FINANCIAL PLANNING IN AUSTRALIA

Lecture 1: The Financial Planning Process Introduction Financial planning involves the development of a financial plan to assist people to meet their

personal and financial goals. It is the process of analysing a client’s financial affairs in order to meet their needs and objectives through an agreed financial plan. The process requires:o A detailed analysis of the client’s current situationo An understanding of the client’s current needs, commitments and expectationso An appraisal of the client’s exposure to risk

Financial planning is important as it covers many areas including budgeting and asset management, development of investment strategies, retirement planning, estate planning and the planning for contingent events such as redundancies, health and family issues and divorce.

There are many reasons why clients seek the services of a financial planner. For example:o They may want to achieve an optimum return consistent with the client’s attitude to risk,

and therefore be financially independent and better off in retirement;o They may want to develop a budget to better manage income and expenditure and meet the

timing of current and future cash inflows and outflows;o They may want to plan for contingencies and plan against unexpected events and losses;o They may want to manage their investments in volatile economic conditions;o They may want to minimise taxation within the legal framework

Traditionally, prior to the 1980’s, there were very few “specialised” financial planners. Financial planning was not considered as an independent profession, and general financial advice was provided by accountants, brokers, bankers, life insurance agents and real estate agents.

The current role of the financial planner encompasses debt and risk management, taxation, investment planning, retirement planning, estate planning, small business financial management

In the past decade or so, there has been enormous changes in the financial system and corresponding growth in the financial planning sector. There are numerous factors that contribute to these changes, including:o An increased emphasis on the provision for retirement benefits and growing changes and

complexities in superannuation and taxation laws. For example, there has been many changes in superannuation policies, such as changes in relevant superannuation tax rates, changes in the planned age pension and requirements (2015), the introduction of the super guarantee act (1992) and an overall increased focus and greater opportunities available to save for retirement (e.g. self-managed super funds, authorised depository funds, pooled superannuation trusts, defined benefit and accumulation funds). There have also been significant taxation reforms, such as the introduction of capital gains tax, fringe benefits tax, dividend imputation system etc.

o The deregulation of the financial system, which has allowed for a greater relaxation in the restrictions imposed on investors and bank regulations. For example, this allowed domestic investors to invest overseas (and vice versa for foreign investors), which increased currency flow and economic activity between different countries. This allowed for the Australia dollar and foreign currency to ‘float’, which means the value of the dollar and currency depends on the country’s economic activity, as well as the response of supply and demand in trading currency. It allowed the entry of new institutions, including foreign-owned businesses to settle and become established in Australia. Within the banking industry, banks were able to lend money and obtain funding with much more ease, as there was a deregulation of interest rates and an increased focus on monetary policy.

o Shifting demographics and corresponding wealth. Australia’s current demographic consists of a large proportion of baby boomer, which means that there is an increased demand for

retirement planning, estate planning and financial advisers to provide specialised tax advice, or general financial plan to ensure assets are managed pre- and post-retirement.

Financial deregulation also means there are greater investment opportunities, such as investments into managed funds, pooled investment schemes and derivative securities. This is quite unconventional in comparison to the direct investments into shares, bonds and property.

There are also different ways to borrow and obtain finance, for example margin loans for investments and home equity loans for residential property.

A margin or investment loan is a form of gearing that lets you borrow money to invest in approved shares or managed funds, using your existing cash, shares or assets as security.

A home equity loan is a standard form of loan that is provided by the bank, where the borrower makes regular repayments on the loans but the bank retains legal title of the home in case the borrower defaults on repayments.

Furthermore, financial deregulation has also allowed investors to “gamble” or speculate on investments, since interest rates and prices of assets and securities are set by the forces of supply and demand.

To provide financial advice to clients, an individual or company must hold an “Australian Financial Services License (AFSL), or must be a representative of an AFSL holder. Note: any employee working for an AFSL holder is automatically deemed as a representative

The main responsibilities of a financial planner include:o Giving advice on financial productso Dealing in financial products (“making the market”)o Operating a registered scheme (e.g. managed fund)

The advice provided may be either “personal advice” or “general advice”. Personal advice is given when the adviser is able to advise the client specifically in relation to

one or more of their objectives. General advice is given when the adviser is able to advise the client on a general basis without many details.

An adviser must provide a “Financial Services Guide” before any personal advice is given. The guide contains the general background about the licensee (client) and the representative or adviser, the adviser’s responsibilities and commitments, the financial products and services they can provide, fees and remuneration, rights of the client etc.

When personal advice is being given out, the client may receive a letter of engagement, statement of advice (SoA), product disclosure statement and a fee disclosure statement.

A default template of the statement of advice is shown below:

The Future of Financial Advice (FoFA) legislation passed two reform bills which subsequently became effective from 1st July 2013. The legislation imposed a prospective ban on conflicted remuneration structures, such as up-front and trailing commissions for superannuation entities, a prospective ban on payments relating to volume or sales targets, a ban on asset-based fees for providing gearing advice, an increased fiduciary duty requiring advisers to act in the best interest of their clients when giving personal advice, and a requirement for advisers to obtain client agreements to on-going fees.

Financial Planning Regulators Financial Planning Industry Bodieso Australian Securities and Investments

Commission (ASIC)o Australian Prudential Regulation

Authority (APRA)o Australian Taxation Office (ATO)

o Financial Planning Association (FPA)o Financial Services Council (FSC)o Association of Superannuation Funds

of Australia (ASFA)

ASIC is responsible for supervising and administering consumer protection for deposit taking activities, general and life insurance, superannuation, investment securities, managed investments and futures contracts. ASIC enforces consumer protection regulation in relation to:o The disclosure of all financial product information to consumers o General prohibition against misleading or deceptive conduct and other unfair practiceso Licensing of people who give financial adviceo Requirements for conduct of those giving financial advice (i.e. FPA code of conduct)

APRA is responsible for the prudential regulation of the financial services industry. Its key regulatory functions include establishing and enforcing prudential standards, implementing policies to ensure the financial system is stable, efficient and competitive, and overseeing banks, credit unions, building societies, general insurance and reinsurance companies, life insurance, friendly societies and most members of the superannuation industry

FPA Code of Ethics Principle 1: Client First

o Always place the client’s interests first, do not get influenced by personal/employer interests Principle 2: Integrity

o Provide professional services with integrity, honesty and candour in all professional matters Principle 3: Objectivity

o Provide professional services objectively - ensure the integrity of work, manage conflicts of interest and exercise sound professional judgment

