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19-12-2010, 10:51 PM
Courtest of d.o.g.
11-15-2009, 09:40 PM
SRS Scheme - Savings scheme that few know of
The fundamental flaw of SRS is the contribution cap of $11,475 per year for locals. What this means is that there is a limit to the actual benefit you can obtain from SRS.
Run the numbers and it becomes clear that even at the maximum practical contribution ($11,475 annually for 20 years) the benefits are minimal.
Cash: $11,475
Tax: 20%
Net: $9,180
Period: 20 yrs
Total: $183,600
SRS: $11,475
Net: $11,475
Period: 20 yrs
Total: $229,500
Now we need to assume a rate of return. Let's be hopelessly optimistic and assume 9% p.a. for both, which would mean the person in question is a competent investor, able to beat the market over 20 years. After 20 years we get:
Cash: $469,650
SRS: $587,062
So SRS comes out ahead. We have 10 years of withdrawals so annual withdrawal:
Cash: $46,965
SRS: $58,706
SRS is taxable after a 50% discount, so the taxable amount is:
SRS taxable amount: $29,353
First $20,000 not taxed
Taxed on: $9,353
Tax Rate: 3.5%
Tax Paid: $327
Net: $58,379
Even after paying taxes, SRS is ahead by $11,400 per year. So far, SRS looks good. But consider this:
If you earn enough to be in the 20% tax bracket from age 42 to 62, your annual income has to exceed $320,000 for 20 years i.e. you would earn a minimum of $6.4m. With this kind of income, in retirement, is $11,400 per year (the net difference between cash and SRS) going to make a real difference? If it does, you have severe problems with money management, and SRS is not going to save you.
The maximum difference assuming both high income and capable investment is $117,412, which amounts to less than 2% of total income earned over 20 years. In other words, if you save 2% more of your income you can get all the SRS difference without the hassle of a lockup period.
If we are more realistic and assume lower rates of return e.g. 5% the difference is vastly smaller, and trivial to make up via a slightly higher savings rate. And we are also making the false assumption that cash and SRS returns are the same, when in fact they are not e.g. cash can be used to buy property, SRS cannot. So it would be realistic to assume a small advantage for cash returns, perhaps 1% per year. If the difference is 2% per year, then over 20 years, cash matches SRS.
So we have established that SRS is basically useless if your taxes are high, because it also means your income is high enough that how you save makes more difference than whether you use SRS. And if you are a savvy investor, your cash will earn much more than your SRS money.
How about the low income people? Well, if you are earning less than $40,000 a year, $11,475 is over 25% of your income. This is an insane way to save for retirement since (a) the tax savings are much less and (b) you pay a penalty if there is an emergency that needs the money.
What about the middle-upper income? Let's say you earn $80,000 per year. $11,475 is still about 15% of your income, not a small amount. Yet the tax rate is only 14% so the savings are less. At a 9% return the numbers work out to $7,900 per year in favour of SRS, again, not a meaningful difference. With more realistic rates of return, the SRS advantage erodes further.
The ONE case where SRS could have some use is when you are both (a) high income and (b) near age 62. In this case SRS could serve as "free money" because the tax savings, while small, are real, and near age 62 the opportunity cost of locked-up money is lower.
Suppose you are 57, and earning $320,000 a year. With SRS you could put aside $11,475 per year, total $57,375, against $49,343 for cash. This gives total savings of $8,000 - but you have to wait 5 years to get it. But of course, while $8,000 is real money, if you earn $320,000 a year then $8,000 is basically 1.5 weeks' work. So that brings us back to the same conclusion - SRS is a waste of time.
11-15-2009, 09:40 PM
SRS Scheme - Savings scheme that few know of
The fundamental flaw of SRS is the contribution cap of $11,475 per year for locals. What this means is that there is a limit to the actual benefit you can obtain from SRS.
Run the numbers and it becomes clear that even at the maximum practical contribution ($11,475 annually for 20 years) the benefits are minimal.
Cash: $11,475
Tax: 20%
Net: $9,180
Period: 20 yrs
Total: $183,600
SRS: $11,475
Net: $11,475
Period: 20 yrs
Total: $229,500
Now we need to assume a rate of return. Let's be hopelessly optimistic and assume 9% p.a. for both, which would mean the person in question is a competent investor, able to beat the market over 20 years. After 20 years we get:
Cash: $469,650
SRS: $587,062
So SRS comes out ahead. We have 10 years of withdrawals so annual withdrawal:
Cash: $46,965
SRS: $58,706
SRS is taxable after a 50% discount, so the taxable amount is:
SRS taxable amount: $29,353
First $20,000 not taxed
Taxed on: $9,353
Tax Rate: 3.5%
Tax Paid: $327
Net: $58,379
Even after paying taxes, SRS is ahead by $11,400 per year. So far, SRS looks good. But consider this:
If you earn enough to be in the 20% tax bracket from age 42 to 62, your annual income has to exceed $320,000 for 20 years i.e. you would earn a minimum of $6.4m. With this kind of income, in retirement, is $11,400 per year (the net difference between cash and SRS) going to make a real difference? If it does, you have severe problems with money management, and SRS is not going to save you.
The maximum difference assuming both high income and capable investment is $117,412, which amounts to less than 2% of total income earned over 20 years. In other words, if you save 2% more of your income you can get all the SRS difference without the hassle of a lockup period.
If we are more realistic and assume lower rates of return e.g. 5% the difference is vastly smaller, and trivial to make up via a slightly higher savings rate. And we are also making the false assumption that cash and SRS returns are the same, when in fact they are not e.g. cash can be used to buy property, SRS cannot. So it would be realistic to assume a small advantage for cash returns, perhaps 1% per year. If the difference is 2% per year, then over 20 years, cash matches SRS.
So we have established that SRS is basically useless if your taxes are high, because it also means your income is high enough that how you save makes more difference than whether you use SRS. And if you are a savvy investor, your cash will earn much more than your SRS money.
How about the low income people? Well, if you are earning less than $40,000 a year, $11,475 is over 25% of your income. This is an insane way to save for retirement since (a) the tax savings are much less and (b) you pay a penalty if there is an emergency that needs the money.
What about the middle-upper income? Let's say you earn $80,000 per year. $11,475 is still about 15% of your income, not a small amount. Yet the tax rate is only 14% so the savings are less. At a 9% return the numbers work out to $7,900 per year in favour of SRS, again, not a meaningful difference. With more realistic rates of return, the SRS advantage erodes further.
The ONE case where SRS could have some use is when you are both (a) high income and (b) near age 62. In this case SRS could serve as "free money" because the tax savings, while small, are real, and near age 62 the opportunity cost of locked-up money is lower.
Suppose you are 57, and earning $320,000 a year. With SRS you could put aside $11,475 per year, total $57,375, against $49,343 for cash. This gives total savings of $8,000 - but you have to wait 5 years to get it. But of course, while $8,000 is real money, if you earn $320,000 a year then $8,000 is basically 1.5 weeks' work. So that brings us back to the same conclusion - SRS is a waste of time.