Future Focus: How do you stack up financially against other Aussies?
How wealthy are you across traditional measures?
How wealthy are you compared to your fellow Australians?
There are two traditional ways to measure wealth. Income and assets. The data doesn’t lie - Australia is a wealthy country when it comes to these measures. We hold significant wealth through net assets, and we have strong incomes.
However, as I wrote recently, this does not always result in us feeling wealthy. On the other side of the equation is debt and inflexibility. We are highly leveraged and this reduces and impacts our cashflow. We also have a significant amount of wealth locked up in superannuation, inaccessible until preservation age.
So how do you measure up against the traditional measures, and what can you do to actually feel wealthy?
Traditional measures
Assets
Based on the latest release of the ABS Survey of Income and Housing, a household net wealth of $2.6 million puts you in the top 10% in Australia. $4.2 million puts you in the top 5% and $12 million puts you in the top 1%.
Figure: Household net wealth that puts you in the top 10%, 5% and 1% of Australians
To see where you stack up, combine the asset values for your property, superannuation and other assets. Subtract your debts. Do this for your household to come up with a comparable number.
The median net wealth for an Australian household is $579,000 which is one of the highest median wealth figures globally. We have superannuation and high property prices to thank for that accolade. The mean net wealth sits at $1.04 million.
The disparity between the top 10% and the top 1% is not representative of the rest of the population. UBS found that Australia’s wealth inequality has narrowed over time and wealth distribution is one of the world’s most equal. This is measured by our Gini coefficient – which takes a look at how evenly wealth is shared.
The Gini coefficient is a score between 0 and 1, with 1 representing one person holding all the wealth, and 0 representing wealth evenly shared across the population. Australia scored 0.53, only bested by Japan, Qatar, Belgium and Slovakia in the research sample. The countries with the highest inequality are UAE, Russia, South Africa and Brazil.
Income
Below are the income bands by decile. Regardless of your income level a high level of obligations can prevent anyone from feeling wealthy. If income comes into your bank account and is immediately earmarked for obligations, you miss out on one of the key factors of feeling wealthy – choice.
Source: Australian Bureau of Statistics
Debt
Debt is the main obligation holding Australians back. Australia has a high level of household debt, with the household debt-to-disposable-income ratio sitting at around 182%. Large mortgages are a major contributor.
To work out your debt-to-income ratio, divide your total debt balance by your net income.
For an individual borrower, Australian banks generally consider a debt-to-income ratio of six times or more to be high risk. Even if your debt is considered manageable by a bank, that doesn’t mean it feels manageable to you. A mortgage can be perfectly serviceable on paper while still creating a sense of financial constraint.
The impact of a mortgage is most noticeable when interest rates rise. The value of your house hasn’t necessarily changed, your income might not have changed, and your net worth might still look impressive. But the amount of money available to spend each fortnight can change dramatically.
This is why debt deserves to be considered alongside wealth rather than simply deducted from it. Two people could have exactly the same net worth but have very different financial realities.
Imagine two scenarios. In one a person owns their home outright and has a large amount of disposable cash available each month. In the other a person has the same amount of equity tied up in a highly leveraged property. Their net wealth might be identical, but their financial lives are not.
Savings rate
Savings provide another piece of the puzzle. The average Australian savings balance increases significantly with age, but the median is much lower than the average, reflecting the large differences between households. The average savings rate for Australians according to the OECD is 6.1% of income.
Source: Westpac, the average and median savings balances in Westpac accounts by age.
Again, these numbers don’t necessarily tell us how wealthy someone feels. Someone with $30,000 in a savings account and $500,000 in super might feel financially secure. Someone with $100,000 in savings but significant debt and large monthly commitments might feel considerably less secure.
This is where traditional measures of wealth start to fall down. Most people don’t wake up in the morning thinking about their position in the Australian wealth distribution. They feel wealthy when they have choice.
