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Should I pay off the mortgage or top up my superannuation?

At a certain point in life, many wonder what’s better: to pay off the home loan ASAP or top up your superannuation?

If your emergency cash buffer looks OK and you have enough to cover you for around three to six months if you lost your job, the super versus mortgage question is a good one to ponder. There’s no one-size-fits-all answer.

On the face of it, there’s a compelling case for building up your super; you can take advantage of the magic of compound interest (and, potentially, some tax breaks as well) – all while interest rates on mortgages are low.

If you’re getting 8% compound interest on super and paying only 3% on your mortgage, building up super might seem a good option.

But financial decisions are about psychology as well as numbers. Much depends on your debt comfort zone.

It’s best to seek professional assistance from a financial counsellor or adviser. But here are some questions to consider along the way.

1. Am I ‘on track’ to have enough super upon retirement?

Use the government’s Moneysmart retirement planners or your super fund’s calculator to check.

If it’s looking sparse – perhaps due to career breaks or part-time work – you might consider salary sacrificing extra into your super (on top of what your employer already puts in there).

An additional A$50 a week, for example – even just for a few years – can help remedy your meagre super projections.

According to Moneysmart:

"The payments, called concessional contributions, are taxed at 15%. For most people, this will be lower than their marginal tax rate. You benefit because you pay less tax while you boost your retirement savings […] The combined total of your employer and salary sacrificed concessional contributions must not be more than $27,500 per financial year."

Try the Industry Super or Moneysmart calculators to see how much extra you’d have at retirement if you salary sacrificed into super for a few years. Consider seeking advice from your super fund on your super investment options and Age Pension entitlements.

You might also consider an after-tax personal super contribution (that is, putting extra money from savings or from your take-home pay into super). The contributions may be tax deductible, but even if not, the returns in super are tax friendly.

2. What about the pension?

Are you expecting a full Age Pension? To find out if you’re likely to qualify for one, use an online calculator or ask your super fund. People with “too much super” don’t get the pension (although most retirees get some part pension). For some, the more you put into super, the less you get in Age Pension payments.

For single homeowners, the total asset threshold for a full Age Pension is $270,500 (including super but excluding your main residence), while the part-Age Pension threshold is $593,000. For couple homeowners, the combined total asset threshold for a part-Age Pension is $891,500 (also including super but excluding the main residence).

If you’re on a median income and your super balance is predicted to land between the lower and upper asset thresholds for the pension, some models predict that for every extra $1,000 put into super at age 40, you would only be around $25 per year better off in terms of retirement income (due to the tapering off in eligible Age Pension income).

For people on low incomes, extra super contributions may not be the answer at all if the result is more financial stress during your working life and immediate housing security risk.

3. If I retired with a mortgage, could I cope?

Many people end up retiring earlier than planned, due to health or other issues.

If you were still paying off your mortgage at retirement, would you feel comfortable about that? Or would it be a source of worry?

Traditionally, most people enter retirement having paid off their home loan but now more are approaching retirement with some mortgage remaining. It might not be the end of the world if you had $100,000 left on the mortgage when you stop working. After all, you can draw out up to $215,000 of your super tax free at retirement to pay off debt. Doing so can also increase your Age Pension entitlement (as your primary residence is exempt from pension assets tests while super is not).

The wealth accumulation in superannuation is going to outpace the interest on a mortgage in most cases for some time, even after you retire. Even so, you might feel it’s worth making the last vestiges of your debt go away in retirement so you can stop worrying about it.

4. Will the choices I make today cost me later – am I OK with that?

Australian property values have skyrocketed and many have borrowed more to pay for renovations. The full “cost” of a renovation may not be apparent at first.

The true cost of a $150,000 renovation over the next 20 years could be more like $700,000. How? Well, if that $150,000 was put into a balanced allocation in super for a couple of decades, it would likely grow to be about $700,000. That’s compound interest for you. You’d hope to get that in capital gains from the renovation.

But it’s never just about the finances. The extra mortgage might be worth it because it paid for a home that brings comfort and joy (as well as the capital gains).

Likewise, paying off your mortgage ASAP might mean forgoing the extra you’d get if you’d put it in super. But for some, wiping out a mortgage will be worth it to be debt-free. Perhaps after the mortgage is gone, you can maximise salary sacrificing into super until retirement, while also reducing your tax bill.

At least do the sums

There’s always more than one solution. To know what’s right for you, you’ll need to get advice for your personal circumstances.

But it’s good to look at where your super is now and where it’s heading, and calculate your debt-to-income ratio (debt divided by income). It’s often used to guage how serious (or not) your debt is. Lenders and regulators might consider a debt-to-income ratio over six times your income to be “high”, but your personal debt comfort zone might be much lower.

