The framework for Australia’s retirement policy set up in 1992 was original and even world-leading. It offered great promise that, once the new arrangements settled in, the retirement needs of our ageing population would be well-provided.
Alas, in recent years, our retirement arrangements, and particularly the superannuation component, have been losing their lustre, because of the many changes in regulations already made and in prospect.
The framework proposed twenty one years ago
The original framework had four components.
First, the taxpayer-funded age pension would continue to provide for a relatively frugal lifestyle and be means-tested. This was in line with the traditional approach in this country to the age pension, but stood in contrast with the higher, and universal, age pensions paid in much of western Europe which, in recent years, have contributed to government financial problems across a lot of Europe.
Second, there would be compulsory contributions into superannuation, mostly paid from employers, with recognition these payments would lessen the rate of increase in average wages. These compulsory contributions would start at 3% of wages and the required minimum would be raised, over time, so that a large proportion of the future retirement needs of middle Australia would come from the compulsory contributions and the accumulated earnings on them.
Third, there would be tax benefits provided for superannuation savings, to boost the return on compulsory contributions and to give some encouragement for voluntary savings in superannuation.
The fourth feature of the proposed retirement arrangements attracted surprisingly little attention at the time: most Australians would have defined contributions superannuation rather than the defined benefits superannuation that traditionally applied to the small proportion of the workforce who had participated in superannuation.
In the future, the amount of superannuation most of us would draw on in retirement would be defined by the amount of contributions paid into our superannuation accounts and the accumulated earnings on those funds.
The retirement framework is not working out as well as was hoped
But 21 years on, the goal of sustainability in Australia’s retirement system is proving to be elusive.
In part, that’s because we are, on average, living much longer and have more years of retirement to fund than was earlier expected. For the most part, that’s a good problem to have. (As average longevity is likely to rise further in the future, let’s make enough allowance for that, both in thinking about future strains in the retirement system and when individuals plan their own retirement).
But there are other and more deep-seated problems. The rules for superannuation keep changing, making it unnecessarily hard for people to plan for their retirement years. For example, there’s the imposition of a cap of $25,000 on the annual tax-favoured contributions into an individual’s superannuation fund (including, of course, the contributions paid by employers on behalf of their employees).
This will prevent many people, particularly parents in their late fifties and sixties who are better placed to save when their offspring have finally left home (some for the third time) from building up enough superannuation to carry them through what could be several decades in retirement.
There have been widespread suggestions that taxation of superannuation will be increased in this year’s budget, in part because the government needs additional revenues to fund existing and proposed spending programmes and in part because the current tax treatment of superannuation is said to unreasonably favour high income groups.
Taxation of superannuation: the main options
Superannuation has four possible taxation points:
- contributions
- investment earnings
- benefits
- death of the superannuation member
My preference was always to have superannuation taxed when the benefits are paid, whether taken as lump sums or as superannuation pensions.
But the decisions of successive governments have left us with taxation arrangements that run as follows: there’s taxation (at rates of 15% or 30% depending on the income of the contributor) of most money going into superannuation funds; also, investment earnings are taxed while the individual’s superannuation is in accumulation phase; but superannuation benefits paid to people aged over 60 are untaxed; and tax applies to most undrawn, tax-benefited contributions left in the estate of superannuation members when they die (any taxable component of superannuation benefit not paid to a dependent spouse or minor child is taxed at 16.5%).
The exaggerated numbers of taxation foregone
The Federal Treasury publishes figures each year for ‘taxation expenditures’, or how much tax revenue is forgone by existing tax concessions. I have trouble accepting the Treasury’s estimates that $30 billion (and soon to be $40 billion) a year of tax revenue is forgone because of the favoured taxation treatment of superannuation – estimates that the government is using to justify increased taxation of superannuation.
Those calculations make inadequate allowance for the front-ended taxation of superannuation. They assume the $1.5 trillion of assets currently held in superannuation funds would be invested elsewhere with all earnings taxed at marginal rates, and none would be spent or invested in tax-effective ways. In addition, the calculations ignore future collections of tax from estates.
Even without any further tax imposts on superannuation, superannuation isn’t the preferred vehicle for additional retirement savings it was intended to be. Many Australians now find they’d be better off putting further saving for retirement outside rather than within their superannuation account.
An increasing number of Australians will even find they’d improve the after-tax returns on their investments by moving some current savings in superannuation to other categories of their wealth holdings.
What’s needed?
It would be great to see a review and renewal of Australia’s retirement system, with:
- caps on life-time contributions to superannuation set at a level that permits adequate self-financing of retirement
- taxation arrangements leaving superannuation as the preferred vehicle for retirement savings
- fewer year-by-year changes in the design of retirement arrangements
- the ages for various entitlements to the age pension and superannuation moving up in parallel with average longevity.
Sadly, breathing this new life into the structure of retirement policy would require standards of leadership and bi-partisanship lacking in Australia these days.
Don Stammer is an advisor to the Third Link Growth Fund, Altius Asset Management and Philo Capital Management. He writes a weekly column on investments for The Australian newspaper. The views expressed in this column are his alone.