Principle 4: Fairnesso Be fair and reasonable in all professional relationships

Principle 5: Professionalism Act in a manner that demonstrates exemplary professional conduct. Behave with dignity and

show respect and courtesy to clients, fellow professionals, and others in business-related activities. Comply with appropriate rules, regulations and professional requirements

Principle 6: Competenceo Maintain the abilities, skills and knowledge necessary to provide professional services

Principle 7: Confidentialityo Protect the confidentiality of all client information. Ensure client information is protected

and maintained in such a manner that allows access only to those who are authorised Principle 8: Diligence

o Provide professional services diligently, fulfilling professional commitments in a timely and thorough manner, and take care in planning, supervising and delivering professional services

The Nine Steps in the Financial Planning Process Step 1 – Establish relationship with client

o The initial meeting is established to allow the planner and client to get to know each other, and to determine whether the planner has the ability to solve the client’s problems.

o The financial planner should begin by introducing themselves, and making small talk about themselves. This will engage the client and break down the formal atmosphere.

o The financial planner will need to discuss with the client his or her current issues and concerns, current financial situation, short and long term financial objectives (investment timeframe) and their attitude to risk. This will be the fundamental starting point for any advisory engagement and is a pre-requisite for the “know your client rule”. The financial planner should also provide the client with the “Financial Services Guide” and engagement letter at the end of the meeting.

Step 2 – Identify client’s objectives, needs and financial situationo In the second meeting, the financial planner should begin establishing a “fact finder” to

gather the client’s personal, financial and business details. This may be a very lengthy and complex questions, and can involve both quantitative and qualitative information.

o The client’s needs and objectives need to be considered in terms of income, risk and security of cash flows, growth (age, retirement and inflation), liquidity, flexibility and taxation issues

Quantitative Data Qualitative Datao General family profileo Assets and liabilitieso Cash inflows and outflowso Tax returns for the past 3 yearso Details on current investmentso Superannuation and insurance policyo Bank statementso Copies of wills and trusts

o Goals and objectiveso Age and health status of client and family memberso Interest and hobbieso Expected retirement ageo Risk toleranceo Investment horizono Anticipated current and future lifestyleo Other planning assumptions

Step 3 – Analyse objectives, needs, financial situation and risk profileo After collecting the client’s information, it is time to analyse the information and develop a

strategy. The financial planner should begin by reviewing the quantitative and qualitative data and then analyse the client’s current net worth. They should also determine the client’s future saving requirements, income streams, and investment requirements to see whether there is a “funding gap” between their resources and their needs and objectives.

o If the client’s issue is not in relation to investment strategies, and rather superannuation and estate planning, then the financial planner must apply their knowledge to these areas.

Step 4 – Develop strategies and solutionso The financial planner will need to conduct relevant research, analysis and product modelling.

Additionally, the financial planner must recommend a financial product that they are familiar with and possess knowledge about the actual product. They cannot simply choose a default, recommended product issued by other financial planners, without considering the actual situation of the client. This is in line with the specified “reasonable basis for advice rule” contained in s945A of the Corporations Act 2001.

o For example, what would be the most suitable asset class for the client? Would the financial planner recommend equities (stocks), fixed income securities (bonds and certificate of deposits), cash and cash equivalents, or real estate and commodities?

o Is the proposed investment strategy in line with the client’s risk tolerance and investment horizon? In addition, what would be the asset allocation of the client’s portfolio? Which industry should the client invest in and what is the current market condition?

Step 5 – Present appropriate strategies and solutions to cliento The financial planner must provide the advice and proposed strategy in a “Statement of

Advice” template. They will need to guide the client through the key aspects of the supporting documentation and explain the relevant details, terms and conditions and cost of the proposed transactions in a clear and unambiguous way

o The client must be aware of any possible risks of the investment strategy

Step 6 – Negotiate financial plan/policy/transaction with the cliento The financial planner must confirm the client has understood the proposed financial

plan/policy/transaction. If the client is not satisfied with the proposed strategy, the financial planner must discuss and negotiate with the client to resolve the client’s concerns and issues

Step 7 – Implement the recommendationso If the client’s formal agreement is obtained, then the financial planner can begin to

implement the plan/policy/transaction. They should keep a checklist of their responsibilities, and prepare a timeline so that both parties can keep track of everything. The financial adviser can also prepare the associated fee and cost structure for their services, and send the invoice to the client.

Step 8 – Complete and maintain necessary documentationo The financial planner must complete and maintain all necessary documentation signed by

the client. This includes all receipts, records, reports, research and recommendations.

Step 9 – Provide ongoing serviceo The financial planner will provide the ongoing service as required and review the

performance and plan/policy/transaction to ensure everything goes smoothly.

Lecture 2: Saving, financial markets and financial institutions How households accumulate wealth Cash flow statement equation: Savings = Income – Expenditure Balance sheet equation: Net worth = Assets - Liabilities Savings is the pre-requisite for wealth accumulation. There are various factors that affect saving:

o Interest rates: Higher interest rates will encourage people to save more.o Opportunity costs: People are more willing to save if they believe they will be better off

saving than spendingo The level of individual and/or family expenses and real disposable income: Disposable

income is the income left after paying taxes. The level of expenditure may vary depending on the person’s lifestyle and personal circumstances.

o Rate of inflation: When inflation is high, people have less money to save because their money will experience a decrease in purchasing power. Therefore, they will need to spend more money than usual to obtain the same goods and services.

o Save for a large future purchase: People might save to make a large future purchaseo Precautionary factors: People might be ‘saving for a rainy day’o Tastes and preferences of consumers: Some individuals save more than others.o Consumer confidence/expectations about future changes in the economyo Age based/life cycle factors;

Young unmarried – low saving/saving for specific purpose Young married – save for housing Young families – little saving

Older married – increased repayment of housing debt + superannuation Fifties – heavy saving due to lower expenditure and sensitivity to retirement needs Retirees – use up accumulated funds

Tutorial 1: Case Study & Calculations John is 32 and Jane is 30; they married last year. John is an engineer on a salary of $115,000 p.a. plus 9.5% superannuation contribution. Jane is a high school teacher on a salary of $85,000 p.a. plus 9.5% superannuation contribution. John and Jane do not currently have children but plan to start a family soon. They would like to have two children, Jane anticipates taking 6 months off work after the birth of

each child and working part time for several years after the children’s births. She would ultimately like to return to full time employment.

