Reading time: 9 minutes
On this page
- The end of a decade
- Locking in a high Age Pension
- Caught in a pincer movement
- Retirement income policy demands long-term modelling
- Is a steeper taper rate for the Age Pension assets test ‘fair’?
- Dissipating savings in the short run; limiting saving in the long run
- Fixing the mistakes from the 2017 Age Pension and superannuation changes
- About the authors
“Progress, far from consisting in change, depends on retentiveness. ….. when experience is not retained, as among savages, infancy is perpetual.” (Georges Santayana, The Life of Reason, Volume 1, 1905)
The end of a decade
To build personal savings to a level that would support a self-financed retirement takes a working lifetime. Regrettably, the Coalition government has given Australia’s most comprehensive retirement income reforms just 10 years before reversing them.
In 2007 a former Coalition government enacted the well-researched Simplified Superannuation reforms to improve retirement living standards, which was based on two central ideas: the introduction of tax-free super for most over-60s and a gentler taper rate on the Age Pension assets test.
In changes taking effect in 2017, the current Coalition government completely reversed policy direction on the two central ideas of the 2007 reforms.
Background on the 2007 reforms: Simplified Superannuation contained a series of radical Age Pension and superannuation reforms proposed in the May 2006 Budget, and detailed in an extensive discussion paper of the same name, open to consultation until August 2006. The reforms were legislated in slightly modified form and took effect mostly from 1 July 2007 (for superannuation) and 20 September 2007 (for the Age Pension). The package is sometimes referred to in later documentation as the ‘Better Super Reforms’.
The reasons for the 2007 changes, the impacts of the poorly-tested 2017 changes, and the implications for the future of Australian retirement income policy are developed in a longer paper from which this summary is drawn. That paper is available on the Save Our Super website (see link at end of this article).
The 2015 and 2016 Budgets separately (and perhaps accidentally) created, from 2017 onwards, incentives for a retirement strategy of maximising income by accessing a substantial Age Pension, supplemented by moderate superannuation savings. In the example we illustrate here, for a couple with their own home, lifetime savings should logically be self-limited to about $400,000 to maximise total income sourced from Age Pension entitlements and superannuation savings. The situation is illustrated in the charts below.
Locking in a high Age Pension
Oddly, the optimum use of the Age Pension suggested by the Coalition government’s incentives will tend to drive people towards accessing about 94% of the full Age Pension. This tendency is signalled principally by ‘taxing’ superannuation income from savings between $400,000 and $800,000 at an effective marginal tax rate of over 150%. This financial impact results from doubling, in January 2017, the withdrawal rate in the Age Pension assets test back to its pre-2007 level (from losing $1.50 of Age Pension for every $1,000 of additional savings over the assets-free area, to losing $3.00 of Age Pension for every $1,000 of additional savings). Over the savings range of $400,000 to $800,000, doubling lifetime savings leads to about $11,000 less overall annual income. This is the same issue first reported (with slightly different estimates) by Tony Negline in ‘Saving or slaving: find the sweet spot for super’, The Australian, 4 October 2016, and ‘Save more, get less: how the new super system discriminates’, The Australian, 26 November 2016.
Caught in a pincer movement
Only when superannuation savings rise to $1,050,000 is it possible to enjoy more income in retirement than from saving $400,000 and taking 94% of the full Age Pension.
Further, key July 2017 superannuation changes — the unprecedented $1.6 million transfer balance cap, and the reductions in allowable concessional and non-concessional contributions — make it much harder to ‘save across’ the savings trap between $400,000 and $1,050,000. From 1 July 2017, would-be self-funded retirees have been caught in a pincer movement between the Age Pension changes and the superannuation changes. Those with super balances already in the ‘savings trap’ between $400,000 and $1,050,000 are, in effect, encouraged to spend the excess over $400,000 (for example on holidays, a more valuable house, or renovations) at no cost to their annual income. Instead, increased and sustained reliance on the Age Pension will make up the shortfall in superannuation income, and limit if not reverse the assumed short-term expenditure savings for the Coalition government.
Retirement income policy demands long-term modelling
Whatever the short-term budget impacts, it is the long-term effects of these changed incentives on savings and work over a career spanning 40 or more years, and on pension dependence over a retirement spanning 30 or more years, that are the most important.
The long-term effects of the 2017 super and Age Pension changes alter retirement living standards and fiscal sustainability through their effects on superannuation saving, workforce participation, retirement decisions and Age Pension uptake.
Compare super fundsRead more...
