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Wealth Creation and Estate Planning Case Study 1

Wealth Creation and Estate Planning Case Study

Wealth Creation and Estate Planning Case Study 2

Contents 1 Introduction........................................................................................................................................3. 2. Assessment of Current Goals and Plans.......................................................................................... 4. 3. Risk Profile and Asset Allocation.....................................................................................................5. 4. Savings and Investment Recommendations................................................................................... 7. 5. Gearing Option...............................................................................................................................7. 6. Effects of Gearing............................................................................................................................7. 7. Benefits of Gearing.........................................................................................................................8. 8. Risks of Gearing..............................................................................................................................9. 9. Russell Investments Diversified 50 Fund: Class A..........................................................................12. 10. Vanguard Investor Funds............................................................................................................15. 11. Vanguard Investment Lifestyle Growth Funds............................................................................15. 12. Recommendation…………………………………………………………………………………………………………………….19 13.Financial Projection with Current Cash Flow...............................................................................20. 14.Money Smart Calculator..............................................................................................................20. 15. Conclusion..................................................................................................................................22. 16. References..................................................................................................................................24.

Wealth Creation and Estate Planning Case Study 3

Introduction This report will aim to explain the current financial position of Mr Richard Spencer and Mrs Reena Spencer and to meet their financial objectives. The main objective of this case study is to offer these two clients, a married couple with effective recommendations on possible investment options that will help in creating wealth and capital growth. These options will also provide Richard and Reena on estate planning for their two childrens when they passaway. It is imperative that the recommendations offered in this report will help them to realise their objectives.

Wealth Creation and Estate Planning Case Study 4

Assessment of Current and Future objectives From your client data, your main objectives and needs are listed as paying off your house and holiday home in the next five years, creating an investment fund of $200,000 in a ten year time from your investment portfolio, reducing taxation where possible, acquiring a new car after every five years, making charitable donations of $5,000 per year, paying for your two children’s university degrees estimated at being $50,000 in ten years’ time, and having your wishes carried out when you die. At the current time, due to the overall costs of funding your objectives exceeding your total net income, your current and future objectives cannot be achieved at the current moment. For example, your total current annual income of two people is $ 147,318 while your total current annual expenses are $123,240. After the deduction of expenses from income, this will leave you with a total of an income surplus of $23,978. However, with the use of other managed investment funds in about seven years and the expected reduction of expenses regarding the completion of mortgage payments, motor vehicle payments and any personal loan or credit cards payments, it is likely that your objectives can be achieved in the time frame that you required. To meet your objectives will depend primarily on the amount of capital invested in the managed fund. Currently, an investment of about $24,000 annually is likely to give you an investment value of $200,000 in ten years’ time. Assuming manageable levels of risk on the market and a reduction in your current tax obligations, there is a possibility that the investment growth is likely to provide extra income that can enable you to afford the university degree fees for your two children. You can meet your current objectives and goals based on your current saving plans, however short and medium-term objectives will be achieved in the long run in about 10 years’ time.

Wealth Creation and Estate Planning Case Study 5

Risk Profile and Asset Allocation Based on your answers to the questionnaire and with your capital preferences and investment risk tolerance, I assume your risk portfolio would be focused on growth. With a growth profile, you are earning sufficient income and you want to invest most funds for capital growth. You are prepared to accept high volatility and moderate risks because your primary concern is to accumulate assets over the medium to long term time frame. By using growth assets will enable you to have a high potential for capital growth that is balanced with a relatively medium risk of capital loss (McKeown et al, 2012). The recommendation in using growth assets is based on the previous growth assets in your portfolio, which is represented by the compulsory contributions towards your superannuation fund. However, with any investment comes risk, and it is prudent to note that growth assets are likely to be volatile in the short term but traditionally will stabilises in the long term. With this in mind, given your long-term objectives to create an investment portfolio of $200,000, it is recommended that with the potential of income from growth assets in the long term will certainly suit you and your objectives. After careful consideration to your preference to invest in managed funds, your lifestyle objectives and goals, financial position and investment profile, I recommend that you adopt a long-term investment portfolio and in turn will have strategic value with asset allocation and diversification. Investment Mix Growth 



Typical Characteristics Expected return: 6.2%

Approximately 85% of investment

(Gross returns before deduction of fees,

should be in shares and properties

other costs and taxes).

The other 15% should be invested in cash and fixed income.

