As highlighted and discussed in Chapters 3 to 7, Treasury and successive governments have been asleep at the wheel in allowing the budgetary costs of both their own and private superannuation arrangements to increase to unaffordable long-term levels. Apart from the massive, already underestimated public sector unfunded super liability, the current tax subsidies (or tax expenditures) are adding to the burgeoning overall social welfare spending commitments.
Way back in the 1980s, the SWPS, via an actuarial review of the costs of the age pension, highlighted major challenges for the age pension system offering generous benefits made affordable only because of a relatively low percentage of retirees in the population and modest welfare spending on the working-age pension population.
Since then, policy-wise, nothing good has happened to reduce the pressures of an ageing population on total outlays other than a belated closure of all the major unfunded defined benefit schemes to new members in 2005 and 2015. In stark contrast to the 1980s, the introduction of the NDIS and increasing aged care and health outlays have sharply boosted spending on the working-age population.
Treasury’s reluctance to follow NSW’s lead in shutting down its defined benefit employee funds in 1985 and 1988 to new members has added, by my conservative estimate, at least an indexed $300 billion to future tax burdens. The potential future costs of the successive decisions to introduce compulsory super (but only for wage earners) at the current 12% of salary already exceed these costs and, unchecked, will continue to increase.
The fundamental problem is that the decision-makers never scrutinised the costs and benefits of superannuation tax concessions. More specifically, there is no effective mechanism, such as those proposed by many actuaries over the years, requiring retirees to draw their benefits as an income stream, which would automatically integrate it with the age pension system.
Without any formal integration with the age pension system, there are no guarantees that retirees use their lump-sum superannuation benefits for retirement income purposes. As the system has evolved, it has become much more inequitable, providing larger tax subsidies to better-off or better-informed taxpayers, especially after the total removal of maximum benefit limits that applied in earlier times. Even more surprising is the lack of attention to super in the recent budget crackdown on the negative gearing and trust tax shelters. This will inevitably switch attention to the attractions of using superannuation as an alternative investment vehicle.
Given the extent of the budgetary challenges ahead, this may well speed up and force (long-overdue) changes on the superannuation system. In the meantime, sensible reforms of the compulsory superannuation arrangements offer the prospect of helping individuals and the economy deal with challenges, especially those facing the growing percentage of the population renting in the private market and/or struggling to achieve home ownership.
Already, the Treasurer is treating questions about the negative impact of compulsory super in the same vein as criticism of the latest crackdown on negative gearing strategies. In reality, in both cases there is no black-and-white easy solution to achieve a fair and efficient outcome.
Consider, as an example, the crackdown on negative gearing for property investors, confining the strategy to newly constructed property. This will force younger people wanting to use this tax shelter to gain a foot in the property market to buy higher-risk newly constructed property, in many cases off the plan. This change will help better-off existing property investors to focus on the existing property market with less competition and still gain the advantage of negative gearing, using their existing property income to cover the losses on the new purchases.
The superannuation system similarly is heavily weighted in favour of better-off, higher-income taxpayers, especially homeowners with minimal levels of debt. Especially for younger people unable to access their super until age 60, paying off non-deductible interest on personal and housing debt can be more rewarding than accumulating super balances, even when the superannuation contributions receive a tax benefit.
For many taxpayers, the maximum tax saving is 17%, the difference between their standard marginal tax rate of 32% (up to an annual income of $135,000) and the 15% super tax rate. Apart from the advantage of an immediate tax-free interest saving on reducing the debt, the return is risk-free and comparable to that achievable on capital-secure safe super investments. The situation changes later in life when taxpayers are closer to or past age 60, when the 15% super tax rate can generate larger benefits than the compound interest benefit of reducing personal debts.
For taxpayers subject to marginal tax rates lower than the standard 32% rate, compulsory super, enforced only on wage earners, can and does in many cases reduce their living standards. Without tax advantages, forcing lower-income people to save for retirement worsens both their short- and long-term financial situation. The fact that the legislation does not force self-employed people and investors to contribute to super highlights the unfairness of the current system.
Just as the government applies restrictions on access to the age pension, it needs to reintroduce limits on the lifetime or annual value of the superannuation taxation benefits of individual or combined couple superannuation benefits. In working for SWPS in the 1980s, we suggested a lifetime superannuation tax reduction equal to the actuarial value of the age pension would level up the playing field and encourage people to save for retirement.
