Superannuation could be the best investment you make as a business owner
“Compound interest is the eighth wonder of the world. He who understands it earns it … he who doesn’t … pays it.”
― Albert Einstein
Almost every savvy small business owner has heard about the magic of compound interest. And most understand its power – the way that a small, regular investment picks up speed and size like a proverbial snowball rolling down a hill.
Here is how compound interest works
Let’s say you decide to save $500/month for 25 years and put that money in a shoebox under your bed. At the end of 25 years, you’ll have $150,000 in that shoebox. Not bad!
If you take that same $500/month, however, and put it in an investment where you’ll receive a 5 per cent annual return, you’ll end up with $288,056 after 25 years. Almost double what you contributed, and a much better return than the ‘squirrelling it away in a shoebox’ method!
Now I know what you’re thinking. “This is all well and good, but the average small business owner doesn’t have extra cash on hand to put into an investment for 25 years.”
And I get that.
But there is a place most small business owners should be putting money into each month but currently aren’t. A place that gives them a nice ‘two-for-one’ deal:
- The ability to look after themselves in the future
- The ability to leverage the power of compound interest – the eighth wonder of the world
That place is, of course, super.
The case for investing in your super
Small business owners are notoriously bad at paying themselves super. Some reasons for this include:
- Those who are sole traders or in partnerships are not required by law to make superannuation contributions to themselves.
- When you’re caught up in the day-to-day demands of running a business, looking ahead to the future and retirement is difficult.
- It’s often easier to justify investing any excess funds back into the business or towards paying down debt than it is to put money into superannuation.
This means self-employed people tend to have lower super balances than employees across all ages. The average accounts for self-employed males sit at around $155,000, (while it’s around $386,000 for male wage and salary earners). For women, the difference is $86,000 versus $159,000 (according to the Association of Superannuation Funds of Australia).
While there are certainly situations and seasons where paying super can be a low priority for small business owners, it’s almost always a good idea to give it close consideration. Here are five reasons why.
5 benefits of paying yourself superannuation
1. It’s a good (and rewarding!) financial habit
Good financial habits breed other good financial habits. Making it a priority to pay yourself superannuation – even if it’s a small amount each week or month is a great financial habit to get into. It ensures you are operating on the mindset of setting yourself up for the future instead of only ever focusing on the now.
2. You might be able to get a tax deduction
There are two main types of superannuation contributions:
- Concessional
- Non-concessional
While non-concessional contributions do not offer an immediate tax benefit, you do receive a tax deduction on concessional contributions, capped at $25k per year. However, if you haven’t used your $25k cap in previous years, you have the very useful opportunity to contribute more than the $25k cap and receive an even greater tax deduction. (This is called the carry-forward of unused concessional contributions.)
3. Superannuation often provides an important level of insurance cover
Superannuation is an excellent vehicle within which to tax-effectively obtain and hold personal insurance cover.
As a starting point, life insurance is particularly suitable to be held inside your super. It pays a lump sum to your family if you pass away or become terminally ill.
TPD insurance also often has a place to be held inside super, (though there are some restrictions to be aware of here). TPD insurance pays a lump sum amount if you become totally and permanently disabled.
The other insurance cover that may be held inside super, with some conditions, is income protection insurance, sometimes referred to as salary continuance cover, which can pay up to 75% of your pre-tax income for a set time period if you’re unable to work.
4. You might get a Government top-up ($500) or tax offset ($540)
The Australian Government has a superannuation co-contribution initiative that aims to help boost the retirement savings of low and middle-income earners.
If you have a yearly income of less than $53,564 (before tax), and you meet the eligibility criteria, the Government will match 50 cents for every $1 that you add to your super from your after-tax income up to $500 a year. This might not seem like a large amount but over 15-20 years can have a significant impact on your super balance.
Furthermore, you are entitled to a tax offset of up to $540 if you make a contribution of $3,000 for your spouse if they aren’t working or their assessable income is less than $40,000. Read here for the other eligibility criteria.
5. Superannuation is an invisible but effective way to leverage the power of compound interest
When you contribute to super, you are effectively investing in a mix of assets. This means you get to leverage the power of compound interest – receiving interest on interest. And the best thing is, even a small contribution every week can yield big returns over time. Here’s what an initial superannuation balance of $1000 plus a weekly contribution of $20 per week can look like over time.
The other best thing about superannuation is that it’s an investment that you can’t touch. Since you can’t access it until retirement, you won’t ever find yourself in a position where you’re tempted to plunder it to prop up your business.
Making super contributions does also ensures that even if things don’t work out for your business, you still have something to show for all the hard work you put in.
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