Although certain elements have been delayed, the introduction of commission bans (FOFA) and low cost super (My Super) are beneficial improvements. Notwithstanding the extra compliance and paperwork, the ban on commission should reduce the linkage between advice and product, Fee Disclosure Statements creates transparency and the Best Interests Duty increases professionalism and improves trust.
Superficially, MySuper seems logical, since:
- most people are not interested in their super, so give them something cheap and reasonably diversified
- it increases the super guarantee to 12% and makes sure it can’t be touched until retirement
- by this time, many will have accumulated sufficient super and will not need an age pension.
All this sounds fine except that history tells us that human beings still find ways to make bad decisions about their finances. I believe that FOFA and My Super attack the symptoms and not the causes. One cause is fraudulent behaviour by licensees and advisers. Another is bad product design. But in my opinion, the biggest is the Australian public’s widespread lack of knowledge about even the most basic principles of financial planning and investment.
It starts in schools. My eldest daughter is in Year 10, 16-years-old, and attends a school that is caring and takes education seriously. Although there is a Commerce option in Year 10, this doesn’t cover financial literacy. Then when I look at the Maths syllabus I find that her exam allocates 75% of the marks to algebra, equations, geometry and things like finding the area of a trapezium.
It doesn’t get much better in Year 11 and 12. There were only two HSC subjects that have any kind of relationship with money – economics and business studies. However, neither of these subjects include fundamental concepts of personal financial planning such as saving and investing, risk versus return, cash flow, managing debt, understanding tax, home ownership versus renting, death and disability insurance, making a will.
Not only is the education system failing our children by not preparing them for the ‘real world’, the knowledge and understanding of these key financial planning concepts is not learned later on. Surf lifesavers will tell you that they watch adult swimmers just as much as children. Adults are reluctant to admit they are struggling and do not call for help early enough. They are embarrassed. It’s the same with financial affairs. Many adults repress their lack of financial knowledge for fear of looking foolish. Consequently, they are prone to make unwise investments and fall prey to people who are good with words.
Until a generation ago, it could be argued that financial planning didn’t matter much. The average Australian left school, got married, had children, saved up, bought a house, worked till retirement, collected the age pension for a few years then passed away.
In the last 30 years many things have changed, but three in particular stand out:
- we can now expect to live until we are well into our 80s and 90s, so we will experience decades without a wage to fund our lifestyle
- although wages have risen faster than inflation, and both members of a couple usually work, the average household does not save much money
- when compared with their income, the average household debt has quadrupled.
Most actuaries agree that the increase in longevity means that a couple retiring today needs to have at least $1 million to be sure that their money doesn’t run out before they do. Not many retirees have $1 million but they tend to have lower spending habits than current generations, and they have the age pension.
Baby boomers will probably manage to fund their lifestyle in retirement because they have made a lot of money from property and can potentially downsize. They also have the advantage of tax free super. Generation X, now in their 40s, may not have either of these luxuries.
The other two bullet points above relate mostly to Generation X. Even after adjusting for inflation, Australian households are generating substantially more money than they were 30 years ago, but it is not saved for a rainy day for the years when they won’t be working. The money has been spent on a combination of material possessions and property.
When I run financial literacy seminars, the only subjects that spark any interest are property, property and more property. It is undeniable that property has been an incredible investment over the past 30 years. According to a study by Peter Abelson and Demi Chung (‘Housing prices in Australia 1970 to 2003’), the median price of a Sydney house was $81,425 in 1983. According to Propertydata.com.au, it is now $542,250. A 644% rise.
Can property repeat its stellar performance over the next 30 years? Obviously, Australians think so, because they are borrowing to the hilt to get into the market. The level of debt being carried by Generation X is incredibly high by any stretch of the imagination. In 1983, according to Morgan Stanley, a household’s debt was equivalent to 40% of their income. By 1996 it was 60%. In 2012 it was around 180%.
Getting the facts about certain aspects of property investing isn’t easy, but here is what I am experiencing:
- Australians are incorporating property into their super funds, and taking on even more debt without thinking through the potential issues
- young adults in their 20s and 30s are buying property with their parents acting as guarantors for the loan. The security for the loan is usually the parent’s home. The thinking is that the children can pay off the debt quickly while interest rates are low. If just one variable changes (interest rates, illness, pregnancy, unemployment), both generations will lose their homes and their financial future will be in ruins.
The last 20 years have been very prosperous for Australians. A whole generation has never experienced a recession or unemployment or 12% interest rates. Just one of these events will create havoc. Also, people do not realise how hard it is to create sufficient money to live on for 30 years without a salary. Maybe they can work until they’re in their 70s but many of my clients who are in their late 50s and early 60s can’t find jobs that pay enough money.
Australians should be creating a comprehensive financial plan to live within their means, save for things they want to buy and put money aside for their retirement. Instead they are spending everything they earn, taking on an ever-increasing debt and have a one dimensional view that property investing is the answer to all their problems. FOFA and MySuper provide a good basis for protecting Australians, but it’s not enough. Unless we incorporate financial planning into our education system for adults and children alike, I am worried that things will turn out badly.
Rick Cosier is a financial adviser with an independent financial planning business, Healthy Finances.