They own a two bedroom apartment in Cremorne, which they purchased 5 years ago. It is currently worth approximately $1,000,000. They have a mortgage with ANZ bank with an outstanding balance of $400,000 at an interest rate of 5.5% p.a. They also have $50,000 in an offset account. Their standard monthly repayment is $2,800. In addition, strata levies, council and water rates amount to $5,000 p.a. (i.e. other housing expenses)

They would like to upgrade to a three bedroom home by the time their second child is born. They realise that they will probably be unable to afford a home in their immediate area, they would like to stay in the general North Shore area.

John’s employer contributes to superannuation through the MLC MasterKey Business Super fund. His current balance is $120,000, which is in the default option, the Horizon 4 (balanced) portfolio. He also has $250,000 of death and total & permanent disability (TPD) insurance through his super fund. His employer pays the premiums for his death and TPD insurance in addition to his 9.5% superannuation contributions. John has the option to salary sacrifice additional superannuation contributions.

Jane is a member of First State Super. Her fund balance is $55,000 invested in the default option, Diversified. Jane has $50,000 of death and TPD insurance in her fund. Jane also has the option to salary sacrifice additional superannuation contributions to her fund.

Jane owns a 2010 Toyota Yaris, worth approximately $9,500. While it serves their needs now, they think they will need a larger car when they start a family. John has the option of salary packaging a car.

John owns a BMW F800GS motorcycle, worth approximately $8,500, which he uses both to travel to work and for weekend rides. John took out a personal loan to buy the motorcycle, the remaining balance of the loan is $3,000.

John and Jane’s apartment building is insured by the body corporate; while they have contents insurance, it has been some time since they have reviewed their level of cover. Both their car and motorcycle are comprehensively insured. They hold basic private health insurance through the Teachers Health Fund.

John and Jane have recently completed a budget planner and their annual expenses, not including housing costs, are $55,000 p.a.

They keep a balance of approximately $5,000 in a day to day bank account, with surplus cash being deposited in their mortgage offset account. While they use credit cards to pay for many of their expenses, they always pay the full balance every month.

They have not drawn up wills nor do they have powers of attorney. They do not hold any insurance, other than those already mentioned.

The first step to answer any question is to categorise them (income, expense, asset or liability)

o Income: John and Jane’s salaryo Expenses: Strata levies, council and water rates (i.e. other housing expenses), annual mortgage

repayments (value given to us in exam, in reality should include interest + principal repayment),

o Assets: John and Jane’s superannuation and insurance policies, their two bedroom apartment, offset account, car and motorcycle, day-to-day bank account

o Liabilities: Outstanding mortgage ($400,000 left to pay), loan on motorcycleQ: Prepare a cash flow statement and calculate John and Jane’s net worth. Assume John and Jane’s income tax and Medicare Levy liabilities are $32,797 for John and $21,097 for Jane.

Cash flow statement equation: Savings = Income – Expenditure Balance sheet equation: Net worth = Assets – Liabilities Basic tax equation: Taxable Income = Assessable Income – Tax Deductions Basic tax equation: Tax Payable = (Taxable Income x Tax rate) – Tax offsets

Financial Markets Overview Cash Market - (Overnight Deposits & “At Call”) Money Market – (90 Days Bills & “Commercial Paper”) Government Bond Market Non-Government Debt Market Share market

Note the mortgage payments will be given in the exam, it is not necessary to calculate. The $33,600 in this case is an arbitrary number.

Market for Unlisted Shares (Private Equity) Derivatives Market Foreign Exchange MarketRisk vs. Return Return is the total gain or loss experienced by the owner of the financial asset or investment

over a given period of time, and consists of current income and a capital gain or loss Risk is the variability of returns from an investment’s normal expected returns All investment involves a trade-off between risk and return Risk free assets are investments generate a stable return with an emphasis on income. They

include investments in cash or fixed interest securities, such as corporate or government bonds. Risky assets are investments that generate a variable return, but have an emphasis on growth.

They include investments in shares, commodities and property.

Key Types of Financial Risk Mismatch risk: the risk of investing in an asset that does not align with the investor’s time

horizon (e.g. if an investor would like to invest money for a holiday at the end of the year, the financial planner should choose liquid assets that are stable and generate a fixed return).

Inflation risk: the loss of purchasing power due to inflation Interest rate risk: the risk that changes in interest rates will negatively impact the value of the

firm’s investments and thereby, decrease the firm’s equity value. Refinancing risk: the risk that the costs of rolling over funds or reborrowing funds will increase

over time, if it is not managed (interest rate in the market increases). Reinvestment risk: the risk of reinvesting funds (proceeds) at a lower interest rate than the cost

of funds (interest rate in the market decreases). Market volatility: the risk of experiencing capital gains or losses due to change in interest rates Market timing risk: the risk of investing in assets at the wrong time Lack of diversification risk: volatility may be reduced by investing in different market sectors Currency risk: the risk of investing overseas due to currency movements Liquidity risk: the Inability to convert investments to cash in the short term Credit risk: the risk that promised cash flows from loans and securities held by the investor may

not be repaid Legislative risk: the risk of future legislative changes will have an adverse effect on investments

Tutorial 2: Prepare a cash flow statement and calculate the net worth of Jane’s brother Greg, who is single and works as a bus driver, while he studies law part time at university.

Greg’s after tax salary is $48,000 p.a. Greg’s superannuation fund has a balance of $10,000 Greg recently purchased an investment property for $300,000. He borrowed $310,000 with an

interest only loan of 7% p.a., the additional funds being used to pay for upfront costs such as stamp duty. The property is currently rented for $400 per week. Agent’s commission, strata levies and other outgoings on the property are $5,000 p.a.

Greg recently purchased a new Ford Fiesta which cost $17,000, which he paid for using a cash advance on his Visa card with an interest rate of 15% p.a. (Second hand value $14,000). He also purchased a home theatre system and large screen LCD television for $10,000 using his MasterCard with an interest rate of 16% p.a. (Second hand value $5,000)

Greg shares a flat with a friend; his share of the rent and outgoings is $300 per week. Greg’s other outgoings are $2,500 per month. Ignore income tax, other than the income tax already deducted from Greg’s salary.