Any unused tax concession would be available as an income stream in retirement. Using up the available tax concessions would nevertheless provide a much higher standard of living in retirement, with the magic of compound interest over a lengthy period boosting the funds available. This approach, of course, totally accords with the stated sole purpose test for superannuation, providing a retirement income.
The reality, unfortunately, is that successive governments have never focused on ensuring that the compulsory super system ensures that retirees use the assets accumulated to provide retirement incomes. The first union initiatives to boost remuneration in a time of wage restraint and give the union movement management control of the assets involved were followed by multiple decisions to increase the compulsory contribution rate from the original 3% to the current 12% of salary, without any detailed cost/benefit analysis.
This all started at a time when housing was affordable and a substantial percentage of the workforce owned or were buying their own homes in a regulated financial system. Over the 30-year period of a 400% increase in the compulsory super contribution rate, rising personal income tax burdens, the introduction of the 10% GST, increasing house prices, deregulation of the financial market and higher levels of immigration have combined to produce the current housing crisis. Higher house prices and an inadequate supply in key locations have generated major problems for the growing percentage of renters and first-home buyers.
The decisions of both major political parties supporting the continuing increases in the compulsory superannuation contribution rate to the current 12% have reduced the take-home pay of most wage earners by at least 8.2%, and even more for lower-income and part-time workers. As mentioned previously, this may not be an issue for older people and homeowners. But for many renters and new house purchasers, this forced saving increases their current financial pressures.
This raises the question of whether compulsory superannuation is in the best interests of all Australians, especially when compulsion only applies to wage earners. At the current time, moreover, long-term interest rates under pressure and continuing high inflation are limiting the budgetary scope available to address housing affordability issues.
Given the already large, by world standards, $4.5 trillion in Australian super fund assets (with more than 30% invested overseas), compulsory super is no longer essential to ensure the strength of the existing super funds and the increase in total assets. Wholesale or selective changes to current arrangements therefore could both reduce the budgetary burden and improve the financial situation of many people.
An immediate improvement would be to confine compulsory super contributions to taxpayers under age pension age with current superannuation assets totalling less than an indexed $2 million. This would include an assessed actuarial value of any accruing or existing defined benefit pension benefit. This change would limit access to compulsory super contribution tax benefits by taxpayers already able to convert the maximum-size lump-sum amount to a pension at age 60 or later. This is currently the transfer balance cap of $2.1 million.
In situations where compulsory super contributions are payable to all other workers, the specified contributions would still be payable as taxable income. Indeed, given that legislation enforces the payment of compulsory super at a 12% rate up to a high cap for all employees, the only realistic replacement option in all cases is to offer the alternative of payment of the stipulated amount as taxable wage income. Importantly, choosing to have the money paid as wage income still allows the employee to make tax-deductible superannuation contributions during the tax year.
Indeed, Australia’s current flexible arrangements allow all taxpayers to obtain a maximum $32,500 tax-deductible super tax deduction, allowing all taxpayers wanting to do so to access this benefit. Amongst other things, this would ensure that replacing compulsory super by a 12% wage increase would still result in large annual tax-deductible superannuation contributions.
Amongst other things, this policy change would help limit the growing annual cost of the superannuation tax concessions. A more selective approach would be to focus on groups such as low-income earners, renters and first-home buyers under financial pressure. Recent legislation requiring employers to pay compulsory super at the same time as wages simplifies the administrative changes required for individual employees to opt to take the money as wages.
Apart from at once changing the legislation to require the payment of compulsory super as wages for all people with more than $2 million of existing or past benefits, the government would help the following categories of taxpayers greatly by giving them the option to elect to have their compulsory super paid as wages:
- people with annual taxable income of up to an indexed $45,000; and
- all private-sector renters and home purchasers with mortgages of 70% or higher with indexed annual taxable incomes of less than $130,000.
Even with these exceptions, compulsory super contributions would still be mandatory for a substantial percentage of the population. Renters and others not needing help could opt to continue to receive their compulsory super benefits. Chapter 19 will focus on further superannuation changes that would improve equity and offer alternative or supplementary ways to help more Australians achieve home ownership.