As tax time looms, Catherine Robson, the founder and CEO of award-winning financial planning practice Affinity Private, shares her expertise and explains everything we need to know for the upcoming tax season in layman's terms—you can thank us later.
The end of financial year is looming and it’s important to take this opportunity for financial reflection and proactive planning.
When it comes to paying tax, many of us behave like monkeys—it’s just how our brains are wired. The phenomenon is known as loss aversion and in monkey’s it manifests itself like this: Give a monkey one apple and he is happy, give him two apples and he is also happy. But give a monkey two apples and then take one away and the monkey goes ballistic. This is because both monkeys and humans are twice as sensitive to loss as they are to gain.
This is what happens when you pay tax—your brain has assessed your income based on what you have received over the course of the year, and when the tax office comes to take some away, it’s a painful experience. That’s why even though it does not make economically rational sense, some of us would prefer to have our employer collect and remit tax on our behalf rather than need to do this ourselves.
So what are some of the things you can do so that you don’t find yourself behaving like a monkey at tax time?
There can be a timing advantage in paying tax deductible expenses early, or “pre-taxing” before the financial year ends. There are some specific rules about what can be pre-paid and for how long. For example, you are unlikely to be able to claim a tax deduction this year for expenses over the next 10 years. Pre-paying a tax deductible insurance premium, like income protection, or interest on an investment loan can work well. Generally this requires you to fix an interest rate with your bank for a period of one year or more.
So an ancillary benefit might be locking in a known interest rate at the current historically low levels.
While we all like getting paid, there can be benefit in deferring income into the new financial year (starting on July 1) as a result of the way marginal tax rates work. This will not be possible for many salaried employees, but this can be an effective tool for business owners and the self-employed. Likewise, it can be advantageous to spread out a capital gain from the sale of investments over a number of financial years. This is one of the attractions of divisible investments, like shares and managed funds, as you can sell portions over time, rather than an investment property all of which is sold at once.
Think about making extra super contributions, particularly if you are self-employed or have a spouse who has a low income. Currently, if your spouse earns less than $10,800 you can make a $3,000 contribution into their super and end up with a tax rebate yourself of $540. With recent budget announcements making it harder to get money into super, the immediate tax advantage might also be coupled with long-term retirement benefits.
Finding a worthwhile cause to support can not only save you some tax, but there is evidence that people who give are actually more successful financially in the long term. Ensure that the cause you are donating to is a deductible gift recipient (DGR), so that not only are you helping others, but you are able to claim a tax deduction.
While looking to reduce your tax burden is prudent, make sure that you don’t let the tax tail wag the investment dog. If your goal is to create genuine long-term financial independence, paying less tax by consistently losing money is not going to help you get there. Reframe how you think about tax, from a loss to be avoided like the monkey with the apples, to a reflection of your success in making money. You might find that not only do you feel better about the tax you pay, but you might have more time and emotional energy to devote to lasting wealth creation.
Keep your finances in order with these essentials.
Never loose a single reciept again.