For the 2007 reforms, Treasury’s special retirement income modelling group published a series of estimates (both at the time, and subsequently) of the long-term evolution of retirement living standards and superannuation and Age Pension usage using RIMGROUP, a comprehensive cohort projection model of the Australian population. Regrettably, there is no publicly available, official modelling of the 2017 system with the sufficiently long, 40-year horizon necessary to clarify whether the new system improves retirement living standards and fiscal sustainability or (as we argue) will very likely worsen them.
The likely halt in declining dependence on the full Age Pension
Even without the necessary long-term modelling, it is clear that the rapid move that was underway from reliance by most on a full Age Pension towards supplementing a diminishing part Age Pension with increasing superannuation savings will now be greatly slowed or halted.
The destruction of confidence in retirement income policy making
Moreover, the Coalition government’s reversal of its own 2007 policies in just a decade (and without enacting appropriate grandfathering provisions relating to the previous rules) has seriously damaged confidence in both superannuation, as a repository for life savings, and in the Age Pension, as the safety net for those less able to save (for the authors’ analysis of why grandfathering is so important, see SuperGuide article Super reforms are retrospective, and rules should be grandfathered).
We argue that the incoherence and perverse incentives now at the heart of retirement income policy presage the need for further policy changes. The Age Pension and superannuation policies are now Budget-to-Budget propositions.
Overloading a sinking ship
Another consequence is that the ambitions of the Coalition government to load new tasks on to superannuation incentives, such as creating deferred income products or assisting saving for a first home, are likely to fail.
If citizens can’t rely on the government to respect obligations to those who trusted their lifetime savings or retirement income to yesterday’s laws, why should they allocate additional savings for a decade or more hence on the basis of today’s laws?
The 2016 Federal election saw Labor, Liberals and the Greens in a chaotic, ill-specified competition to raise more tax from superannuation, with no modelling of the long-term effects. Such a chaotic approach does not augur well for future policy making in this most complex policy area, where mistakes have long-lasting consequences and savers’ confidence is easily destroyed and very difficult to rebuild.
Pictures of policy reversal: the 2017 savings trap
The three charts below show how the Age Pension changes in the 2015 Budget (taking effect from January 2017) could be claimed by the government to save expenditure in the short run. But coupled with the superannuation changes in the 2016 Budget (taking effect from July 2017), they introduce instability and create long-term Budget costs that will likely render the changes unsustainable. The charts below are derived from a model created by Sean Corbett, B Comm (UQ), B A (Hons) in Economics (Cambridge), M A (Cambridge). Sean has more than 20 years of experience in the Australian superannuation industry, principally in the areas of product management and product development. He has worked at Challenger and Colonial Life, Connelly Temple (the second provider of allocated pensions in Australia) and Oasis Asset Management.
The Corbett model captures the key interactions between the superannuation system and the Age Pension under its income and assets tests. It uses illustrative superannuation balances rising in $50,000 increments, and allows exploration of total incomes enjoyed with various superannuation balances by retirees who are either single or part of a couple, either with or without home ownership. It also allows estimates how long various superannuation balances will last in retirement. The Corbett model is archived and available on request from the authors, who thank Sean for his permission to draw on his work, and for his helpful comments on drafts of the longer paper cited above. Assumptions behind the model and the charts drawn from it are available in our longer paper (see link at the end of this article).
Chart 1 below shows illustrative superannuation saving totals in 25 steps between $150,000 and $1,350,000 for a 65-year-old couple who own their home. Charts 2 and 3 show the Age Pension available, the legislated minimum superannuation income drawdown and the total income corresponding to each of the 25 illustrative lifetime superannuation total balances appearing in Chart 1. Chart 2 shows the situation under the rules that applied from 2007 to 2016; while Chart 3 shows the situation under the Age Pension rules since 1 January 2017 and the superannuation rules after 1 July 2017. To focus comparison on the change in policy itself (rather than indexed changes in pension rates), both charts use pension values at September 2016. Further analysis follows the charts below.
Chart 1: Twenty-five illustrative superannuation balances on retirement at 65 (couple, homeowners)
Click on the image to see a larger version
Chart 2: Corresponding annual retirement incomes, pre-January 2017 pension asset test, from legislated minimum super drawdown (5% per annum)
Click on the image to see a larger version
Chart 3: Corresponding annual retirement incomes, post-January 2017 pension asset test, from legislated minimum super drawdown (5% per annum)
Click on the image to see a larger version
Is a steeper taper rate for the Age Pension assets test ‘fair’?
