I'm seeking advice for my husband and me. We'll retire on NZ Super in five years' time.
We are mortgage-free and will have savings and KiwiSaver of $450,000 to $550,000 when we retire. We plan on staying in Auckland and would only consider leaving if we need to get some capital out of our home, which is valued at $850,000.
Recently we received an inheritance of $150,000 and are wondering how we should best invest this. However, we are both extremely risk averse, after family lost all their savings in the 1987 share crash, sending retirees back to fulltime work at a time when they should have been enjoying their nest egg. This means shares are ruled out of any investment.
On reading your column I know we will lose money if we simply put it on a term deposit with the bank. Plus we do not want the hassles of buying an investment property and getting a mortgage. What else could we do? We could have this money tied up for around 15 years i.e. get access to it when we are around 75.
The 87 crash has got a lot to answer for. Nearly 30 years later, I still keep hearing about people who have been put off shares for life. It's a pity.
But first, I'm not sure how you got the idea that you'll lose money in bank term deposits. These days, with interest rates considerably higher than inflation - currently just 0.4 per cent - the value of your deposits will grow. For more on this see the next Q&A.
Still, term deposits don't grow all that fast. So what are your other options?
The most obvious one is high-quality bonds. These are quite like term deposits, but they can be somewhat riskier so tend to pay somewhat higher interest. I suggest you talk to a share broker about what's available. They sell bonds as well as shares.
But I can't help suggesting you get brave and try shares. Often in life it's not so much what you do as how you do it that matters. I suspect your family made some mistakes in how they invested in shares back in the 80s, which might well have included:
• Not diversifying. Many people put their money in one or just a few high-risk shares. When those companies crashed, the investors lost the lot.
• Borrowing to invest in shares - perhaps adding to a mortgage. This is risky with a capital R, but people in the 80s were desperate to be on the bandwagon so they invested money they didn't have. If you borrow to invest and the investments do badly, you can be left with little or no value and still face a debt.
• Panicking and selling when share prices plunged. While some shares became worthless after the crash, others recovered over time.
• Investing money that they planned to spend within just a few years. That's also risky. There's too big a chance that when you go to sell the shares, the market will be down and you won't get as much as you hope.
However, you can avoid all these mistakes.
If you invest in, say, an exchange traded fund - Smartshares is by far the biggest provider of these - your money will be in a wide range of shares. They include some rock solid companies that will almost certainly never become worthless, and many will grow healthily over time.
You don't need to borrow to invest as you have the inheritance. And you should promise yourself never to panic and sell in a market slump. Furthermore, you have 15 years before you plan to spend the money - and even then you probably won't spend it all in one go.
The idea would be to invest the whole $150,000 in a fund now, and then gradually move money into, say, a middle-level balanced fund as you get within eight to 10 years of spending it. The money you plan to spend within two or three years can then be moved into a low-risk fund or bank term deposits. Every year, move a bit more.
When the share market goes down - which it will every now and then - ignore it, knowing that you're not about to spend that money. You can wait for the market to rise again, as it will.
Why do this? Because if you invest in shares the right way, the chances are really good that over the long term you will end up with considerably more than in, say, bonds.
Too scary? How about investing half in shares? With a mortgage-free home and half a million in other savings, it's not as if you're in a financially precarious situation.
Interest rate concerns
There is a lot of concern at savers not receiving sufficient interest in retirement. Isn't interest received from a bank based on inflation plus a bank margin? The rate will also reflect risk, of course.
Now that inflation is effectively zero, we are only receiving the margin. In higher inflation times, it feels like more money is coming our way, but then the purchasing power of our capital sum is dropping (less visibly). Are we really worse off now?
No we're not. You're quite right. And what you're saying is not some pie in the sky theory. It's about real money.
Back in the early 80s, someone could put $100 into a bank account and earn 14 per cent interest on it. But when they withdrew the $114 a year later, it would buy less than their initial $100. Inflation had pushed up prices faster than the interest rate.
Money itself is pretty useless. Its only value is what you can buy with it.
Warren Buffett, who became one of the world's richest people through share investing, said back in 1977 when inflation was roaring away: "The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislatures.