Cash Flow Statement Net Worth:Income - ExpensesSalary: $48,000Rent: $20,800Rental Expenses: ($5,000)Interest on property loan: ($21,700)Yearly Visa Expense: ($2,550)Yearly Mastercard: Expense ($1,600)Yearly rent and outgoings: ($15,600)Other outgoings: ($30,000)Overall: ($7,650)

Assets - LiabilitiesSuper Fund: $10,000Property: $300,000Car: $14,000HiFi & LCD screen TV: $5,000Home Loan: ($310,000)Visa: ($17,000)Mastercard: ($10,000)Net Worth: ($8,000)

Lecture 3: Direct Investments / Cash and Fixed Interest In this lecture, we will cover the main investment markets. In the previous lecture, we briefly listed the main financial markets. In short, the main difference between financial markets and investment markets is that financial

markets are used to obtain short and long term financing for businesses and companies, whereas investment markets are used for investors to earn interest and generate returns on their investments

There are four main investment markets, which are listed below:

Investment Examples Risk Type of return

Cash and fixed interest

Bank accounts, cash management trusts, term deposits, bank bills, government bonds, debentures

Low Income

Property Residential, commercial, rural Medium to high

Income and growth

Shares Australian and international High Income and growth

Other Collectibles, precious metals, Varies Varies

investments agricultural schemes, infrastructure

In terms of property investments, there is a significant danger called the “all-in-one-basket”, meaning the investor may take on a significant risk to invest all of their savings and take out a loan to service a mortgage. These dangers include:o The risks of tenants doing substantial damage to a property and difficulty in recovering

arrears of rent and other moneys owingo The drawbacks of having large amounts of capital tied up – no liquidityo Possible extended vacancy leading to cash flow problemso High costs associated with insurance, maintenance and repairs

Asset Allocation Asset allocation is the implementation of an investment strategy that attempts to balance risk

versus reward by adjusting the percentage of each asset in an investment portfolio according to the investor's risk tolerance, goals and objectives, size of investment portfolio and investment time frame. Asset allocation is equally as important as diversifying your portfolio, because it ultimately impacts the overall portfolio’s return.

Diversification is a key component of asset allocation. A diversified portfolio is one with a variety of asset classes that don’t tend to rise or fall in value at the same time. Spreading your investments across a variety of classes is important because each type responds differently to the market, inflation, interest-rate, currency and default risks. This moderates the effect of a poor performance by any one asset class.

For instance, a strong economy may cause stock values to rise, but it could also bring rising interest rates, which tends to cause bonds to decline in value. On the other hand, a stock may struggle in a weak economy while bonds may gain value because of falling interest rates. In short, investing in several asset classes can help you benefit from changing economic conditions while protecting you from adverse price swings.

Extracted from: http://financialfitnessaustin.org/downloads/assetallocation.pdf

Fixed interest investments A fixed interest security is an investment that provides a return in the form of fixed periodic

payments and the eventual return of principal at maturity. An example of a fixed-income security would be a 5% fixed-rate government bond where a $1,000 investment would result in an annual $50 payment until maturity when the investor would receive the $1,000 back.

Generally, these types of assets have little to no default risk, and are suitable for risk averse investors and portfolios with a need for cash flow (e.g. retirees).

They offer a lower return on investment because they guarantee income.

Yield Curves The yield curve is a graph that plots the relationship between yield to maturity and time to

maturity for bonds of the same asset class and same credit quality. A normal, upward-sloping yield curve implies that investors expect the economy to grow in the

future, and for this stronger growth to lead to higher inflation and higher interest rates. A normal yield curve typically occurs when central banks (e.g. RBA) are “easing” monetary policy, increasing the supply of money and the availability of credit in the economy.

An inverted yield curve, on the other hand, occurs when long term yields fall below short-term yields. An inverted yield curve indicates that investors expect the economy to slow or decline in the future, and this slower growth may lead to lower inflation and lower interest rates for all maturities. An inverted yield curve typically indicates that central banks are “tightening” monetary policy, limiting the money supply and making credit less available.

Extracted from: https://investment.prudential.com/util/common/get?file=E6C1F59AB8CF65FF85257BF9006AC517

Types of Fixed Income Securities Call Deposit Accounts: A call account is a deposit account with a financial institution without a

fixed maturity date. A call deposit account, like a checking account, has no fixed deposit period, provides instant access to funds and allows unlimited withdrawals and deposits.

Bank accepted bill: A bill of exchange is a form of short term money market debt issued by a financial institution that is approved or endorsed by a bank. An investor may purchase the bill of exchange at a discount and receive the full amount at maturity.For example: An investor buys a bank accepted bill from a company for $97.50, and receives $100 from the company in 90 days’ time. In this case, the $2.50 would be the 90-day interest

Treasury bonds: Treasury bonds are similar to ordinary exchange-traded bonds issued by corporations. In general, bonds are long term debt securities where the borrower pays regular fixed interest repayments (coupons) over the term of the bond and a final repayment of the principal on maturity. They are the lowest fixed-interest security issued in the market.

Corporate bonds: The definition is provided in the previous point, and the return on corporate bonds is determined by the issuing company’s credit rating. Corporate bonds are significantly more popular than government bonds, and are marketed through the ASX.

Interest Rate Securities Floating rate notes: An Australian floating rate note (FRN) is a medium-term bond that has a

variable coupon based on a floating benchmark, usually the 90 day Bank Bill Swap Rate (BBSW) and a fixed margin. Normally all FRNs have quarterly coupons (interest is paid every 3 months)

Convertible notes: A convertible note is a form of hybrid debt security that allows an investor to provide a loan to a company or unit trust, and then convert the loan into equity at a later date or at maturity. Convertible notes are usually used by angel investors, who would like to invest in a start-up company.

Hybrid debt securities: A hybrid debt security is a security that combines features of two or more different investment vehicles. The most common example is a convertible bond, which is a bond that the holder may exchange for stocks. This combines the guaranteed payments of a bond with a stock's potential for equity.

Asset-backed securities: Asset-backed securities (ABS) are financial securities backed by a loan, lease, or receivables against assets other than real estate and mortgage-backed securities. Asset-backed securities allow companies to convert future cash flows, such as payments from customers, into money they can use right now. They can sell the ABS to investors, who then obtain the right to collect those future cash flows. These securities provide steady income to investors, as long as the payments are made.

For example: Let’s say a finance company has $1 billion worth of outstanding loans that borrowers will be repaying over the next five to six years. The company could simply wait six years to collect all its money, or it could sell the rights to collect those payments to someone else. So the company sells bonds to investors. The money to pay off those bonds comes from the borrowers' future repayments.

Collateralized debt obligations (CDO): Collateralized debt obligations are sophisticated financial tools that banks use to repackage individual loans into a product that can be sold to investors on the secondary market. These packages consist of auto loans, credit card debt, mortgages or corporate debt. CDOs allow a business to sell off debt and free up working capital.

