Cam Watson, 12 April 2016

Over recent decades, successive governments in New Zealand have been concerned that New Zealanders were not preparing well for retirement. This was the motivation behind the government’s decision to establish KiwiSaver in 2006.

It is a voluntary savings scheme to help people save for retirement which has been hugely popular. Members now have a total of $27.7 billion invested in KiwiSaver funds. It has one of the highest take-up rates of any voluntary retirement savings scheme in the world with over 2.6 million members[1]. Three-quarters of the population aged 18 to 64 have joined KiwiSaver [2].

A number of financial incentives were included to encourage people to use it, a number of which have since been removed or changed. Some of the key features of KiwiSaver today are [3]:

  • Anyone starting a new job is automatically enrolled in KiwiSaver, but they can choose to ‘opt-out’ if they don’t want to join.
  • Members can contribute 3%, 4% or 8% of their before-tax income. This must be matched by their employer up to 3%. Note, employers can account for KiwiSaver in an employee’s ‘total remuneration’, meaning the company’s contributions are deducted from a member’s total pay, and not added to it.
  • For every dollar contributed to KiwiSaver by a member over the age of 18 who lives in New Zealand, the government matches it with 50 cents, up to maximum of $521 a year. This is called the ‘member tax credit’.
  • After a year in KiwiSaver you can take a contributions holiday for up to five years. Many people do this and then contribute only $1,043 a year ($87 a month). This is the minimum amount to invest to receive the government’s full $521 member tax credit. If on a contributions holiday, employers do not need to make their contributions on the member’s behalf.
  • KiwiSaver is locked in until the age of retirement, which is currently 65 years of age. A KiwiSaver scheme must also be in place for five years before it can be withdrawn. There are a few exceptions when you might be able to withdraw funds from KiwiSaver, such as financial hardship, permanent emigration or when you are buying your first home (more on that below). The fact that the money you have in KiwiSaver is locked-up is one of the main reasons why people do not contribute more to KiwiSaver. They prefer to save in other ways, such as in their own portfolio, so that they can get to these funds if they need them.
  • Members who have been contributing for three years may be entitled to withdraw some or all of their KiwiSaver savings (provided a balance of $1,000 is maintained) to purchase their first home.
  • A KiwiSaver HomeStart Grant is also available for those eligible – house price and income caps apply. This subsidy starts at $3,000 for those who have been contributing to KiwiSaver for three years, and up to $5,000 for those who have contributed for five years. A couple can get up to $10,000. These amounts are doubled for people who, wisely, decide to buy a newly built home, rather than a 100-year old shack that seemingly needs money spent on it nearly every week, like me.

What KiwiSaver isn’t…

KiwiSaver is not some ‘new’ investment. It is simply a scheme or ‘framework’ that sits on top of a portfolio of investments.

When you boil down investing, there are only five investments;

  1. cash and fixed income,
  2. property,
  4. non-income generating assets like art and gold, and
  5. a balanced portfolio, which combines any or all of the above.

KiwiSaver funds buy these underlying investments on your behalf. Which ones they own will depend on what sort of fund you select. More conservative funds will own more cash and bonds while higher risk growth funds will have more emphasis on shares and property.

A very important point that appears to not be well understood is that the government doesn’t manage KiwiSaver funds or guarantee returns. The government regulates KiwiSaver providers and helps administer KiwiSaver, but the funds are managed by private sector providers.

How well your KiwiSaver fund performs will depend on the performance of the underlying investments held by your fund, the skill of the manager running your fund, and the fees charged on your fund. The table below shows the different types of funds, how much they have invested in higher-risk growth assets and the sort of fees charged.

KiwiSaver What it is, and isn't table 1

Given KiwiSaver funds invest in different assets they have different risk profiles. I have put together the chart below using data from the sorted website. It shows the average 5-year return for each type of fund and the range of returns achieved by funds in each sector.

As we would expect, it shows that higher risk funds are providing higher returns, but they also tend to have the highest range of returns [4] . For instance, the average Aggressive fund returned 7.9%, and the best fund of this type returned 14.5%. However, the worst fund in this sector returned -0.75%. The higher up the risk spectrum you go, the more uncertain are your returns.

KiwiSaver What it is, and isn't chart

An issue that has been hotly discussed over recent years is that some KiwiSaver experts believe a lot of members may not be in the best fund for their needs.

The main issue is that many younger members, who are investing for a very long time, should usually be invested in higher-risk funds that have a higher weighting to growth assets. However, 70 per cent of all KiwiSaver members end up in a conservative fund [5] . This infers that a lot of younger people are in a conservative fund when they should probably be in a growth fund. This could make a huge difference to the end value of their savings when they come to retire.

For example, a 25-year old who contributes $3,000 a year to KiwiSaver (which I have rising with inflation) and invests in a Conservative fund may have $310,000 by the time they are 65 years old. If they instead chose a Growth fund, this final value could be 55% larger at $482,000; which could make for a far more entertaining retirement [6] .

It is very important therefore that KiwiSaver members obtain advice and ensure the most appropriate fund is selected for their situation and risk profile. KiwiSaver members need to have their eyes wide open when selecting funds. Not only do they need to realise that higher returns mean higher risk, but also that lower risk may means lower returns.

[1] John Kensington, Head of Financial Services KPMG, quoted in NZ Herald 6 January 2016

[2] Calculations using our forecast returns for our Conservative and Balanced Growth asset allocations. The Balanced Growth portfolio has an expected return that is 2% higher than the Conservative portfolio.

[1] FMA Quarterly KiwiSaver Disclosure Statement 29 April 2016

[2] KiwiSaver and the wealth of New Zealanders, Andrew Drew, NZIER, August 2015

[3] This is not a complete list and neither does it provide detail on each feature.

[4] This data does not show the risk profile of any individual fund, this data was not available. It only shows the dispersion of returns within each type of fund.

[5] John Kensington, Head of Financial Services KPMG, quoted in NZ Herald 6 January 2016

[6] Calculations using our forecast returns for our Conservative and Balanced Growth asset allocations. The Balanced Growth portfolio has an expected return that is 2% higher than the Conservative portfolio.