Recently I was giving a talk to a group of miners in the hope of putting them on the road to financial independence. Most of them earn about $130,000 a year by working 12-hour shifts five days a week, but too many waste their money on high-powered cars, four-wheel-drives and boats. As a result they have nothing to show for five years of hard slog, except a string of personal loans.
It is a great pity because working at a mine offers the greatest saving environment possible. The shifts are long and full board is provided – there is really nothing on site to spend your money on.
![Many miners earn high incomes but spend it all on things like nice cars.](/web/20161127110125im_/http://www.theage.com.au/content/dam/images/g/s/r/g/c/f/image.related.articleLeadwide.620x349.gswglc.png/1479964885677.jpg)
I started by explaining that Aussies are great at paying their bills but hopeless at saving voluntarily. This is why they go through the process of getting paid, making their loan repayments, and then spending what's left over. Of course they mean to start the savings program next week – it just never happens.
I also pointed out the fundamental difference between financial winners and financial losers. The winners borrow at low rates of interest, subsidised by the Tax Office, to buy growth assets such as property and shares that increase in value over time. The losers borrow at high rates of interest, non tax-deductible, for consumer items such as cars that depreciate in value.
Fortunately, my words struck a chord with the audience, but of course the big question was how to save tax? I told them they should first give thanks to the Howard Government for reforming the tax system to bring in a GST and at the same time reducing the personal rates. In 2000, when the change happened, the top personal income tax rate was 47 per cent and it cut in when income reached just $50,000 a year. Now, thanks to a succession of tax reforms, the top tax rate is 45 per cent and it doesn't apply until earnings reach $180,000 a year. This meant the miners were in the 37 per cent bracket and only paid $36,000 tax on their income – an average rate of just 27.7 per cent.
Of course they asked about the massive tax savings they had heard that could be obtained by the "magic" of negative gearing, but their enthusiasm waned when I explained that negative gearing saves little tax when the income from the investment is factored in.
Suppose they bought a property for $400,000 yielding 4 per cent after all expenses, and borrowed the entire purchase price at 5 per cent. The interest would be $20,000 and the income would be $16,000 so the shortfall would be $4000. For someone in the 37 per cent bracket the tax savings would be just $1480. Who in their right mind would go into debt for $400,000 just to save $1480 a year in tax?
Anybody thinking about borrowing for investment should understand that gearing magnifies the outcome. You will do very well if the asset goes up but will take a bath if it goes down.
The tax saving strategy that excited them most was franking credits. Thanks to the imputation system, investors in Australian shares get a credit for the tax paid by the company.
Suppose they invested $20,000 in a share based investment that returned 4.5 per cent a year franked dividend. They would receive a dividend of $900 that would be accompanied by a franking credit of $386. Thanks to the franking system, the tax on that $900 dividend would be just $90 or 10 per cent of the sum received.
In contrast if they received bank interest of $900 they would lose $333 in tax (37 per cent).
I summed it up by explaining that anybody can become wealthy if they start young enough and make investing their first priority. Hopefully my words have kept them off the downward spiral of "investing" in high powered cars and boats.
Noel Whittaker is the author of Making Money Made Simple and numerous other books on personal finance. His advice is general in nature and readers should seek their own professional advice before making any financial decisions. Email: noel@noelwhittaker.com.au