"The inflation tax has a fantastic ability to simply consume capital.
" It makes no difference to a widow with her savings in a 5 per cent passbook account whether she pays 100 per cent income tax on her interest income during a period of zero inflation, or pays no income taxes during years of 5 per cent inflation."
By the way, interest rates aren't set directly from inflation. But the two are highly correlated. When one is high or low, so is the other.
Upsizing your home
We are about to sell our existing home and move to a nearby suburb.
We'd like to keep our mortgage as minimal as possible and are comfortable with a smaller house while our children are at primary school. But in the next three or so years we would ideally like to have a home with a second lounge or rumpus room in the hope that our teenagers may choose to spend more time at home if they had some space to call their own.
Our bank is willing to approve a mortgage to fund the larger home - but they will approve funds well in excess of what we know we can afford to service, so we have a more modest amount in mind.
Would you think we'd be better to have the smaller mortgage for three years and then have the extra costs involved with another sale (agents' fees etc) and move, or to purchase and move directly into the larger home?
Perhaps you could have the best of both worlds. Buy a lower-priced home with an unfinished basement or garage that could be converted into a rumpus room later. Or a house that you could easily add onto in a few years.
Failing that, my vote is to make just one move into a bigger place now - but one that you can still afford.
There are a couple of reasons. One is costs. For every move there's agents' commissions, as you say. I understand they might come to around $12,000 to $16,000 on a $400,000 home, or $16,000 to $24,000 on an $800,000 home.
Then there's legal fees, which might be around $1400, and a house inspection, at perhaps $500. If you would hire someone to help with your move, add that to the cost.
Having to pay those expenses twice, rather than once, could more than offset what you would save from having a smaller house for a while.
The other reason is hassle. Moving house is disruptive and with children it's even harder. It can also be unsettling for them.
By the way, it's scary that banks are willing to lend people much more than they think they can repay comfortably. Good on you for not just accepting that "the bank knows what I can manage".
Paying down mortgages
While I agree with what you wrote last week re keeping a rental in Auckland versus paying down a home mortgage, there are other factors to be considered.
Firstly, there are high transaction costs on buying and selling. These include legal and real estate agent fees (possibly building inspections and others if you buy again).
Secondly, if they had the rental prior to the change in depreciation tax-deductibility, then they may have to repay depreciation recovery. This is non-trivial. I repaid (or rather paid tax on) $42,000.
Thirdly, if they - or possibly more likely their children (if they have any) - wish to come to Auckland to study or work, then they would no longer have a home here, and renting is expensive (not as expensive as buying though). For instance, I have friends who sold their rental to free up capital after they moved to Nelson. They have children who will soon be leaving school. As both parents have degrees, it is likely that the children will aspire to do so too, and Nelson is not a university city.
Finally, they could restructure their loans, setting up a LTC (look through company) to buy the rental. The LTC would borrow the money from the bank to pay back the owners, who could then use it to repay their mortgage. This would convert "bad debt" to "good debt".
"Yes, but" to all except your last item.
The couple is deciding whether to sell the rental now or later. They're not considering buying another property. So your first and second factors would apply in either case.
On your third factor, even if they do have children, the chances of them wanting to live in that house in that part of Auckland are probably remote. I wouldn't let that drive my decision.
Your fourth factor is about turning a home mortgage, on which interest is not tax deductible, into a mortgage on a rental, where the interest is deductible.
I thought about that when I first read the couple's letter. If they were going to keep the rental, that would obviously be a good idea. But given that I was suggesting they sell the rental now, it wasn't worth going into that.
Still, your letter is a good reminder to others that it's better to give priority to paying down a home mortgage before a rental mortgage.
• Mary Holm is a freelance journalist, member of the Financial Markets Authority board, seminar presenter and bestselling author on personal finance. Her website is www.maryholm.com. Her opinions are personal, and do not reflect the position of any organisation in which she holds office.
Mary's advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to email@example.com or Money Column, Business Herald, PO Box 32, Auckland. Letters should not exceed 200 words. We won't publish your name. Please provide a (preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice.