In the world of personal finance where you learn to scrounge up every cent possible, the idea of sacrificing part of your salary might sound a little jarring.
However, through sacrificing part of your salary and putting it into super, you can save money on tax and leave a bigger piece of the pie for your future self.
Carla Donnelly was in her late 20s, single, had only a modest balance in her super account and doubt over her financial future was starting to creep in. She’s now aged 41 with a comfortable $190,000 stashed away in her super and she spoke to the ABC about how she did it.
“I had a very small amount of super. I was just looking down the barrel of my 30s, and absolutely wigging out.
“I was thinking I’ve got this paltry amount of money and I don’t have any wealth that can be passed down to me. I was living on my own and I felt exposed.”
However, after starting salary sacrificing, she turned it all around.
“My balance is so healthy that I can take the foot off [the pedal] and thin about how I want to do my finances differently now.”
How does salary sacrificing work?
Salary sacrificing involves making a special arrangement with your employer to take money out of your salary and put it into super. The benefit comes not only from having extra money in your super, but by transferring a percentage of your pre-tax pay to your super, you lower your taxable income and save money on tax.
You should be able to set it up simply by getting in touch with your employer or payroll manager.
However, if you’re earning less than $45,000 a year then the tax savings are very minimal.
First of all, how much extra can you earn yourself? Let’s say you’re in a similar situation to Carla.
If you’re 35 years old, earning $75,000 a year, have a super balance of $20,000 and currently contributing 10% on top of your salary to super.
If you planned to retire at 65 and continued at this rate, assuming a 6% return p.a, you would retire with $707, 806, with $225,000 of this having come from your deposits and $462, 806 coming from interest.
A fairly tidy sum.
However, let’s say you contributed an additional 5% of your salary to super each year, you’ll now retire a super millionaire.
You’ll have $1,004,274 in total savings, with $337,500 having come from regular deposits and $646,774 having come from interest.
This means that depositing an extra $112,500 over these 30 years ($3750 a year) earns you an extra $183,968 in interest and an extra $296,468 overall.
With compound interest, this difference only grows bigger over time and with more money invested, if you instead contributed 7% extra for 35 years you’d end up with more than $1.5 million in super.
However, before things get too confusing let’s jump to the other side of your savings.
Assuming once again, your salary of $75,000, excluding deductions or other factors, you’d currently be paying $14841.68 in income tax.
If you instead contributed 5% extra ($3750) to super, this would reduce your taxable income to $71250, meaning you’d now be paying a reduced $13622.93 in taxes. This would save you $1218.75 in yearly taxes, which if we still assume you have 30 working years left, equates to a total of $36562.5 saved over the rest of your working life.
This is extra cash that can be spent on saving for a house, investing, vacations, spoiling yourself or whatever you choose.
To test out some calculations yourself you can use this compound interest calculator on the governments Money Smart website. Put your current super balance as the initial deposit, your super contributions and frequency in the regular deposit and frequency and years until retirement in the number of years, then just add your interest rate.
But what does this all mean? Essentially taking out a small portion of your salary and putting it into super will earn you huge amounts down the road and save you a nice chunk on tax as well.
The key to understanding the savings is essentially the concept of having cash now versus making your money work for you. You can get that portion of your salary now, minus the tax, or you can put it into super where it’ll generate you way more money over time.
Plus, as explained, you’ll also be paying less in income tax, which would otherwise be money you’d never see again and instead is put into your super and contributing to your savings.
However, it is of course not possible for everyone to sacrifice part of their pay, and having the cash in hand can allow you to make short term invests, put money into side hustles or spend on yourself for wellbeing and mental health.
Salary sacrifice is definitely not suitable to everyone but it’s worth considering if you don’t need every single cent that’s coming your way right now.
However, remember that every situation is unique and you should always do your own research and consult with professionals before making significant financial decisions like this one.
What else do you need to know?
The ABC also listed four things to remain mindful of
- There is a cap on how much money can be contributed to super per year before your tax break runs out, this limit is $27,500 and includes the mandatory super payments.
- You won’t be able to access your super money unless you meet a release condition. The most common release condition is retirement, but other conditions such as homebuyers schemes or financial hardship may qualify you.
- Not every workplace will cooperate and/or allow you to salary sacrifice.
- If your workplace doesn’t offer a salary sacrifice, you can still manually make a lump sum contribution to claim your tax benefit.