Tutorial 3: In the following tutorial, there are some important basic equations to remember:

o PV = FV (1+r)-n o FV = PV (1+r)n

o PV = PMT x (1 – (1+r)-n) / r

o FV = PMT x [(1+r)-n -1)] / rQ4: Uncle Norm is aged 60 and has accumulated $500,000 in his superannuation fund. How long will the lump sum last if he draws an annual amount of $50,000 and the rate of return is 4% p.a.?

You can solve this equation by using the PV annuity formula and rearranging for ‘n’PV = PMT x (1 – (1+r)-n / r)500,000 = 50,000 x (1 – (1.04)-n) / 0.04 -- substitute in values10 = [1 – (1.04)-n] / 0.04 – divide by 50,0000.4 = [1 – (1.04)-n] – subtract 0.4 from both sides0 = 0.6 – (1.04)-n – move the 0.6 to the left hand side and multiply both sides by -10.6 = (1.04)-n

ln (0.6) = (-n) ln (1.04)n = 13.024 years

Q5: Jane’s brother Greg is trying to work out how quickly he can pay off his Visa card debt, which is currently $17,000 at an interest rate of 15% p.a. How long will he take to repay the debt if he repays $350 per month (the current minimum payment)? How much interest will he pay in total? How much does his payment need to be to repay the debt in 2 years? How much interest would he pay under this scenario?

You can solve this equation by plugging in all values into the PV annuity formulaPV = PMT x (1 – (1+r)-n) / rWhere: PV = $17,000, monthly interest rate = 1.25% and PMT per month = $350$17,000 = $350 x (1 – (1.0125)-n) / 0.012517/28 = (1 – (1.0125)-n)0 = 11/28 - (1.0125)-n

11/28 = (1.0125)-n

ln (11/28) = -n ln (1.0125)n = 75 months or 6.26758 years

Total amount paid on debt = $350 x 75 months = $26,250Total amount of interest paid = $26,250 - $17,000 = $9,250

If the debt was paid off within 24 months: calculate the PMT per month.PV = PMT x (1 – (1+r)-n / r)$17,000 = PMT x (1 – (1.0125)-24 / 0.0125)PMT = $824.27 (correct answer!)

Q6: Greg wants to know how much of a difference daily versus monthly compounding makes to an interest rate. He has seen one personal loan offered at 11% p.a. compounded daily and another at 11.25% compounded monthly. What is the effective cost of borrowing for the two loans?

The formula for the effective annual interest rate is: (1 + i / n)n - 1Where: i = the stated annual interest rate n = the number of compounding periods in one year

Daily Interest Rate = (1+0.11/365)365 -1 = 11.626%Monthly Interest Rate = (1+0.1125/12)12 – 1 = 11.8486%

Q7: John and Jane are considering some fixed interest investmentsa. Briefly explain to them what a “yield curve” is.

A yield curve is a graph that displays the relationship between time to maturity and yield.

b. What is the difference between a “positive” yield curve and a “negative” yield curve? Which is the more common form of yield curve and why?A yield curve is generally upwards sloping because it indicates that interest rates are predicted to increase in the future. An investor will expect a higher return on their investment if they were to hold onto their investment for a longer period of time, as a way of compensating for greater investment risk (volatility). A yield curve that slopes downwards indicates that interest rates are predicted to decrease in the future. An investor will expect a lower return on their investment in the future due to the decrease in interest rates.

c. How much would they pay for a 180-day bank bill with a face value of $50,000 and yield of 6.45% p.a.?To calculate the purchase price of a bank bill, we use the following formula:

Therefore, purchase price = $50,000 / 1 + (6.45%/365 x 180) = $48,458.62

d. They have seen a 10 year government bond with a face value of $10,000, semi-annual coupons of $250 and a yield of 5.25% p.a. How much would they pay for it?

Value of a Bond = CouponPMT x [ 1−(1+r )−n

r ]+FV (1+r)−n

Where: C = $250, FV = $10,000, r = 5.25%/2= 2.625% and n = 20 periods

Therefore, value of the bond = $250x [ 1−(1.02625 )−20

0.02625 ]+$10,000 (1.02625)−20=$ 9807.42Lecture 4: Shares, property and other investments Ordinary shares represent an ownership interest in a firm. They entitle a shareholder to a claim

on the company’s profits, and an equal obligation for the company’s debt and losses. Shares have no maturity date, are limited in liability, are transferable, pay dividends, confer voting rights and have potential for capital gains. Australian shares are traded via the ASX, must be purchased via a broker and the settlement of a transaction takes 3 business days (T+3).

The difference between a price index and an accumulation index is that a price index only tracks the movement of share prices over time, whereas an accumulation index tracks the movement of share prices with any reinvested dividends over time.

The following ratios are used for basic share analysis:o Dividend Yield = Annual Dividend / Share Priceo Capital Gain = the percentage % change in share priceo Earnings Yield = Earnings per Share (EPS) / Share Price

o Price-Earnings Ratio = Share price / Earnings per Share (EPS) Note: “Yield” is an indication of how much you’ve earned relative to your investment. Note: Low PEs considered to be a sign of a value buy.Other performance measures Return on assets – measures the basic return by a company (net income / total assets) Leverage (gearing/borrowing) ratios – % of debt as a % of shareholders’ funds (debt / equity) Liquidity – measures the value of an investor’s current assets Interest rate exposure – measures the number of times earnings cover interest costs Dividend payout ratio – measures the % of earnings paid as dividends (annual dividend / EPS) Retention ratio – measures the % of earnings retained by company

Alpha & Beta Alpha is the risk-adjusted return on an investment. It is a measure of the excess return of a

stock portfolio or fund over a given benchmark. If α > 0; this means an investment has outperformed the benchmark If α < 0; this means an investment underperformed the benchmark For efficient markets, the expected value of the alpha is zero; i.e. α = 0 means the investment

has earned a return adequate for the risk taken. Fund managers are rated according to how much alpha their fund generates. It is thus a measure

of the fund manager’s ability to generate profits in excess of market returns. Beta is a measure of the volatility of a stock in relation to the movement of a stock relative to

the movement of the market as a whole. If Beta = 1; that means security’s price will move in sync with the market. If Beta > 1; that means stock moves more than the market and is more volatile. If Beta < 1; that means stock moves less than the market and is less volatile.

