Thursday, 20 August 2015

Deconstructing why and how we pay our taxes

Every year around this time of the year my mind turns to tax as I start to do my own taxes.  I often grumble about taxes but I also realise that taxes are a necessary evil.  Any discussion about taxes and tax policy is filled with self interest and people looking out for themselves.

It is so hard to have a neutral discussion about taxes without people feeling that they are hard done by.  Low income tax earners point to the tax breaks that high income tax earners get and high tax payers point to the proportion of the tax system that they are funding.  Neither is wrong either...the tax system is far from perfect.

So what is the answer?

I recently saw a discussion piece by Vice News on this very topic and although it is very US centric the issues it discusses have a much broader appeal.  I found it incredibly enlightening and the people on the panel were experts in their field, able to leverage off each other for one of the best discussions on a complex topic that I have ever seen.

I cannot recommend this piece highly enough...enjoy!

Thursday, 6 August 2015

I'm a high income earner...and this is why I have NO problem with the Warren Buffett Tax

A few years ago I started writing a whole heap of posts on politics.  It is something I'm really interested in but this wasn't the best venue for it so I swore off it.  My "no politics" rule is still in place but I do talk about tax quite a lot on this blog and I thought today I would focus on why I don't really have any objection to the Warren Buffet rule that politicians are currently considering.

What does the rule say?

Basically the rule says that high income earners should be paying their fair share in taxes.  In the Australian context this has been expressed as anyone earning above $300,000 should have a minimum average tax rate of 35% regardless of any deductions they may have.

Why is it called the Warren Buffet rule?  Well it was proposed by legendary investor Warren Buffet who argued that legally the tax he paid was less than his secretary which seemed crazy and not right to him.  He proposed this rule as a way of plugging a lot of loopholes at once.

This isn't actually as bad as it sounds

In Australia if you were earning $300,000 per annum and had no tax deductions you would be paying tax of approximately $117,000 which is about 39% and you would be in the top marginal tax bracket of 49% (including the medicare levy and the budget repair levy). 

Now it doesn't sound like it would take a lot to get your tax rate down to 35%...but it actually isn't as bad as you think.  For someone earning $300,000 their minimum tax payable would be $105,000.  Under the current tax rates this means they would actually be getting taxed as if they were earning ~$276,000 which still gives you a hefty $24,000 in deductions.

But let's be honest...these measures aren't aimed at people earning $300,000.  Let's look at someone earning $1 million.  If they had no deductions they would be paying $460,000 in tax.  The proposal says that they should pay $350,000.  They are still allowed $224,000 in deductions before they hit the minimum barrier.

Aren't I disadvantaged by a proposal like this?

Honestly the reason I decided to write this piece was not because I think it is the right thing or policy (which I do) but it's because the people that need to speak in favour of proposals like this when it is a good idea are those that are earning high incomes.

Does it disadvantage me?  I pay my fair share in tax and I don't try and overly tax plan what I do.  I don't skate close to the line and I just checked my last year's tax statement and I actually did pay 35% of my income in tax (even though I earn significantly less than $300,000).  If I earn less than $300,000 and am paying 35% in tax....why is someone earning more than me entitled to pay less tax?

I'm not asking this question in a legal sense.  Of course if you can legally avoid tax you should do so!  That's the whole point of tax planning and I don't think tax planning is a bad thing. You shouldn't pay more tax than you have to.

BUT there are always going to be loopholes that people miss and that politicians don't want to fix for one reason or another.  A blanket rule helps insure that people can still pay less tax and minimise their tax but not take the system for a ride.

Why do I like the rule so much?

Why do I like the Warren Buffet rule enough to break my 'no talking about politics' rule?  Simply because it is neat, effective policy which is being slammed by those who have a very clear interest in keeping the system as it is.

Why is it neat?  Well everyone is going to have some legitimate deductions and those legitimate reductions are probably going to increase as your income goes up (for a variety of reasons).  The Warren Buffet rule doesn't get rid of deductions, in fact it doesn't really change the tax code at all.

Feel free to use all the deductions you want but there is a cap.  There is a point at which you should still be contributing to the system and a point at which people who are earning significantly less income than you shouldn't be paying more tax than you.

