The federal government rapidly introduced a range of initiatives as the COVID-19 virus took a sledgehammer to the economy. Those initiatives are indeed to help individuals who lost their income due to the restrictions or measures to control the virus.
One of those initiatives was to allow qualifying individual’s access to a portion of their superannuation to help them meet their living costs. Importantly, withdrawals are tax-free and do not need to be included in tax returns. Most people can withdraw up to $10,000 in the 2019-20 financial year and up to a further $10,000 in the 2020-21 financial year.
For many, this early access to super will prove to be a financial lifesaver. While, for others, the short-term gain may lead to a significant dip in wealth at retirement. Moreover, the younger you are, the higher that impact on retirement is likely to be.
So, here is a case study to discuss the potential advantages and consequences of withdrawing superannuation under the governments COVID-19 initiative.
Kevin is a 30-year-old hospitality worker. Due to the casual nature of his recent employment, he is not eligible for the JobKeeper allowance. Though, Kevin is eligible to apply for early release of his super under the COVID-19 provisions. However, before going down this route, he wants an idea of what the withdrawal will mean to his long-term situation.
Taking the max
Certainly much depends on the future performance of his superannuation fund. If Kevin withdraws $20,000 over the two financial years and if his super fund delivers a modest 3% per annum net return (after fees, tax and inflation). Then by the pension age (currently 67), he will have $39,700 less in retirement savings than if he doesn’t make the withdrawal.
At a 4% net return, he will be $65,360 worse off if he makes the super withdrawal.
Nevertheless, that’s not the only disadvantage. A smaller lump sum at retirement means a lower annual income. If Kevin draws down his super over a 20-year period, at a 3% net return, he will be around $2,670 worse off each year as a result of making the withdrawal. Over 20 years that adds up to a total loss of $53,375. At a 4% return, his youthful withdrawal will cost him over $96,000 by the time he reaches 87.
Reducing the risk
On the plus side, if Kevin is eligible for a part age pension when he retires, his smaller superannuation balance may see him receive a bigger age pension.
There are other things Kevin can consider to reduce the financial consequences of accessing his super early. One is only to make the withdrawal if he absolutely has to. Alternatively, if he does make the withdrawal, use the bare minimum. When his employment situation improves, contribute the remaining amount back to his super fund as a non-concessional contribution.
COVID-19 is adding further complexity to our financial lives. So, before making decisions that may have a long-term impact, talk to your financial adviser.
Note: *The above information provided is general in nature. It is not to be relied upon as personal financial advice. As it has not considered your personal circumstances, needs or objectives.