saving for your first home
Out of sight, out of mind
Maintaining a commitment to putting money aside can be a real chore, and may be the biggest stumbling block in money management.
Say, for instance, there is a one-day sale on an item you’ve been eyeing up for months. It’s still slightly over your budget, but you dip in to the savings to buy it anyway. It’s easy to justify…. “Just a little bit over”, you tell yourself, or “If I hadn’t have bought it then, I’d regret it for weeks”. We all know that seeing spare cash tempts us to spend, and a few months down the track it can be easy to forget that you started saving at all. Sounds like it could be your story? Then why not split your earnings into separate bank accounts? It may sound simple, but try it and see just how effective it is.
Say you take home $800 a week from your job. Instead of directing all $800 into one bank account, you could request from your employer that $300 of that is put into a different bank account with a different bank (yes, no fee accounts really do exist!). This means now that when you log in online or check your statement it will only show the $500 a week you’ve allocated to spend.
Soon enough you will forget about the other $300 and naturally adapt your spending and saving habits to stay within your budget. By saving $300 a week for a year, you’d have accumulated $15,600 without even realising it! Out of sight, out of mind…. Talk about easy saving!
Taking one step at a time
We all have that ultimate goal, let us say it’s saving $80,000 for a deposit. That’s a lot of money! Most of us instinctively feel it’s impossible to obtain and therefore not worth the effort. There’s a simple solution, start small! If you break your target down into several smaller goals, you see yourself actively achieving, and distant objectives suddenly seem accomplishable. Goals also need to be well defined, so that we know how to approach them. Whenever you set yourself a goal, answer these three questions:
‘what?’, ‘how?’ and ‘when?
- What amount are you aiming to save? (Don’t forget to make it accomplishable)
- How realistic is the goal?
- When will it be it achieved?
Let us use my trusty friend ‘George’ in a scenario. George is earning $50,000 a year after tax and wishes to buy a house in three years’ time.
- Ultimate goal: Save $80,000 for a deposit over a three year period.
- Smaller goal: Save $2,223 a month for 36 months.
Saving $2,223 on his $4,167 a month salary doesn’t seem as impossible or distant as the ultimate goal. To keep himself motivated, George could even draw up a table of monthly savings to document his progress. With smaller, more realistic and well defined goals, it’s easier to see the results and it won’t be long before George’s seemingly impossible ultimate goal has been reached.
Keeping your dreams alive
In order to keep you on track, you need to keep your desires intact. Make time to look at properties you like. Browse websites and go to open houses. Imagine how fantastic it would be to own a small part of Australia.
Don’t limit yourself to looking at properties in the range of the deposit you are saving for. Look at the multimillion dollar houses and remind yourself that the first step to owning one of those masterpieces is to get your foot onto the property ladder. Letting your dreams out into the wild on a regular basis will not only reduce your saving frustrations, but will also motivate you to stick to your goals.
Investing the money you save
So you have your goals sorted, and are eager to start saving, but you don’t know how to invest your money to make it grow for you in the most effective way. The ideal solution will vary according to your needs, but let’s take a look at some investment options, along with their positive and negative aspects.
First Home Saver Account
The First Home Saver Account (FHSA) is a government-run scheme specifically designed to help people buy their first property. The government co-contributes 17% of what you put into the account, currently up to $5,500 a year. This means that prudent investors can accrue a maximum government contribution of $935 a year. The account is also a high yield savings account. That’s right – your banking institution adds a high interest contribution on top of that!
Positives
- Gives the investor a return on the first $5,500 of around 22% (17% from the government, plus the variable bank account interest rate) with minimal risk involved
- All interest earned on the savings is taxed at a flat rate of 15%
- Deposits and withdrawals are tax and fee free
- There are usually no account keeping fees
- Not considered in social security assets testing
Negatives
- Money in that account can only go towards your first home, mortgage or superannuation
- You must deposit at least $1,000 in four separate financial years before you can withdraw your money
- You are eligible to have this account only if you have never lived in an Australian property that you have owned, and you are between the ages of 18 and 65
- You must live in the property you purchase for at least six months
Term deposits
A term deposit is a means of locking in a set amount of money to have it accumulate interest on a pre-set interest rate, which is paid on maturity. The longer you agree to lock your money in, the higher the pre-set interest rate will generally be.
Positives
- Minimal risk; you know exactly the return you will receive from the investment
- Typically a higher interest rate than if the money is held in a high yield savings account
- The interest rate is pre-set, meaning that if the variable interest rates decrease, the term deposit rate will remain the same (however if the variable interest rates were to increase, this can also act as a negative)
Negatives
- If money is withdrawn from the deposit before the term is up, your interest may be jeopardised
- Despite common belief, the yield can be quite minimal when compared to other investments
Shares/Dividends
When purchasing a share you purchase a portion of that company. Essentially, the share price tends to rise and fall according to that company’s performance. Some companies also choose to pay dividends – a portion of the profit allocated to its shareholders – though this is not always the case.
Positives
- Shares have the chance of delivering extremely high returns
- Shares are quite liquid, usually you can sell shares and collect the money in a matter of days
- Dividends can be partially or completely franked, meaning they can be tax effective sources of income
Negatives
- Shares are high risk investments, you can suffer great losses
- Additional costs (such as merchant fees) can be incurred
- There is no way to accurately predict the returns on shares
High yield/online savings accounts
These generally allow for money to accumulate higher interest rates than transactions accounts.
Positives
- Cash is completely liquid, you have complete access to your funds
- Minimal risk of losing money
- Usually no account keeping fees
Negatives
- Returns can be minimal when compared to other possible investments
Put into practice
As you can see there are many different investment options for your savings, but if you are still feeling overwhelmed, don’t worry, George is back with some real statistics from the past financial year, to give us a sneak peek at some returns.
Say George has collected $20,000 after saving for a year, and wishes to know how to invest that money for the next financial year. Here are some of the results he would have seen if he had placed the entire $20,000 into each option, without investing into multiple sources.
Scenario One: George Invests $20,000 into an online savings account
The interest rate at the bank in which the money was invested was 5.6% pa, compounded daily and paid monthly. If George invested the money on the 30 June, 2010, (interest rates remained the same over the year) the investment would be worth $21,149 at July 2011, giving him an increase of $1,149 and a true return of around 5.75%.
Scenario Two: $20,000 is put into a term deposit
The interest rate was 6.4% pa for a year term deposit. By July 2011 the investment would be worth $21,280 – an increase of $1,280, and a return of 6.4%.
Scenario Three: $20,000 in a First Home Saver Account
The interest rate was 5.5% pa on the account and didn’t change during the year. By July 2011 the investment would be worth $22,063 and provide a return of 10.32%. The higher return is due to government co-contribution.
Scenario Four: $19,934 in shares, paying $66 in merchant fees
The money invested evenly between the six blue-chip companies mentioned above would be worth $23,409, having increased by $3,409 – providing a return of 17.04%. The increase also includes dividends accrued, being $894.
Now before you run off to invest your money in shares, the risks of the investments must be considered. The returns on shares are extremely unpredictable and can be very profitable, but can also incur great losses. If you are a high risk taker and willing to ‘gamble’ it all, then investing in shares may be the way to go, but everyone’s life situations and preferences differ.
Don’t keep your eggs in one basket
To minimize risk, or accrue greater returns, you might consider “diversifying your portfolio”, or investing in multiple sources. Let us add a few more scenarios, this time investing in two assets.
Scenario Five: George wants to get as much money as possible and is willing to risk it all
He has been recommended to invest $5,500 into the First Home Saver Account, and the remaining $14,500 into shares. The results of this are compared to an investment in shares or the FHSA alone.
George has made $3,715 from his investment options, which is $306 more than if he only invested in shares. Since he also invested in the First Home Saver Account, his total investment risk has dropped, since the gains from the First Home Saver Account can buffer any losses from the shares.
How is this possible?
Every dollar after $5,500 invested in the First Home Saver Account no longer receives any government co-contribution, dropping from the initial 22.5% pa (every dollar up to $5,500 gets that) to the account-only interest of 5.5% pa. George invested the most he could to get the higher rate, then the remainder in shares, giving him an overall return of 18.57%!
Scenario Six: George has two children so he only wants to invest in cash investments
He needs to have instant access to the majority of his investment in case unforeseen expenses occur. The only account fitting George’s minimal risk and high liquidity needs would be the online savings account. If he took advantage of the First Home Saver Account, and combined it with the savings account, he would have achieved a $2,078 return.
Not only does George get a higher return than if he invested solely in the First Home Saver Account, he also has complete access to $15,333 for emergency expenses due to the high liquidity of the savings account.
Make Sure You’re Getting The Best Possible Returns
As we have seen, investing in multiple sources can increase your returns and lower the risk on the total investment. Keep this in mind when investing!
So play around, spread your investments, and make sure you get the best return possible to suit your situation. There are many more investment opportunities, and places to invest your money. However the same principles still apply.
Remember, the greater the returns you get on your investment, the less time or money you will spend reaching your ultimate goal. Stay motivated, invest wisely and sooner than you realise, you will have your foot in the door and be climbing the stairs of the property ladder. Have fun!