Choice over how they spend their money. Choice over whether they can say yes to a holiday. Choice over whether an unexpected $5,000 bill is a disaster. Choice to leave a job they don’t enjoy.
This is why I think there are several measures of wealth that are more meaningful for an individual that can help measure choice.
Measures that make you feel wealthy
1. Discretionary income
The first is how much money you have left after paying for the things you need. This is different from income. You could earn $300,000 a year but have very little discretionary income if your fixed expenses are high.
Conversely, someone earning considerably less could have substantial financial flexibility if their housing costs are low, their debt is minimal and their lifestyle is inexpensive.
If you’re looking to compare discretionary income to a national average to see where you sit, Commbank’s iQ Cost of Living report finds that the average Australian adult has about $1,379 per month available for non-essential discretionary goods and services. How you compare to this average will play a big role in how wealthy you feel.
2. A fully stocked emergency fund
This is one of the simplest tests of financial security.
One of Morningstar’s behavioural studies reaches a conclusion that surprises many investors. The biggest improvement many people can make isn’t finding a better investment - it’s building a larger emergency fund.
There are two categories that measure financial wellbeing. The first is objective, and the most obvious. It is the ability to meet current and future financial needs.
The second is a little more nuanced. It is the subjective feeling of being financially secure and being able to enjoy your life. This feeling will vary from person to person and will require different levels of the ‘objective’ goal to be achieved.
For example, one person may feel financially secure holding six months of emergency savings. Another person might think this is not enough and want at least two years of emergency savings in the bank to have peace of mind. There is no comparison to others when it comes to your emergency fund – the amount that gives you financial security is subjective to you.
Morningstar’s study finds that many people struggle to build an emergency fund.
In the study, only 41% had a fully funded emergency fund. Adding to this, those who did not have an emergency fund struggled to make progress on building this key enabler of financial success. Most had not reached half their target, and 25% had no emergency savings at all.
The likelihood of having a fully funded emergency fund was linked to both objective and subjective financial wellness - those who felt dissatisfied with their finances were less likely to have good emergency-savings behaviour, and this effect was larger when a person had lower amounts of investable assets.
However, subjective financial wellness was not always achieved, even by those with the highest investable asset base (more than $349,000 USD). Many people at this asset base reported feeling financially dissatisfied. 30% of them failed to reach emergency-savings adequacy.
3. Low financial obligations
The third measure is the amount of your income that is already committed before you receive it. This is why paying down debt can have a different psychological effect from accumulating investments. Paying down debt offers immediate relief, while investing is hoping that your sacrifice in the present pays off for your future.
An investment portfolio can make you wealthier on paper, but a mortgage repayment is still coming out of your bank account every fortnight.
Paying off the mortgage doesn’t necessarily maximise your bank account balance but it can dramatically increase the amount of income that is discretionary. This can change how wealthy you feel. The same principle applies to other recurring obligations. The more of your future income that is already spoken for, the less financial freedom you have.
4. Time
The final measure is perhaps the most important: how much control you have over your time.
Money is ultimately a way of giving ourselves choices. If your financial position means you can work fewer hours, take a career break, spend more time with your family, travel or retire earlier, that is a form of wealth that doesn’t show up neatly in a net-worth calculation.
This is where I think the concept of financial independence becomes more useful than simply chasing a particular wealth percentile. Money is an enabler. If you have enough to control your time and your life to whatever capacity you desire, that is a significant form of wealth.
Final thoughts
Comparing yourself with other Australians can be useful in benchmarking progress, but it can be a distraction. There will always be someone with a bigger house, a higher salary, a larger super balance or a bigger investment portfolio. None of these comparisons tell you how financially free you are and feel. Instead, I look at four questions to measure my own financial freedom:
- How much of my income is discretionary?
- How many months of essential expenses could I cover without an income?
- How much of my future income is already committed to debt and other obligations?
- How much choice do I have over how I spend my time?
Those numbers may tell you more about how wealthy you actually feel than any traditional measure.
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