If the rule is designed well you could have unused deductions carrying forward into future periods.  Maybe a high income earner will never pay more than 35% and maybe that's where structuring takes us but at least they are still contributing to society and the system that we are all a part of.

Have I missed something?

Look I'm not claiming to have analysed this situation perfectly.  Maybe I've missed something.  Maybe there is something behind all the furor.  Can you see something I haven't?  Is there some reason why this isn't a good idea?

One reason I've seen touted is that high income individuals will just move overseas.  I don't buy this argument.  Tax rates are already lower in places like Hong Kong and the Middle East.  If people were going to move for tax reasons they would have already done so,.

But is there something else?  I would love to hear what you think!

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Monday, 3 August 2015

July 2015 Net Worth: $592,000 (+5.6%) and Goal Tracker

My net worth increased by ~$32,000 and although I'd love to say it was because of some incredible investing on my behalf the answer was actually far simpler than that.  I got married during the month and we asked for cash gifts to help fund our honeymoon and people were far more generous than we could have imagined.

There were other incremental positives as well.  The share market bounced back after it's atrocious month last month and I slowly started to pay off my credit card debt.  There were also other swings and roundabouts which I will go into further detail about later.

In this month's round up I also look at the goals we managed to tick off during the month and I start to track the goals that I set at last month's 2015 Annual Review.

Thursday, 30 July 2015

Why did investment loan interest rates just rise?

Recently I wrote about how this was the golden age for mortgages, how the current rate environment couldn't last and how you should think about refinancing your home loan to save you thousands of dollars.  I thought interest rates would increase at some point but I certainly didn't predict it would happen this fast.

If you're an Australian investor you may (or may not) have noticed that the interest rates on your mortgage jumped significantly last week.  That's because most of the major banks (led by ANZ and CBA) increased their investor loan variable interest rates by 0.27%.

Unlike most rate rises and falls this was not driven by a change in the Reserve Bank's cash rate nor was it driven by external costs of funding.  It was caused by the financial regulator (APRA) deciding to slow down the growth in lending to investors which have been driving a bubble in Australia.

Who does the rate change affect?

Monday, 27 July 2015

Why I gave up my Investment Property and moved into it as my own home

A few years ago I asked the question: 'Should move into my investment property?'.  It didn't make the greatest financial sense and in fact it didn't grant me the lifestyle I was looking for as a young, single bachelor.

Fast forward 3 years and all that has changed.  I'm now married and my wife and I we made the decision to move into my investment was the right thing for us to do at this time.

So what changed?

When my wife and I sat down to work out where we wanted to live when we got married we actually decided to keep the investment property as an investment and to move into another rental as we saved for our own place.

This is not what my wife wanted.  Unlike my outlook on life her every decision is not dictated or influenced by financial considerations.  She wanted to live in her own home with a garden.  She didn't mind where it was either.

I was far more picky.  I couldn't be more that 45 minutes from the city, I wanted it to be in a decent area, close to public transport and to amenities. Unfortunately most of the houses which combined decent land size and good areas were well out of our price range...hence the decision to rent.

One concession I did have to make was that we would be in our own home by the time we were looking to have kids.  The property market is so hot in Australia at the moment and buying another property in this kind of environment is definitely not what I was looking to do! 

That being said I made that concession because my wife really doesn't push me all that much in terms of financial issues and this was one thing she was adamant about.

Fate intervened unexpectedly

You may remember that last year I had a mild panic attack when I raised my rent on my tenants and they never responded...had I just lost amazing tenants by being too greedy?  All was well though because on the date the rent increase came into effect they just started transferring the new rent amount.

This year I knew something was up when they didn't sign a new lease even though I offered them the ability to sign a one year lease at exactly the same rent they were on last year.  Sure enough a few weeks before my wedding they gave their notice of intention to vacate and their due date to move out was 4 days after my wedding.

Deciding whether to move in became purely a financial decision

My rental property is great and I've always been glad that I bought a suburban family home however it is not a 10 year house either for my wife or myself.  I'm not the biggest fan of the area and my wife wants more land to garden.

What it is though is a perfect interim place to live.  Somewhere we could live for 3 or 4 years while we save and look for our next place.

