In my first few blog posts I wrote about three of the fundamentals of property investment – accessing your equity, leveraging your equity/savings, and compounding growth over the long term. All of this sounds great, but why would you consider using these principals and why should you invest in property?
The answer is simple – Investing in property can create long term wealth and building a portfolio of properties could help you achieve the ultimate goal of Financial Freedom.
So what is Financial Freedom?
Financial Freedom is achieved when your ‘passive income’ is greater than all of your expenses after tax.
Passive income just means income that you earn from sources where you don’t have to trade all of your time in return for being paid. Your salaried or self-employed job is not passive income, you have to work an hour to get paid for an hour. Passive income is gained from investments or a business where money is paid into your account whether you get out of bed in the morning or you don’t! The greatest thing about passive income is that it has the potential to grow exponentially, it is not limited by the number of hours you work per day.
Unfortunately your salary will only ever grow in line with inflation if you are lucky, or when you get a promotion or pay rise. This is ‘linear income’ and unless you take action to invest for your future, you can expect to keep earning linear income until you can afford to retire. If you are in your 30’s now that could be at least 40 years away. There is nothing wrong with being an employee and working hard all your life but unlike the generations before us, a defined benefit pension doesn’t exist anymore. Financial Freedom is not a golden ticket that you get given on your 65th birthday, you have to become responsible for how and when you achieve it.
With an ageing population in Australia, the proportion of workers to retirees is going to significantly decrease, which is going to place a greater strain on the government to provide an age pension to more people who can’t fund themselves through retirement. Compulsory defined contribution super was established to ensure that workers have money set aside to assist with a self-funded retirement. The current compulsory contribution rate is 9.5% of your gross salary, but analysis has shown that this rate of contribution is not high enough to provide you a sufficient super balance to provide the kind of retirement you deserve. It might not even last as long as you do, especially as life expectancy keeps getting higher.
There is a proposal to keep increasing the contribution rate but that could be too little too late for those workers well into their career. There is a calculator on the below website that can estimate what your pension will be based on your current age, salary and super balance. Try it out because you might get a nasty surprise as to how small your annual pension income is forecast to be when you get to your desired retirement age:
There are 2 ways that we can overcome this looming problem that we face, the first is to voluntarily increase the amount of pay that we contribute into super each year and the second is to establish and grow direct investments outside of super that can provide an additional income stream or passive income later in life. Both are very good strategies and the government actually provides tax relief to people who contribute more to their super each year, but note in the recent budget the annual limit that you can contribute has been reduced.
I believe the main drawback of making additional super contributions early on in your career is that it is a long time until you see the real benefit of this strategy, and in the period between now and the minimum retirement access age the rules and regulations around super could change. Therefore it could be an opportunity cost of locking away money into super now that could otherwise be used to invest outside of super in something that potentially performs better, especially using leverage. The returns of which, could be accessible much sooner than the minimum pension age.
My primary strategy has been to establish and build a portfolio of investment properties which will provide a significantly higher income stream in retirement than what super could, but it also has the potential to provide a passive income great enough to retire from full time work much earlier than a minimum retirement age of 65 or 70! I believe you should still take control of your superannuation strategy and I recommend you seek advice from a licensed financial planner to discuss this in addition to any other wealth creation plans.
Property investment could help you to achieve Financial Freedom much sooner than your current expected retirement age. At that point you can choose what to do with your time, whether that is to continue to work and enjoy the additional income, start your own business or just sit by the pool and drink cocktails. Ultimately the choice is yours, but you must take action and control your own retirement plan because if you think the government is going to provide you with the kind of retirement income you desire, then you are going to receive a huge shock later in life.
In my next post I discuss how building a portfolio of investment properties can achieve the level of passive income you want and how long that might take, you can read that here.