Education Bond Analysis

I've now done some spreadsheet simulations of education bonds. Assuming that our marginal personal tax rate will be 30%, the goal is to pay out fund earnings equal to the 30% tax threshold, which is currently $45k (everything in AUD of course) in each of the three years the children are in university. I assume a nominal fund return of 9% and inflation of 3% per year. I increase the amount saved each year by the rate of inflation. When the children finish university, all the contributions are removed.

For Little My, who is now in school year 1, you need to start by saving $17k in the scheme this year. In the end there will be $241k of contributions. The maximum tax saving over the 3 payout years is $40,600 in total and the management fees incurred over the course of the scheme are $18k. The cost of the management fees is a bit higher than this–about $3-$4k–due to compounding. So, the tax benefit is roughly double the extra cost. However, if Little My earned the equivalent of $18,200 per year–the current tax-free threshold–the tax benefit goes down to $16,500!

For Moomin, who is now in school year 5, you need to start by saving $31,750k in the scheme this year. In the end there will be $282k of contributions. The maximum tax saving over the 3 payout years is $36k in total and the management fees incurred over the course of the scheme are $15,500k. The cost of the management fees is again a bit higher than this due to compounding. So, the tax benefit is roughly double the extra cost. However, if Moomin earned the equivalent of $18,200 per year–the current tax-free threshold–the tax benefit goes down to $14,900.

Here is Little My's analysis:

Of course, if they don't go to uni, but work instead, you pay a whole load of management fees and get into maybe a suboptimal investment for nothing. 

Also, up till now I have assumed that our all income is ordinary income. If instead it is all long-term capital gains–for example from selling gold ETF shares–then the tax benefit is halved and the maximum tax benefit is equal to the management fees. Of course, the 50% capital gains discount might not exist in the future–Labor wants to abolish it. If all our income came from franked dividends, then in the 30% tax bracket we would pay no tax on these anyway and so there would be no tax benefit, just management fees!

P.S. 

It seems unlikely that the two of us would earn more than $270k between us outside of super, but just for completeness, I looked at the case where we are in the 37% tax bracket.  In this case the tax benefit for Little My assuming they don't work and keeping all other assumptions the same, rises to $54k or three times the management fee. But again, if all our income came from capital gains that would only be $27k and if all our income came from franked dividends our tax rate on the grossed up dividend is only 7% after the franking credit or 10% of the net dividend. This means there is only a tax benefit on the first $18.2k paid out for education expenses, which would be negated if Little My worked. So, I don't think I am going to do this.