The blind appeal of tax breaks

Robin Bowerman, Head of Retail at Vanguard Investments Australia.

More from Vanguard:

1. Debt rings alarm bells
2. A new financial year resolution
3. Last-minute super contribution risks
4. Are your super expectations too high?
5. The blind appeal of tax breaks
6. Harnessing the herd mentality
7. Fixed interest can help alay fears

SPRING cleaning may be therapeutic for the soul but for investors the end of a financial year is often approached with all the joy of root canal work.

But it is a good time to review, rebalance and possibly reposition the portfolio. Regrettably, the end of another tax year is also a time when both the best and worst of investor behavior can be on display.

As human beings we are hard-wired for the here and now so it is not surprising that people are seduced by the appeal of the tax deduction today versus the prospect of a return a long way into the future.

In the Australian financial services world May-June is typically a busy time of year as the financial year deadline spurs people into action in order to manage their tax position.

But the end of the 2009-2010 financial year promises to be a little more subdued than in recent times thanks to a number of strong influences.

A couple of bad months on sharemarkets here and around the world have severely tested investor confidence and when you combine that with the restrictions on superannuation contributions it points to a quieter time than the financial planning and funds management industry generally anticipates as people look to top up their super to maximise their tax concession or possibly take out margin or home equity loans to negatively gear investments.

But there is another factor that also helps explain a more subdued financial year end for some investors – the heavily marketed, commission-laden agricultural schemes suffered a big credibility hit from the collapse of two of the major promoters – Timbercorp and Great Southern.

The demand – not to mention the number of products - for those type of investments has dropped dramatically and some of the leading companies and research groups working in the sector have publicly acknowledged the fall in investor appetite.

Hopefully what emerges are more transparent ways to invest in agriculture with better understanding of the risks – particularly the liquidity side.

This brings us to the question of what motivates us to make various investment decisions. The forestry schemes provide a good case in point. You should never underestimate the power of a tax break to get people writing cheques.

Otherwise rational, smart investors seem to lose perspective around tax year end and invest hard-earned capital, seemingly dazzled by the bright lights of a tax deduction.

The behavioral challenge we all face as investors is to look beyond the short-term - be it tax deduction, headline performance number or market volatility – and take a serious look at the underlying investment.

At the end of the day – as many who invested in the forestry schemes have learned at their cost - a tax break cannot make up for a bad investment.

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Robin Bowerman, Vanguard Investments Australia's Head of Retail, has more than two decades of experience in the finance industry as a writer, commentator and editor.