What is a growth vs. value portfolio? Growth stocks are stocks whose earnings are expected to continue growing at an above-average

rate relative to the market. Growth stocks generally have high price-to-earnings (P/E) ratios and high price-to-book ratios. The open market often places a high value on growth stocks; therefore, growth stock investors may see these stocks as having great worth and may be willing to pay more to own these shares.

Value stocks are stocks that tend to trade at a lower price (underpriced) in comparison with their competitors. Value stocks are considered bargain priced, as a result of having fallen out of favour in the market. Value stocks generally have low current price-to-earnings ratios and low price-to-book ratios. Investors buy these stocks in the hope that they will increase in value over time, which would result in rising share prices.

Pr ice Effect of a Stock Repurchase A stock repurchase typically has the effect of increasing the price of a stock. Example: K has 20,000 shares outstanding and a net income of $100,000. The current stock price

is $40. What effect does a 5% stock repurchase have on the price per share of K's stock? Answer: To keep it simple, price-per-earnings ratio (P/E) is the valuation metric used to value K's

price per share.

K's current EPS = $100,000/20,000 = $5 per share P/E ratio = $40/$5 = 8xWith a 2% stock repurchase, the following occurs:K's shares outstanding are reduced to 19,000 shares (20,000 x (1-.05))K's EPS = $100,000/19,000 = $5.26Given that K’s shares trade on eight times earnings, K’s new share price would be $42

Company Valuation Models The Single Index Model (SIM) is an asset pricing model that states that an asset’s return is

influenced by the market (reflected in beta), firm specific excess returns (reflected in alpha) and also firm-specific risk (the residual). The SIM for stock returns can be represented as follows:

Equity risk premium refers to the excess return an individual stock or the overall stock market provides to investors to compensate them for holding riskier asset classes.

Capital Asset Pricing Model (CAPM) is a model that describes the relationship between risk and expected return and is used in the pricing of risky securities. CAPM shows that the return on an asset depends on 1) the time value of money (i.e. the total interest earned on an investment) and 2) the level of systematic risk (volatility) displayed by the market.

The dividend discount model (DDM) is a method used to value stocks based on the net present value of future dividends.

Allocation efficiency occurs when investors direct funds to areas offering the highest risk-adjusted returns. This indicates efficiency in the pricing of securities, as it reflects consumer sentiment and the asset’s underlying returns.

Information efficiency measures how fast markets adjust and react to the release of new information, or to the extent that prices reflect all available information.

Investment styles: active and passive management, momentum and contrarian investing, the use of dollar-value averaging.

Explanation: Momentum investors believe prices take time to move to their new fair values following the release of new information. They would buy when a price began to rise, expecting the price will continue to rise and vice-versa. Contrarian investors believe markets overreact to good and bad news. They will buy when prices fall (believing prices have fallen too much) and sell when prices rise (assuming they have risen too much)

Question: Why hold international shares?o All shares generate long term expected return, exposure to market sectors not represented

in Australia, exposure to major multinational corporations, currency exposure; if $A declines, international investments increase, if $A appreciates, international investments decrease, international shares generally pay less dividends (more capital growth)

Tutorial 4: Q1. We have the following data for XYZ Limited: Share price at 1 July 2013 - $25.21 (old share price) Share price at 30 June 2014 - $27.83 (new share price) Annual dividend – $1.25 per share (amount of earnings paid out) Earnings per share - $2.12 per share (amount of earnings)

Calculate the following at 30 June 2014: Dividend yield: 1.25/27.83 = 4.49% Earnings yield: 2.12/27.83 = 7.62% Dividend payout ratio: annual dividend/earnings per share = 1.25/2.12 = 58.96% Retention ratio: 41.04% P/E ratio: 27.83/2.12 = 13.13 Total return for the year: New share price – Old share price + annual dividend / old share price

= 27.83-25.21+1.25/25.21 = 15.27%

Q2. The share price of XYZ Limited has risen slower than the All Ordinaries Index (Price Index) for the year ended 30 June 2014, does this mean that XYZ was a bad investment over the last 12 months?

We should compare the share price with an accumulation index, not a price index. A price index only includes changes in price and does not factor in dividends.

Lecture 5: Managed Funds & The Retail Client A managed fund is a collective investment vehicle that pools money together from investors,

and invests the fund’s money on behalf of its many investors according to stated investment goals. It is managed by professionals through a unit trust, and it obtains funds by selling “units” to investors; it is very similar to selling shares, in the sense that investors receive a proportion of ownership interest in the trust and they are entitled to receive income from the fund. The unit price fluctuates daily, depending on the value of the unit trust’s assets.

The managed fund industry is made up of superannuation funds, unit trusts or managed investment schemes, master trusts and wrap accounts.

A managed fund must be registered if there is more than 20 members, or if it is promoted by someone who is in the business of promoting investment schemes.

Ordinary or non-super managed funds are operated by a responsible entity (public company), and are regulated under the Corporations Act and administered by the Australian Securities and Investments Commission (ASIC).

A managed fund must establish a “constitution”, which outlines the rules of the fund and maintain a “compliance plan”, which outlines how the responsible entity will ensure the scheme complies with legislation.

The constitution contains rules such as:o Fees to enter and exit the schemeo Investment powers of the responsible entityo Complaints resolutiono Rights of the investor to withdraw from the scheme

Registered schemes must also:o Issue a Product Disclosure Statement (PDS) to raise money from the publico Includes details of the financial and management status of the company or schemeo Conduct independent audits of the scheme and the responsible entityo Scheme’s property separate from the property of the responsible entity and other schemeso Have a procedure for removing the responsible entity

A Product Disclosure Statement (PDS) is a document that contains information about a financial product, such as any significant benefits and risks of the investment, the cost of the financial product and the fees and charges that may apply to the client or investor.

The Advantages of Managed Funds The Disadvantages of Managed Funds Diversification Funds are managed by professionals (expertise) Pooling funds to gain access to specialised

sectors and markets that may not be affordable or available to the ordinary investor(e.g. property or foreign investments)

Simplification of the administrative processes Ease of redemption Fees known up front Assessment of funds by rating companies

Less customization and control since the investment decisions is outsourced to another person (agency problem)

Fees for managing investments Level of risk taken by fund manager Personnel changes may affect returns CGT timing events

Research organisations, such as Morningstar, Lonsec and Van Eyk, provide ratings on managed funds, taking into consideration the fund’s performance relative to a benchmark and in comparison to other similar managed funds in the industry, the volatility of the fund’s return, the investment style of managers and portfolio construction (asset allocation), and whether the fund has achieved the client’s goals (generating income and growth).