The potential short-run expenditure savings from reverting to the pre-2007 Age Pension assets test taper rate (losing $3 of Age Pension for every $1,000 of savings) can be seen by comparing Chart 2 and Chart 3: Couples in cases 15 to 21 lose all part Age Pension entitlements under the 2017 Age Pension changes.
Whether the potential short-term savings from introducing a harsher Age Pension assets test will eventuate is uncertain — it depends on behavioural responses to perverse incentives outlined below. The new 2017 rule has been defended as ‘fair’: why should a couple owning their own home and with $850,000 (case 15) or more in superannuation receive any part Age Pension, however small?
In 2006 and 2007 the answer to that question was explained in Simplified Superannuation and is illustrated in Chart 3. To truncate the part Age Pension abruptly by case 14 produces a wide range of very high marginal effective tax rates of over 150%. This causes its own unfairness: as noted above, a couple could double their lifetime superannuation savings to $800,000 over the ‘sweet spot’ of $400,000, yet would have an annual retirement income of $11,000 less. A couple could save $650,000 more than the superannuation ‘sweet spot’ and get barely any more annual income. We suggest few would consider those fair outcomes.
Dissipating savings in the short run; limiting saving in the long run
In the short run, those with superannuation savings already above the ‘sweet spot’ will be induced to spend those savings, increasing the part Age Pension they can claim. Over time, this savings trap is likely to produce a heavy focus on ‘Age Pension first’ retirement strategies, aiming at the ‘sweet spot’ which yields 94% of the full Age Pension, and supplemented by limiting savings caught under the Age Pension means test to $400,000. Any remaining extra savings will likely be placed beyond the assets test, for example into the principal residence and its renovation.
These perverse incentives stemming from the January 2017 changes are in marked contrast to the Simplified Superannuation Age Pension rules that applied until the end of 2016.
The key point shown in Chart 2 about those earlier rules is that for every $50,000 step up in super savings, the withdrawal rate of the part Age Pension was deliberately calibrated to ensure the saver received some increase in combined income from super savings and the remaining part Age Pension. There was no disincentive to save more, nor any incentive to dissipate existing savings in order to draw a larger Age Pension. The effective marginal tax rate on the income from additional superannuation saving between $400,000 and $1,150,000 was almost 80% — obviously very high — but an inevitable compromise in moving from full to no Age Pension without continuing fiscally costly access to the part Age Pension at excessively high income levels.
Fixing the mistakes from the 2017 Age Pension and superannuation changes
When a future government is forced to correct the mistaken 2017 changes in retirement income policy, it will first have to rebuild public confidence in rule-making for the Age Pension and superannuation system. A future government will have to offer a clear strategic vision for sustainable change, and demonstrate the long-term consequences of proposed change for both better retirement outcomes, and more sustainable Federal Budget outcomes. Such an approach will require published, contestable long-term modelling. It will have to consult meaningfully and assure savers and retirees that any future, significantly adverse changes that may be necessary, will include appropriate grandfathering provisions.
All these approaches have been used successfully in the past, but were abandoned for the changes taking effect in 2017.
Jack Hammond, founder of Save Our Super
Terrence O’Brien, former Treasury official
This article is based on a longer paper produced by the authors for Save Our Super. Click here to access the longer paper on the Save Our Super website. For more information on the authors’ views about appropriate grandfathering, see SuperGuide article Super reforms are retrospective, and rules should be grandfathered.
For more information on the specific super and Age Pension changes, see list of articles at end of this article.
Jack Hammond: Save Our Super’s founder is Jack Hammond QC, a Victorian barrister for more than three decades. Prior to becoming a barrister, he was an Adviser to Prime Minister Malcolm Fraser, and an Associate to Justice Brennan, then of the Federal Court of Australia. Before that he served as a Councillor on the Malvern City Council (now Stonnington City Council) in Melbourne. During his time at the Victorian Bar, Jack became the inaugural President of the Melbourne community town planning group, Save Our Suburbs.
Terrence O’Brien: Terrence O’Brien is a retired senior Commonwealth public servant. He is an honours graduate in economics from the University of Queensland, and has a master of economics from the Australian National University. He worked from the early 1970s in many areas of the Treasury, including taxation policy, fiscal policy and international economic issues. His senior positions have included several years in the Office of National Assessments, as senior resident economic representative of Australia at the Organisation for Economic Cooperation and Development, as Alternate Executive Director on the Boards of the World Bank Group, and at the Productivity Commission.
Want to master the Age Pension rules?