Investment: $10,000 after 5 years = $13,500 (FV= $10,000 X (1.062)^5)

Wealth Creation and Estate Planning Case Study 6

Growth Asset Allocation 15.00% 85.00%

Shares and Properties Cash and Fixed interest

Volatility: High

Expected loss: 4-5 years for every 20 years

According to ASIC money smart website, a growth investment option mix would be approximately 85% invested shares and properties and the other 15% shares should be invested in cash and fixed interest investment (Money smart, 2018). In this investment plan, the proper recommendation is to scale your investment mix to 70% in shares and properties and 30% into cash and fixed interest investment. By using this investment mix in a mixed of growth assets and defensive assets will enable you to have a high potential for capital growth while being balanced out with a relatively medium risk of capital loss.

Recommended Growth Asset 20.00% Australian Shares International Shares

10.00% 5.00% 10.00%

Listed Property 55.00% Cash Fixed Interest

Growth Assets

70%

Australian

55%

Shares International

10%

Shares Listed Property Defensive

5% 30%

Assets Cash

10%

Fixed Interest

20%

In this investment plan, there are likely to be market changes in the short term in the form of negative returns or capital losses, however over the long term this will not lead to variation in the investment allocation as the rate of return on investment will likely tbe improve in the long term. Despite the need to diversify in your investment mix, I recommend that you maintain a cash reserve of about $ 5,000 to meet any unexpected cash expenses that are usually involved in day to day management.

Wealth Creation and Estate Planning Case Study 7

Savings and Investment Recommendations The current income surplus does not offer large investment funds for investing. However, your investment objective requires a large capital. Therefore it recommended that you should consider in applying for a line of credit to maximise your investment in the time frame given. You can choose between line of credit facilities or to borrow a home equity loan. A line of credit option works like a credit card; you are given a line of credit back by your home where the credit is available in a set time frame, where you can withdraw money as you need it. You will pay back the amount that you have borrowed plus interest and the interest rate will be a variable rate (bankrate, 2018). Alternatively, you can apply for a home equity loan. A home equity loan is a loan where the borrower gets a one time large sum. The loan will be set at a fixed term, at a fixed interest rate and will be paid in monthly installments. Home equity loans offer lower interest rates, compared to a line of credit loan and do not require you to contribute funds towards the investment (bankrate, 2018). Option: Gearing Gearing is the borrowing of funds from a third party, usually banks or other financial institutions to make a financial investment. This can be a great tool in your financial strategy to be used to accelerate the process in wealth creation and to increase your investment portfolio to generate a positive return (Insight, 2018). However, like any investment strategies, there is a degree of risk involved, and there are many factors that can contribute to the risk. The primary risk that is associated in gearing is that the borrowing funds repayment has to be paid back. Effects of Gearing There are three types of gearing; positive, neuatral and negative gearing. Positive gearing refers to a situation where your interest payments and other associated costs are lower than the income you received from your investment (AMP, 2018). In the case of tax

Wealth Creation and Estate Planning Case Study 8

obligations, positive gearing can let you claim a tax deduction for the interest and other costs against your investment income. The taxable income generated from your investment will be subjected to income tax at the marginal tax rate. You won’t be able to reduce the tax you pay on your other income but you can use the surplus income to reduce the size of your loan (AMP,2018). Neutral gearing occurs when your interest payments and any other associated costs with the investment Is equal to the income you received. With neutral gearing properties, there are no real tax implications (AMP, 2018). Negative gearing happens when the interest payments and other associated cost with the investment are higher than the income you receive from your investment. The tax obligations with negative gearing can help you reduce your taxable income. In most cases, you can claim tax deductions for the interest and associated costs of your investment. This may let you reduce your overall tax liability you pay on your other income, like the income from your employment. Negative gearing option should only be persue when the investment can appreciate in value over time to offset any loses along the way. This indicates that negative gearing can be a risk investment option if your circumstances changes and you are not able to service the ongoing debt (AMP, 2018). Gearing Benefits Under the current laws in Australia regarding taxation, gearing can be an attractive investment option because a person or agent are able to claim deductions from interest payments an expenses that are associated with the investment (Barkoczy 2016). This will allow the deductions to be offset against any assessable income; these incomes can be either form an investment or a work salary. Also beneficial to the investor would be investing geared funds into certain selected that allows the dividend imputation system to enable you to receive a tax credit in dividends. These dividends are referred to as franked dividends and franked dividends can reduce the taxable income that is levied on a person. Gearing Risk However, like any investment strategies, there is a degree of risk involved, and gearing is no different. One of these risks that are associated with gearing is that the