The objective of an index fund is to simply track the market – meaning they will generate the same return as the market. This does not require a lot of work, because they simply replicate the investment asset allocations as the index. However, for an active fund, they do their own research, examine the market and invest based on their own knowledge and expertise. They aim to beat the index, meaning they want to generate a greater return than the market.

The active fund manager is the better option if the market is inefficient, but an index fund is the better option if the market is efficient. The level of efficiency simply refers to how long or how fast it takes for the market to react to new information, or to the extent that market prices reflect all available information. So if the market as a high level of information efficiency, this means prices adjust and change quickly to reflect the release of new information. Therefore, it would be very difficult to beat the market and take advantage of prices that reflect all given information. Hence, an index fund would be the better option.

A master trust and a wrap account are two investment structures that allow an investor’s assets to be administered by a fund manager through a central cash account. This makes it easier for the investor and adviser to track and monitor all their investments.

The difference between a master trust and a wrap account is the ownership title. Under a master trust structure, the investments are held under the name of a trustee or responsible entity who manages them on your behalf. In contrast, under a wrap account, the investments are still managed by trustee or responsible entity, but they are held under the investor’s name.

Lecture 6: Taxation Taxable Income = Assessable Income – allowable deductions Income tax payable = Taxable income x tax rate – tax offsets (rebates) Medicare Levy = 2% x taxable income

o Exemptions/phase in for low income earnerso Exemptions for certain classes of taxpayer e.g. defence force personnel, non-residents

Medicare surchargeo If taxable income > $90,000 singles, $180,000 coupleso Higher threshold if have dependentso Payable if don’t have qualifying private health cover

Who pays Income Tax? Question of jurisdiction - residence and source Residents: liable to pay income tax on all income worldwide Non-residents: liable to pay income tax sourced from Australia Temporary residents: liable to pay income tax sourced from Australia @ resident income tax

rates; generally, do not have to pay tax on foreign income.

Assessable Income Ordinary income refers to income derived from personal exertion (salary and wages), business

and property (interest, rent, dividends, pensions and annuities). However, it does not include gambling and lottery wins and/or income derived from hobbies.

Statutory income refers to any other form of income that is assessable in tax, but does not fall within the “ordinary concepts” definition. It includes capital gains, employment allowances, annual leave, employment termination payments and franking credits from franked dividends.

Exempt income refers to any income that is deemed to be tax-free by legislation. It is not included when classifying income in concessional and non-concessional thresholds. It includes salaries from certain types of foreign employment, income derived from defence force reserves, co-contributions, fringe benefits, periodic maintenance payments to a former spouse or child, compensation settlements for personal injuries, certain payments to veterans, pension payments and social security payments.

Non-assessable non-exempt income refers to any income that is exempt from tax but is included when classifying income in concessional and non-concessional thresholds. It includes the tax-free component of a superannuation benefit (non-concessional contribution), the taxed element of a superannuation income stream or lump sum received by a person over 60 years of age, a superannuation lump sum death benefit received by a dependant, and genuine redundancy payments and early retirement scheme payments.

http://www.lewistaxation.com.au/tax/general/exempt-income

Revenue v Capital Expense - Business Entity Test Character of advantage sought: if the expense provides a long term advantage, it is more likely

to be a capital expense, and if the expense provides a short term advantage, it is more likely to be a revenue expense

Manner in which it is to be used, relied upon or enjoyed: if the expense provides a one-off benefit, it is more likely to be a capital expense, and if the expense provides recurring benefits, it is more likely to be a revenue expense

Means adopted to obtain it (regular/lump sum pmts): if the expense is paid in one lump sum payment, it is more likely to be a capital expense, if the expense is paid in regular payments, it is more likely to be a revenue expense

Allowable Deductions Section 8-1 of ITAA 1997 provides a tax deduction for all losses and outgoings to the extent they

are incurred in gaining or producing assessable income (the first limb); or necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income (second limb).

However, losses or outgoings are not deductible under this section, to the extent that they are of a capital nature, are of a private or domestic nature, or are incurred in relation to gaining or producing exempt income.

Section 8-5 of ITAA 1997 provides specific tax deductions for expenses of a “capital nature” that can be deducted as a result of being incurred in gaining or producing assessable income.

The following are tax deductible under s8-1 and s8-5:o Car expenseso Depreciationo Travel expenses between two places of businesso Cost of managing tax affairso Borrowing expenseso Legal expenseso Prior year losseso Personal superannuation contributions (provided they pass the 10% eligibility income test)o Gifts or donations

In terms of financial planning and advisory fees, the fees will only be deductible if the advice is related to the management to an ongoing portfolio that is producing assessable income. The fees will not be deductible if the client is planning to establish an investment portfolio because the advice is not related to the current generation of assessable income.

The initial advice is generally not deductible, but any ongoing management and consultation fees associated with managing an investment portfolio will be deductible.

Tax Offsets A tax offset is a rebate or credit that is allowed under the income tax legislation to reduce tax

payable. There are many types of tax offsets that are refundable and non-refundable. The low-income tax offset (LITO) applies to low-income earning tax-payers who earn a taxable

income of $66,667 or less – the maximum tax offset is $450, which is available to taxpayers who earn less than $37,000. The LITO is a non-refundable tax offset.LITO: $450 – ((Taxable Income - $37,000) x 0.015

The franking credit tax offset (dividend imputation) is a refundable tax offset which applies when you receive franked dividend distributions from a company. The investor essentially obtains the franking credits and uses them to reduce their tax payable.