Become a SuperGuide Premium member and access independent expert guidance on topics such as:
- how much Age Pension you could be eligible for (including our Age Pension calculator)
- ways you can maximise your Age Pension entitlement
- how your super affects the Age Pension
- detailed guides and case studies on applying for the Age Pension, the Commonwealth Seniors Health Card and state seniors cards
SuperGuide Premium also includes performance rankings for 235 super funds and 166 pension funds, more than 600 articles, how-to guides, checklists, tips and strategies, calculators, case studies, quizzes and a monthly newsletter.
Behind the flourish of abuse, Ian’s complaint shows a misconception of the issues for retirement income policy analysis. I encourage him to read our longer paper on the Save Our Super website, which addresses several of the issues he raises in more detail than space permitted in the SuperGuide condensed version.
Ian is right that we present a snapshot of one year. It is based on just a few explicit assumptions we outline in the longer paper. Those few assumptions are no more or less ‘subjective’ than the much larger set of assumptions, some implicit, that Ian projects for over thirty years into the future.
It is perfectly legitimate to either take a snapshot, as we have done, or to try to make a movie as Ian has attempted. But it is a lot trickier to make a convincing movie.
The key point for national policy we tease out from our snapshot, and which no one disputes, is that there is now an effective marginal tax rate of over 150% on extra superannuation savings over a very wide range. Compared to the superior 2007 arrangements, this discourages building additional savings in superannuation, and encourages the ‘dissipation’ of any existing savings above the ‘sweet spot’ and within that range. ‘Dissipation’ may mean merely moving wealth out of superannuation beyond the Age Pension assets test, most obviously into a home, and substituting Age Pension income for forgone superannuation income.
One could, of course, run down a high superannuation balance faster than required by allocated pension rules in order to sustain a higher income for a period, but as we quantify in our longer paper, that only exhausts the saver’s superannuation balance sooner than otherwise, and returns them to a larger or full Age Pension. So any short-term reductions in public expenditure become long term growth; it is not a free lunch for public policy.
We argue in our longer paper that the range over which perverse incentives now apply is of great national policy performance, because it spans amounts from the super balances that many males now attain in late career, up to the actuarial value of the Age Pension to a home-owning couple. The incentives therefore discourage additional ‘assets-testable saving’ by the very group potentially able to move from heavy reliance on a part Age Pension to fully self-funded retirement through superannuation. That’s bad policy, and unsustainable.
To evaluate Ian’s attempted movie, we need to try to make sense of the growth rates he assumes over more than 30 years. His 2.5% assumptions appears to be both for inflation and Male Total Average Weekly Earnings: that is, no real wage growth and no real increase in the value of the Age Pension. His super earnings assumption of 3% is presumably a nominal return and is an assumption of 0.5% real growth. Those assumptions effectively weight the scales in favour of superannuation compared to the Age Pension, but still cannot match the Age Pension in its immunity from market downturns, inflation and longevity risk.
But the most critical assumptions for Ian’s movie are two he does not mention.
First, he implicitly assumes the rules for superannuation and the age pension remain the same for over 30 years. A key message from our analysis is that the 2017 changes tore up the ‘rule book for changing the rules’. The present set of rules emerged from the chaos of electoral competition in 2016 and are unsustainable, and savers no longer have the protection of grandfathering against significantly adverse changes that applied for 40 years after the Asprey Review. It would be a foolish saver who now banked on the current rules over 30 years into the future.
The second assumption, related to the first, is that Ian implicitly uses a zero discount rate for comparing the benefit of additional superannuation income over thirty years in the future to the cost of saving of an extra $400,000 through an earlier working career to produce that superannuation income. No one would forego $400,000 in consumption (or unrestricted forms of saving) through their working careers to get back a future income stream with only 0.5% real growth, confounded by high economic and policy uncertainties.
Ian’s final rhetorical flourish, that ‘nobody in their right mind would rather have $400,000 in super as they commence retirement as opposed to $800,000’, misstates the real options. I would certainly rather have $800,000 wealth than $400,000 wealth commencing retirement. It is just that I no longer trust Liberal, Labor or the Greens to make sustainable policy on super, so I would keep my hypothetical extra $400,000 outside of super, and maximise access to the Age Pension.
Here we have a case of special pleading masquerading as sober analysis. Couples who have $850k or more of super savings at age 65 are a small minority and by any reasonable measure are wealthy. I would also hazard that they would be savvy enough to know that there are no guarantees any government policy on super is there for the long term. You take the breaks while you can.
And lost in all this breast beating is that retirement savings are to fund retirement and that means drawing down the capital as well earnings. The super and tax systems should not cosset the well off by letting them have their cake and eat it too. Of course the well-to-do can always siphon their excess super into their homes and still get the full pension.
