protection insurance, etc) team is headed up by a lady (let’s call her IL for Insurance Lady since I can’t be bothered thinking up another acronym) who totally subscribes to the typical view of working until you are in your late 60s. It’s not surprising that she subscribes to this view since many of the products she sells (like insuring your income until you are 65) rely on this view.

Anyway, about 18 months ago I had her review our insurances (at which point I found we were massively over-insured), and I explained my aim of retiring early and how this affected my need for insurances. If you want more detail on my views on insurances see my previous post here. Now I didn’t want to spook her or rock her world too much, so I toned it down and said that I wanted to retire by 50 at the latest (this is actually about 10 years later than I really want to retire so you can probably see why I had to tone it down), and this still blew her mind. I also explained our financial position, which I consider to be very good by average Joe’s standards but still nowhere near what I want it to be, and this totally blew her away.

When I spoke to her that first time I didn’t really go into the how of our situation (I earn quite a bit more than her so I just let her assume that must be it), but she didn’t even ask how this could be done. I think she just assumed that I was a once-off and earned a high income and this is something that couldn’t realistically be replicated which is quite sad.

2. The retiring partner who is hugely successful

I have been fortunate enough to work with the most successful partner that our firm has ever seen, and his net worth must be in the 10s of millions of dollars from his various investment and business successes as well as his accounting career. This guy is a money making machine to say the least.

Even for him though, he never quite grasped the problem with superannuation until it was too late. You see, he put the shares in one of his most successful businesses into his superannuation fund, so that when he sold the business for a mountain of cash he still couldn’t access it until his preservation age of 57. He is now 53 and retiring at the end of the year, and I think he is just piling up some cash to live off for a few years until he can access his superannuation.

I have spoken to him about this issue in the past and why I won’t be making any more than the minimum contributions to superannuation, but I think he assumes I want to retire at 50 (which is still well before my preservation age), but he is still a long way off the real target of 40.

The interesting thing about him though is that he can make all the money in the world, but still can’t comprehend the idea of a genuine early retirement.

So what’s our plan with superannuation?

Because of the problems with our superannuation system, we are planning on contributing only the bare minimum (which is currently just the compulsory 9.5% contributed by your employer). Even with this approach, I have calculated that our superannuation will be worth approximately $400k by the age of 40, even though we won’t be able to touch it at that time. It will continue to accumulate through investment returns and also additional contributions from my wife’s business for as long as she retains it (although this arguably wouldn’t be compulsory so we will have to see), until we can finally touch it at age 67.

At this stage we are actually not even budgeting on using the superannuation money, as our investments should be sufficient to fund our living expenses from my retirement date onwards (plus we will have income from my wife’s business for some time after that anyway). Even so, if we were to all of a sudden become spendaholics and chew through over $1m of retirement savings (and their earnings) from age 40 through to 67, our superannuation would then just be another pot of gold at the end of the rainbow to keep us going.

What should you do about superannuation if you are planning on retiring early?

This really does depend on the actual timing of your plan and what your position is, but instead of sitting on the fence, here is what I would say as general advice for aspiring early retirees in Australia.

The superannuation system can be quite good in that it allows you to divert salary or business income into your super fund and have that income taxed at a rate as low as 15%. While this can be quite attractive, having those funds in superannuation until you’re up to 67 probably won’t suit most retirees because you need funds to live off up until that (relatively old for an early retiree) age. If you retire at 40 like I hope to, then that’s would be 27 years to wait.

So in my opinion, if you were born after the mid 1970s, I would say that there is no point in contributing additional funds to superannuation if you want to retire even remotely early. If however, you were born earlier and can access your superannuation from say 55 or a similar age, and are planning on retiring within say 8 – 10 years of this, contributing heavily to superannuation could play a part in your overall strategy as you could access the funds within a reasonable timeframe.

But what do accountants and financial planners usually say?

Yes, I am a public practice accountant, but I don’t think my advice on the use of superannuation lines up with what most accountants and financial planners would actually say.

This is simply because most accountants and financial planners don’t consider the concept of early retirement as being achievable. Either their clients couldn’t accumulate this sort of cash in this time frame, or if they could accumulate it then they wouldn’t have any understanding of what “enough” is. Such clients would just keep working to accumulate more and more cash until they retire, and allow lifestyle inflation to force them to remain in the workforce.

If however these advisers came across more people that are into early retirement and could keep their lifestyle choices under to control to allow them to save this cash, then they might be a bit more open to the whole concept and admit that superannuation really doesn’t help such people.

The other problem is that whole chunks of our industry are actually geared towards making cash out of the superannuation system, so of course they’re not going to advise against super. Often this income comes from financial planners’ fees, or for self-managed superannuation fund administrators who get paid to attend to compliance obligations of these funds every year. But like many things in life, if you had a different approach, you then wouldn’t need to pay for the “cure” of their advice.

So what do you think about superannuation? Does it form part of your early retirement plan?

IA.

6 thoughts on “Why superannuation is no good for early retirees

  1. I’ve joined the early retirement party rather late in life, currently being 40-ish and planning to retire at 55. Since my super is in a defined benefits scheme it makes sense for me to contribute more than the minimum. But as you do, I see the super money as just being a bonus and I will not be relying on it to fund my retirement years. I think the super payment kicks in at 65 for me. [PA]

    • If I were in your shoes then superannuation would be a big part of my plan too. The defined benefit scheme (why can’t I get one of those?!) and your proximity to your preservation age mean that the superannuation system is far more useful for you than some others.

      Unfortunately I still have 30+ years until I can access my super and who knows what the system will be like then!

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  4. I’m even odder as I have a defined benefits in England a kiwisaver in NZ and a super here in Oz. The people I know fall into two camps old money so they are waiting for someone to die so they can inherit or no money so they will work till retirement age. Whereas I’m in the middle ….. ‘

    • Wow, that sure is an unusual combination of retirement accounts. Surely you can get your Kiwisaver rolled over to your Australian fund somehow though?

      And you may not be able to do anything about your UK defined benefits but at least you will be able to access then when you are old enough rather than forfeiting them. Fortunately when we lived in the UK we were able to transfer our National Insurance contributions into a retail pension fund before transferring them to Australia after five years. They are now in our Australian self-managed super fund.

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