The Senior Australians & Pensioners Tax Offset (SAPTO) is a tax offset eligible for senior citizens and pensioners aged over 65, who have a taxable income of less than $50,119 (single person) or $41,790 (couples). The intention of SAPTO is to ensure senior citizens and pensioners pay less tax if they derive income under a certain threshold. To be eligible for SAPTO, the individual:o Must be a taxpayer who is eligible for a pension, allowance or benefit under the Veterans’

Entitlement Act 1986, has reached pension age under that Act, and not in jail; oro Must be a taxpayer during the income year who is qualified for an age pension under

the Social Security Act 1991, and is not in jail.Singles: $2,230 – ((Taxable Income - $32,279) x 0.125)Couples (Each): $1,602 – ((Taxable Income - $28,974) x 0.125)

Capital Gains Tax In general, CGT is payable on the disposal of a CGT asset acquired after 19th September 1985 Capital gain arises if disposal proceeds > cost base Capital loss arises if disposal proceeds < cost base Under s108-5, CGT assets are defined very widely to basically include any property or personal

rights that are not transferable There are four main types of CGT assets:

i. Collectablesii. Personal use assets

iii. Separate assetsiv. Other CGT assets

Any capital gains or losses made from the following categories are exempt from CGT:o Any pre-CGT assetso Main residenceo Passenger carso Trading stocko Personal compensation and damages awardso Personal use assets acquired for < $10,000o Collectables acquired for < $500

Cost Base Components Acquisition costs: includes money paid or the market value of other assets or services provided Incidental costs: includes professional fees, transfer costs, stamp duty, advertising expenses,

valuations, search fees and conveyancing kits (i.e. preparation of legal documents) Non-deductible ownership costs (where the asset does not produce income): includes interest

on money borrowed to acquire the asset, insurance, maintenance and repairs, land rates/tax Capital expenditure to increase or preserve the asset's value Capital expenditure to establish, preserve or defend title to the asset or right over the asset

Note: Any tax deductible expenses are not included in the cost base of the CGT asset

Calculating Capital Gains Tax For assets held for less than 12 months, your cost base is the disposal proceeds (not subject to

discount or indexation rules) For assets held for more than 12 months, and were acquired and sold between 20th September

1985 and 21st September 1999, your cost base is the frozen indexed cost base.

Indexation Factor =

For assets held for more than 12 months, and were acquired before 21st September 1999 and then later sold after 21st September 1999, you can decide to use either the frozen indexed cost base or the 50% discounted cost base, whichever gives the lower CGT value.

For assets held for more than 12 months, and were acquired and sold after 21st September 1999, your cost base is the 50% discounted cost base.

Offsetting Capital Losses You must offset capital losses against capital gains BEFORE applying 50% discount (if applicable) You should apply capital losses in the following order:

o first, offset capital losses against gains of assets held for less than 12 months (no discount)o second, offset capital losses against gains of assets with a frozen indexed cost base o last, offset capital losses against gains of assets with a 50% discount

Unused capital losses are carried forward to future tax years

Main Residence Exemption For CGT purposes, an individual’s main residence is always exempt from CGT. Generally, this exemption does not apply if the property is used for income-producing purposes.

However, this limitation does not apply if the income-producing use occurred solely during a period of absence (examined later).

Couples (heterosexual or same sex) only receive one exemption between them A dwelling is treated as a main residence from the date it is acquired if the taxpayer moves in

straight away. Where a new dwelling is acquired, the previous residence can continue to be treated as a main

residence (in addition to the new residence) for up to 6 months subject to conditions including that it is not used to produce assessable income during the last 12 months of ownership.

Special concessions apply to building and renovations.

Temporary Absences In relation to temporary absences, an individual may retain CGT exemption on their main

residence. If the dwelling is rented out produce assessable income, the maximum permitted absence is 6 years before CGT commences. After this 6-year period, CGT is then charged and calculated on the number of days that the property did not qualify as your main residence.If the dwelling is not rented out, the vacancy period can be indefinite. The individual cannot claim a main residence exemption against any other home during this period.

Dividend Imputation If a company makes a frankable distribution, it can attach a "franking credit" to the distribution. To calculate the amount of the frankable distribution or the grossed-up dividend, we multiply

the dividend received by 1 / 1 - franking percentageE.g. $70 fully franked dividend = $70 x 1/1-0.3 = $100

The following table shows the effect of the imputation system on the individual taxpayer:

Ownership Structure

Advantages Disadvantages

Individual Tax-free threshold & gradual tax scale Losses carried forward Different types of tax exemptions,

rebates and offsets Access to superannuation funds Government co-contributions

Minors subject to penalty tax Marginal rates climb to 45% Medicare levy and surcharge at certain

income levels

Partnerships Capacity to split and direct income (does not have to be equally)

Partners may obtain 50% CGT discount and other concessions

Losses are distributed to partners to be offset against the individual’s other income

Simpler administration than companies, trusts and superannuation funds

Partner change requires new agreement and may trigger CGT event

Joint and several liability of partner Income cannot be accumulated, at the

end of every income year all income must be distributed (i.e. a partnership is a flow through structure)

Partners taxed at individual marginal tax rates up to 45%

Trusts Capacity to direct income to the beneficiaries with the lowest tax rates

Separation of legal control and beneficial interest

Managed by a trustee Asset protection and limited liability

Can be expensive to establish Restricted powers of trustees Costs of administration Losses are trapped inside the trust and

can be offset only against future trust income

Companies Separate legal entity Perpetual existence Flat tax rate at 30% Limited liability Capacity for share growth and income

Expensive to establish and run Regulated by legislation and must

provide annual reports Losses are kept within the company Costs of administration

Superannuation Fund

15% tax rate on earnings and contributions (extra 15% may apply to contributions by high income earners)

1/3 CGT discount (i.e. 10% tax on CGT) Different types of tax exemptions,

rebates and offsets Preserved for retirement Tax free benefits 60+

Investments restricted by “sole purpose” test and “in house asset” rules

Borrowing not allowed (except for “limited recourse borrowing”)

Costs of administration Legislative uncertainty Inaccessible except upon meeting a

condition of releaseFringe Benefits Tax (FBT)

A "fringe benefit" arises when an employer provides an employee with a (non-cash) benefit directly or indirectly, and the benefit is provided due to the employment relationship.

The tax is imposed on the employer, not on the employee FBT liability (taxable value) is based on private use, not business use FBT paid by an employer is generally deductible to the employer for income tax purposes Levied at top marginal rate of 49% on taxable value of benefit Under salary packaging both the cost of the benefit and the FBT is “charged” against package

Fully assessable benefit: E.g. employer pays private school fees of $10,000 Assume no GST Taxable value of benefit = $10,000 FBT on grossed-up amount: $10,000 x 1.9608 x 49% (including Medicare) FBT = $9,608 Charge against package: $10,000 + $9,608 = $19,608

Concessionally valued benefit: E.g. Company car costing $55,000 Annual costs include lease $15,000 Assume no GST 80% business use and 20% private use – FBT is charged on private proportion Taxable value of benefit $55,000 x 0.2 = $11 000 FBT on grossed-up amount: $11,000 x 1.9608 x 49% = $10,569 Charge against package: $15,000 + $10,569 = $25,569

Exempt benefit: E.g. Laptop computer costing $2,000 Must be substantially for business use Assume no GST Cost value of benefit = $2,000 Taxable value of benefit nil Charge against package $2,000