How to invest wisely – inheritance, bonus’, lottery wins

How do I invest inheritance? How do I invest my bonus? How do I invest lottery winnings?

The following information is general information only – all advice depends upon your individual circumstances. For customised financial advice please contact Mike Beal your Sunshine Coast Investment Specialist.

1. Debt Repayment

You’ve probably heard of the ‘magic of compound interest’, whereby interest earns interest on interest.  Here’s a superannuation example: 45-year-old accountant, Johnathon has $100k in his super.  He contributes $10k p.a. for 20 years @ 7% p.a. Johnathon ends up with around $862k.  Pretty good right? 

But Mikey, who is well educated, an independent financial planner on the Sunshine Coast who knows about the ‘magic of compound interest’ starts 5 years earlier – Mikey ends up with $1.22m.  Mikey has an additional $358k and the only difference was saving $10k a year for 5 more years – but wait?  How can this be? 

The extra $50k & 5 years turns into 7 times as much as the $50k invested! This is why it’s called the magic of compound interest.  However, the opposite is also true. 

If you’ve ever had a credit card and feel like a hamster getting nowhere it’s also because of the magic of compound interest – in reverse – but at even higher interest rates! This really is magic for the banks that you have your credit cards or personal loans with.  Therefore, if you have ‘bad’ debt, i.e. debt that is not tax deductible, for example, credit cards, personal loans, vehicle loans etc.– you need to get rid of this as soon as you can.

Also included in ‘bad debt’ would be your home loan – in most cases I would be inclined to pay off the home loan, although in same cases it is good to also diversify into other investments such as superannuation, a small home loan will not hurt too much and in many cases the repayments can be a compulsory savings scheme and can be somewhat taken care of by inflation over the longer term, e.g. a $100k home loan in 1985 might have been considered a very large loan – now of course a $100k home loan is peanuts. 

If your windfall is less than your debts, then consider toppling the debts one by one using the ‘domino effect’.  For example, let’s say you have 2 x credit cards with $5k outstanding on one with an interest rate of 19% p.a. and another with a balance also of $5k but with an interest rate of 14% p.a., and finally 1 x personal loan with $10k outstanding with an interest rate of say, 12% p.a., however, your after-tax bonus is say, $7k, then you should clear the $5k credit card with the higher interest rate first (and then close the account and cut up the credit card), then the next $2k should be paid off the next highest interest rate, the credit card with the 14% p.a. interest rate, and then the personal loan. 

The great thing about paying off the first credit card is that, if the minimum repayments were say, 3% per month, or $150 – you now have another $150/mth to help pay off your next debt, and on it goes, like dominoes. 

2. Have an emergency fund

Typically you’d want at least 3 x months income to give you peace of mind should an unexpected emergency arise.  This can also enable you to reduce other costs, for example, having a 3 month waiting period on your income protection insurance instead of a 2 or 4 week waiting period. 

The 90 day waiting period can be half the cost or less of a 2 or 4 week waiting period.  Invest the funds in a high-interest savings account at another bank – so it’s not visible or transferable via internet banking.

3. Reduce your tax, contribute to super

You can claim a tax deduction for contributing to superannuation.  So not only will you increase your super but you’ll also decrease your tax.  If you earn over $37k p.a. you’re taxed at roughly a third of your income on any money earned in excess of $37k p.a.. If you earn over $87k p.a. you’re taxed at almost 40% (including Medicare).  Contributions to superannuation are taxed at 15%. 

So, if you’re on $47k p.a. and you dump $10k into super, your earnings, for tax purposes you now earn only $37k meaning you’ll get all the tax back that you paid on the income you earned from $37k-$47k ($10k x 1/3 = $3.3k).  Likewise, if you earned $97k p.a. and contributed $10k to super, for tax purposes you have now earned $87k, therefore you’ll receive roughly 40% back on the $10k you contributed to super, almost $4k as a tax refund – great! 

There’s lots of ways you can get money into the super environment.  Remember, super has such a low tax rate, the more you can get into super, the better.  The other great thing about super is that it’s locked away until age 60, thus it’s much harder to fritter away if you don’t have access to it.

4. Invest in shares or property

Your windfall might be enough for you to start a shares/managed funds portfolio or alternatively purchase a rental property – see my blog on property investment as to what may be the better option for you – http://www.mikebealfp.com.au/sunshine-coast-retirement-planning-should-i-invest-in-property-or-shares/

5. Consider investing for your children’s education

With private schooling costing around $20k/year, investing in an investment bond can be a great option – especially if you’re on a higher tax rate as these bonds are tax-paid at 30%, these bonds are long term options as there are tax implications if you withdraw the money within 10 years of establishing the bond.

6. Don’t be a Mug!

Don’t be a mug – self-explanatory right?  I’ve been a financial planner for over 25 years.  I’ve worked at two of the big four banks.  I’ve seen several lottery winners. The most ‘successful’ lottery winner did not inform their friends or even their children regarding the win.  This meant there was no pressure on them – if people know about the win they are more likely to lean on mum and dad for assistance. 

I have also seen one lottery winner win several million and fritter away all of the money – and I mean all of the money. It’s not as hard as you might think!  (they ignored my advice incidentally).  So you need a plan – a roadmap – and that’s where your financial planner comes in.

Call your Sunshine Coast Investment specialist, Mike Beal on 0409 799 279 or send me an email: mike@mikebealfp.com.au