Emotions play a bigger part in financial planning than many like to admit. Desire to pay off a mortgage quickly can be influenced by how you were raised, feelings of anxiety and stigma that often come with debt, and Australia’s cultural bias toward debt-free home ownership.

Depending on circumstances though, it may be time to rethink the bias to paying down housing debt over wealth accumulation in super. At least do the sums, so you can make an informed choice.The Conversation

The Conversation

 

Di Johnson is Lecturer in Finance at Griffith University. This article is republished from The Conversation under a Creative Commons license. 

 

10 Comments
AlanB
January 15, 2022

There is no doubt and the choice is easy. Pay off your mortgage as a priority over everything else. You either pay it off now when interest rates are at historical lows, or pay a lot more off later when interest rates inevitably rise, possibly to those now hard to imagine levels of 17%. You certainly don't want to be stuck with a mortgage going into retirement.
I also have doubts about the theory of compound interest for investing as the theory assumes unachievable bank interest rates, no taxes, no fees, no inflation and a consistency of returns that has proven unrealistic. So definitely get rid of the mortgage first as a priority before building up super. I say this as one who experienced my mortgage rising quickly to 17.5%, almost walking away from it, paying it off and now fully invested in dividend producing shares.

Jack
January 15, 2022

Well, AlanB, the choice is easy, is it? So if we had followed your advice a year ago, we would have saved 2% in interest on our mortgage and missed out on 17% in Aussie shares and 27% in US shares. The time to not worry about paying off your mortgage is when it is only costing you 2% as that is the funding cost of putting the money into shares. If rates are 10%, pay it off because that's what you save.

Dudley
January 15, 2022

"saved 2% in interest on our mortgage and missed out on 17% in Aussie shares and 27% in US shares".
Next year:
'Saved 50% capital loss and still own home - with nice tax free capital gain - and saved on rent. Also look likely to receive Age Pension - capital free, tax free and inflation adjusted to boot'.

AlanB
January 15, 2022

Jack: And if you had already paid off your mortgage you would have had even more to invest and to gain from capturing those market returns. The other point made is that one could have also lost funds in a regular market downturn, thus losing the opportunity to reduce the mortgage debt and costing your family additional years of interest payments.

CC
January 13, 2022

not all of us pay only 15% tax on Super contributions............

Di Johnson
January 13, 2022

I should mention that in this article (in an attempt to reduce my original very long piece into a much smaller word count), I should have emphasised that most retirees can take out most (if not all) of their super to pay down debt if they are aged over 60 in one or more lump sums (not that I would suggest that is the best strategy for most people though..) as the reference in this shorter piece to the 2020-21 Low Rate Cap amount for lump sums of $215,000 is the amount before age 60 for some people who have preservation age of 55 that can be withdrawn as lump sum depending on their fund, but of course that has increased to $225,000 now and changes each year. That section was inspired by a health worker whose preservation age was 55 but was not yet 60 who contacted me to ask how much super she could use to pay down her mortgage if she retired before 60... I imagine a lot more health workers are unfortunately currently contemplating such choices...but as I cut down words, I should have taken that low rate cap amount out to avoid confusion. And of course super gives "returns" rather than interest, but hopefully the point there gets across regardless. Like Ian in previous comment, a lot of people choose to do a "bit of both" if lucky enough to max out concessional contributions. Always good to think it through, so many great advisers and calculators available for range of options.

Dave
January 13, 2022

Before retirement people should consider making their mortgage into one with a redraw facility. Then at retirement you have ready access to extra funds when needed. I retired with 0 on mortgage but kept the loan active to ensure access to funds when needed. It is important to know that once you stop work you no longer have the ability to get a new credit card or bridging loans. We draw $70,000 from super each year but banks and card companies refuse new cards or increased credit limits that someone working on same income would get without question.

Ian McRae
January 13, 2022

At 49 I'm maxing out my concessional contributions but also trying to ensure that my mortgage of $250,000 is paid off by 60 (and obviously earlier if possible).
One year I got a 5% pay rise and I put all of it into super and I told my wife I didn't get a raise that year - she was livid for 10 seconds and then life moved on and she hasn't noticed a thing since as we somehow manage to still have a nice life and achieve the dual aims of maxing out super and being debt free!

Daniel
January 18, 2022

Haha this is something I would do. My wife is a terrible saver. She is just not into super, shares or property.
My wife lives in the present not the future. She of course makes up for this in other areas. She is the rock of the family and is the best mother and wife to our kids and myself.

Brendan
February 01, 2022

I wonder if she will be happy or angry when she finds out.

 

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