So the decision it worth getting another tenant in and us find another place to rent for a shorter period of time or do we give up the rental income and tax deductions and move into our own place?

Pros of moving into the rental

  1. I needed to do quite a bit of work on the property and doing this while tenants are in there is quite difficult
    • Things like repainting and carpeting as well as replacing a fence have all been on the things to do list for years and being there myself will help me get this done

  2. Putting off buying another property for a few years
    • Earlier I mentioned that I was incredibly wary about the current state of the Australian property market.  If we hadn't moved in the pressure to buy a place from my other half would have been intense!  I have managed to push this inevitability back 2 to 3 years
  3. The rent I was receiving on the property was approximately $40 a week less than what we were looking to spend on a rental
    • Normally the interest deductibility of your investment loan would needed to be counted in this valuation however my property was positively geared so I wasn't actually getting any benefit from this.

Cons of moving into the investment property

  1. It was an area that I wasn't too keen on living in.  
    • The area the investment property is in is great if you are raising a family but it is useless if you want things like convenience to the CBD, cafes etc.  However given my wife and I are looking to start a family soon the family aspect of it suddenly becomes far more compelling
  2. It reduced the imperative to save hard for our own home.  
    • I think people save for a variety of reasons.  My wife is brilliant at saving if she has something to save for.  My major concern was thay by living in our own home already thay she would not have the same motivation to save.  If I'm going to honest this is still a concern and I'm testing ways to keep us on track
  3. All the repairs and expenses that are part of home ownership are no longer tax deductible.  
    • This is a very real downside and it bit me in the backside almost as soon as I moved into the house
    • I suddenly had to paint, fix fences and repair burst water pipes all without the benefit of being able to claim the expenses back on tax.  Some of the bigger jobs I will keep receipts for and add it to the capital value of the property (and depreciate it later when it goes back to being a rental) however smaller jobs I will no longer be able to deduct.

After weighing up all these pros and cons we decided to move into the what swayed it for us?

So why did we decide to move into the Investment Property?

Although we came to the same conclusion my wife and I reached the decision to move into the investment property for quite different reasons:
  • I saw it as a financially neutral decision which allowed me to put off buying into a hot property market for a few years.  The risk to this approach is that we take our foot off the wealth building accelerator because we are comfortable.
  • My wife saw it as an ability to get into our own home ahead of children which provided stability.  The risk from her point of view is that we don't actually move after a few years and she doesn't get her garden.

I'm learning that relationship finances is as much about finding common ground even if they are for completely different reasons rather than always compromising what you you both want.

So what do you think about my decision to move into my investment property? Would you have done something different?

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Wednesday, 22 July 2015

June 2015 Annual Report

The last year saw so many changes in my life and as I look at the financial impact of these changes it really struck me once more that you can't look at your financial life without examining your whole life.

Your financial life and position is a direct reflection of the whole life that you choose to lead.  As a very simple example if I had not been preparing for a wedding this year I probably would have had significantly more saved towards my house.  That being said if I wasn't looking at getting married in the short term I probably wouldn't be looking at saving for a house.

This was a transition year for me.  It was a year where things other than finances took centre stage and I didn't mind that...the work I had done over the past 4 or 5 years had put me in a position that a bunch of life changes were not going to significantly impact my life.

For those of you who read my blog regularly you may have noticed that I plan my financial goals with a December year end but I do my annual review on a June year basis.  This is purely a matter of history.  I started this blog in June 2010 and the logical time to do an annual review seemed to be a year after that point.  I have thought about changing that several times however it always provided a useful midpoint review of both my goals and my progress.

Goals: Achievements and progress

Thursday, 16 July 2015

June 2015 Net Worth: $561,000 (-0.9%)

After an incredibly strong performance last month, this month saw my net worth slip by almost 1% driven almost entirely by an incredibly weak Australian share market.  In this post I'm going to highlight what happened to my net worth this month, what drove most of the chances and where I am heading in the future.

In the coming week I will also upload my annual performance review which tends to give far more detail about how my portfolio is structured.  My apologies for the late posting of this month's net worth.  I was on leave from work (and my computer) for a few weeks as I was getting married and moving home...I will also post more about what is happening on the personal front soon.

Before I take a deep dive into my performance this month let's have a look at the headline numbers.