Wealth Creation and Estate Planning Case Study 9

borrowing funds repayment has to be paid back. Negative gearing can also bare risks towards investors and can compromise the effectiveness of gearing overall. Ideally, you would to invest into geared funds on assets which may not offer the number of returns desired, known as negative gearing. This could cause a significant effect on your cash flow. Investors that are looking into gearing as an option should also be aware of the fact that overextending borrowing and increasing interest’s rates on geared funds can restrict a person’s ability to be offered new loans or even servicing the existing loan payments. Lastly, in an event where an investor wants to sell their geared assets to pay off their loan at an earlier date, depending on the financial institution, certain penalties may be applied. These penalties can range from an early pay out fee, interest payable or a one off administrative fee for closing the loan. Gearing as an Investment In this scenario, I recommend that you and your wife, Mr Richard and Mrs Reena Spencer meet up with your financial institution to review your lending position on your main residential property and your investment property. Also I recommend you should transfer the investment loan in into your wife’s name, Reena Spencer. During this process with your financial institution, you should review your existing home loan and make sure that the rates being offered are the lowest and competitive as possible. As part of you review with your financial institution, you should for now use the $5,000 that you have pledge to give away to charity and instead make additional payments of $5,000 annually towards your current home loan. This will make paying off your homes within the next five years based on the current financial projections a reality. When transfering the investment loan into your wife’s name, I recommend to make interest-only loan repayment for one year in advance from your current home loans offset account. The primary reason for this recommendation is to take full advantage of your wife’s tax obligation which would allow your wife to claim 100% taxable deductions for all the interest paid in this financial year while having no effect on your monthly cash flow position. The proceeds from the investment loan should be reinvested back into the investment. After your review with your financial institution, I recommend you increase the

Wealth Creation and Estate Planning Case Study 10

current borrowing limit on your home loan to 60% of the value of the home. By doing this, your current investment mix should be; 

Joint home/home loan

$250,000



Reena Spencer Investment loan

$200,000



Cash reserve at hand

$5,000

You will have an investment fund of about $205,000 when all recommendations are put into place, which will lead to appropriating capital gains over time. It is estimated that you and your wife will have more surplus with the income fund after the first year and will be able to pay the interest that have accrued on the loans. Using the Westpac online investment loan with a prepaid interest rate at 5.05% P.A (Westpac, 2018), and capital increases by 3.0% annually, the graph below will show the likely gearing projection:

Gearing Projection in 10 years 300000

$ Dollar Value

250000 200000

Capital Value loan Value (Principal + interest) Income Surplus

150000 100000 50000 0

0

1

2

3

4

5

6

7

8

9

10

Years

Gearing Projection Yearly Breakdown Years 0 1 2 3 4 5

Interest P.A $9,738.17 $8,922.77 $8,065.22 $7,163.35 $6,214.87 $5,217.36

Principal $200,000.00 $184,233.75 $167,632.10 $150,182.90 $131,81.83 $112,532.27

Owing $255,144.19 $229,629.77 $204,115.35 $187,600.93 $153,086.52 $127,572.10

Wealth Creation and Estate Planning Case Study 11

6 7 8 9 10

$4,168.30 $3,065.02 $1,904.71 $684.43 $0.00

Russell Investments Diversified 50 Funds: Class A

$92,235.22 $70,899.10 $48,439.70 $28,829.99 $0.00

$102,057.68 $76,543.26 $51,028.84 $25,514.42 $0.00

Wealth Creation and Estate Planning Case Study 12

During our discussion you clarified that you have experience in investing buy did not have any help with financial planning. The information provided by you in the Client Data sheet indicates that both you and your wife are highly interested in wealth creation over a long time. Also you indicated that you are not worried about fluctuations and negative returns in the short term regarding market volatility and interest rates. You and your wife would prefer to generate interest on your investment to help balance off your tax obligations and any other expenses. This critical information indicates that you may be comfortable with the Russell Investment Diversified fund. In this regard, using the Russell Investments Diversified fund class would be ideal for you due to being able to invest your funds in a mix of growth assets and defensive assets. This investment mix are suitable for investors seeking medium to long-term wealth creation with moderate volatility. The suitability of the Russel investment Diversified fund is suited for investors who are seeking capital growth over the medium term and can accept the possibility of negative returns over the short term (Russell Investment, 2018). As indicated by your client data sheet, you and your wife seek long term capital gain and wealth creation, making this investment an ideal choice. Also with Russell Investment’s diversified product mix means that you will be able to experience the advantages of diversifying your investment, which in return mean that some market and capital volatility in the short and medium term will be limited.

Investment Return Objective: To provide

Russell Investments Diversified 50 Fund: Class A

Australian Shares

Suitability: Suitable for investors who are seeking some capital growth over medium term and are willing to accept the possibility of negatives returns over the shorter term

International Shares

Investment strategy: The fund typically invests in

21.50% 45.00%

returns over the medium term, with moderate volatility, consistent with a diversified mix of defensive and growth oriented assets.

Alternatives

22.00% Cash and Fixed Interest

diversified portfolio mix with exposure to growth investments of around 50% and defensive investments of around 50%. Derivatives may be used to implement investment strategies.

11.50%

Minimum investment time frame: 4 years Risk...