How to make the Government’s First Home Savers Account work for you

If you have children or grandchildren who are struggling to buy a home (or perhaps you have children who won’t leave home), then take a close look at the Federal Government’s latest attempt to ease the so-called housing affordability crisis; the First Hom

From 1 October 2008, individuals will be able to open a First Home Savers Account (FHSA) within certain superannuation funds, and via special bank accounts. The aim of the FHSA is to provide Australians with a kick-start to buying or building their first home.

One of the main conditions of the deal is that the individual has to deposit at least $1000 a year into the account in at least four financial years (they don’t have to be consecutive years) before he or she can access the funds for the purpose of buying a home.

A 17% tax-free contribution

The biggest drawcard to the scheme is the tax-free 17% government co-contribution when an individual makes contributions of up to $5000 to an FHSA (this is a different scheme from the superannuation co-contribution scheme) during a year.

For would-be home buyers on higher incomes, another drawcard is the concessional tax rate of 15% on the earnings derived from the First Home Savers Account (FHSA). Of course, the 15% tax rate on earnings is not so attractive if your child or grandchild pays 15% tax or less on income (earns less than $34,000 a year for 2008-09).

Even so, if an individual contributes $5000 to an FHSA in any year, the Government will make an $850 matching contribution; the equivalent of a 17% co-contribution on that amount. The $850 contribution is an automatic 17% return on the $5000 contribution, plus then whatever earnings can be gained from investing the $5000 contribution and the tax-free government gift of $850. If an individual contributes $1000, the Government will contribute $170 as a matching contribution.

Smoke and mirrors?

Now, don’t rush off to tell your children just yet. Apart from the tax-free gift from the Government, much of the growth in the account is due to compound earnings that any investor can take advantage of without using an FHSA. You don’t need a special scheme to enjoy the benefits of earnings upon reinvested earnings.

Of course, any government scheme that rewards you for saving is a good scheme, in my view, but I do have reservations about the mechanics of this one. Not all super funds offer the scheme, which means some individuals will need to approach a different super fund from the one they belong to, or approach a bank, to open am FHSA.

Most importantly for many of our readers is the fact that you cannot open an FHSA in a self-managed super fund (DIY super fund). The official reason for excluding DIY funds is that they are subject to less prudential controls than larger funds. Larger funds must hold a special licence issued by the Australian Prudential Regulation Authority to operate as a super fund.

How the FHSA works

Let’s take a closer look at how the FHSA will work, using an example. Paul wants his daughter, Martha, to save to buy her own apartment. She is only 23, but Paul is looking ahead and worried that she will still be living at home by the time she is 30 if she doesn’t start making some plans. Martha has just started a good job that pays $60,000 a year but she believes she can’t afford to buy a place because she doesn’t have a deposit.

Paul has done his sums and he has worked out that if Martha makes a $5000 contribution to a First Home Savers Account at the start of each year, a $300,000 apartment could be within her reach within five years, or a modest house in an outer suburb.

Martha’s FHSA will receive the government contribution of $850 at the end of each year. Taking the example to its natural conclusion, at the end of year five, at the age of 28, Martha withdraws all the money to use as a deposit on a one-bedroom apartment in an inner-city suburb of Melbourne. How much money will she withdraw after five years of saving?

The answer will depend on the rate of return credited to the FHSA and the fees charged against the account. This is where the benefits of the FHSA become vague. An issue yet to be clarified is how much super funds and banks can charge individuals to open and run these accounts. Arguably, the individuals opening FHSAs will be the least-experienced individuals in our community when it comes to financial matters and may be vulnerable to exploitation.

Uncertain investment options

In terms of investment returns, does the super fund or bank invest the money held in the FHSA in long-term assets or highly liquid assets? If the money can be withdrawn at any time after four years has passed, presumably the money would be held in reasonably liquid assets, which means the investment returns will be reasonably low.

Based on a sample product disclosure statement released by Senator Nick Sherry, the Minister for Corporation Law and Superannuation, the plan is for FHSAs to offer long-term growth investment options but with warnings that such options are suitable only if you plan to invest for more than five years.

Returning to the example: How much then can Martha expect to receive from her FHSA after five years, and after receiving four distributions of the government co-contribution? Paul has worked out (using ASIC’s compound interest calculator) that if her FHSA returns, say, 7% after fees and taxes, then Martha can expect to have about $35,000 for her home deposit at the end of year five. If the account returns 10% over the five years, she will have about $38,000.

Paul reminds Martha that because they live in Victoria she is also eligible for a first home owners grant of $5000 and a first home-owners bonus of $2000, subject to meeting eligibility requirements.

A helping hand, not a solution

Potentially, Martha (depending on her location) could have about $45,000 towards her first home deposit within five years. If Martha does not have 20% of the value of the property ($60,000) as cash then she will have to take out mortgage insurance, which can be an expensive front-up cost.

FHSA eligibility

Before you or any member of your family open an FHSA, be sure to consider the following requirements.

For individuals to be eligible to open an FHSA they must be aged 18 or over and under 65 years, and have never owned a home. Note that you can own an investment property and be eligible for the FHSA provided that you have never lived in that investment property.

An individual can only make after-tax contributions to the FHSA, and these contributions do not count towards the individual’s superannuation contribution limits. Note that family members or other individuals can make contributions to an FHSA on behalf of the account-holder.

The maximum an individual can contribute over their lifetime to a FHSA is $75,000 – $5000 each year for 15 years, or $25,000 each year for three years, etc. Clearly, to get the most benefit from the FHSA co-contribution, the trick would be to contribute $5000 for four years, to ensure eligibility and then potentially $5000 each year for another 11 years to maximise an individual’s entitlement to the tax-free government co-payment of $850. After 15 years, an account-holder could potentially have between $150,000 and $200,000, depending on returns.

Important: The money in an FHSA can only be used to buy or build a home, including paying a deposit for a home, for land, for a home and land package, or for meeting buying costs such as stamp duty and legal fees. Also, you must spend the money from the FHSA within six months of withdrawing it from the account.

For further information, visit the FHSA website.

This article first appeared on Eureka Report

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