Read the full article, which addresses the accelerated draw down of super balances. See also my reply below on Craig’s comment.
If you’re ultimately concluding:
1. the ‘rules on making rules’ that applied for the last 40 years on super and the Age Pension are no longer applicable, and anything could happen in the next Budget; and
2. the smart thing to do is put your money into your home – until the Government comes after that ;
then I agree with both your propositions.
Why does that leave both of us feeling uneasy??
I am a 67 year old recently retired single homeowner who has salary sacrificed heavily over the last 15 years, by foregoing luxuries such as holidays and a better car, in order to secure a more comfortable retirement. Although the above calculations will differ for a single person the end result will be similar, and unlike someone on the age pension, a self funded retiree is also at the mercy of the prevailing share and property market. If retired people do indeed arrange their finances to maximise their age pension income, how desperate will future Governments have to become before they revisit the idea of removing the average family home from the asset test exemption. From my recollection this was floated around 10 or so years ago with home owners promised a continuing pension but the total figure paid out taken from the recipient’s estate after death. Combine this with the resource depleting arrangements of the average retirement home, if this should become necessary, and don’t expect much left. (At least this would agree with the current philosophy of not leaving anything to the children.)
Great article but it ignores non-income generating assets which also impact on Centrelink payments. It would be good to see modelling that includes these non-income generating assets such as car, contents and other effects (assume, say, 10% of total assets) and how the numbers then stack up.
Agreed. Tony Negline’s articles in the Australian, which we cite as the first illustration of this issue, uses an (obviously arbitrary) assumption on the value of such assets.
I’ll follow through on your suggestion. My intuition at the moment (an unreliable guide!) is that doing as you suggest lowers the ‘sweet spot’ for superannuation balances. Tony suggests the sweet spot is $340,000 in super with $50,000 in ‘personal use assets’ such as car and contents. This sounds plausible to me.
Looks like the best thing for my wife and I to do is buy a more expensive house, leaving $400,000 in super and when we spend that we down size to give us another $400,000 left over from the proceeds. And then do it again.
Sorry about the effect on house prices and the effect on our children trying to buy a house. More unintended consequences?
Not a balanced article, this group ‘save our super’ should be called ‘save super for the very wealthy’ but perhaps it’s not as catchy. Two newsletters in a row where this group has contributed a one sided article. Many economists have stated the 2007 superannuation changes are unsustainable but this is not recognised by this group. I am not saying all the changes are great, but the authors have their own agenda, and fail to point out facts that do not support this.
As Scott Morrison has (correctly) stated, superannuation is not intended to be an Estate Planning vehicle, it’s a retirement planning vehicle, and you draw down on your funds in retirement to fund your lifestyle. If you have more money in super you will be able to fund a bigger lifestyle. This article only assume minimum drawdowns, why?
According to the ASIC Moneysmart if a 66 year old couple had $400,000 in super combined they can fund a retirement of $49,475 p.a. (including age pension) where funds last until age 90.
A Couple with $800,000 can fund a retirement of $57,564 p.a. (including age pension) in retirement. More than $8,000 p.a. more every year. How come the article does not point this out?
Try reading the full article at the Save Our Super website. It addresses the issue of making good a shortfall in combined income below the ‘sweet spot’ from reduced part Age Pension by making greater than legislated minimum annual drawdowns from your super balance. The upshot is that you exhaust your super sooner and go on a bigger Age Pension (or a full Age Pension) sooner than otherwise. Of course from a national policy perspective, which (contrary to your ad hominem) is what the authors try to present, that accelerated return to the Age Pension means any short-term gains to the budget are unwound in later years.
For anyone considering accelerated drawdown of their super balance early in retirement (e.g. at age 65, which is the case we illustrate), I would paraphrase Dirty Harry: “Are you feeling UNlucky, punk?” If you die early, your choice will be validated.
But think of life expectancy in the way illustrated by Jeremy Cooper for the Centre for Independent Studies, in his second chart at : https://www.cis.org.au/app/uploads/2015/12/Speech-150707.pdf?
In 2012, the average life expectancy at 65 is 83, but the mode life expectancy is 87, and just one standard deviation above the average is 92. If you are lucky enough to live to 92, you may reconsider your enthusiasm to make rapid drawdown of your super balance. And of course life expectancy at 65 (and at birth) is still climbing.
Good luck!
What is commonly overlooked is that the receipt of a full old age pension is the equivalent of having the current investment returns on taxpayer provided capital of over $one million dollars. Plus the other Pensioner perks of discounts and benefits denied to SMSF or Industry fund holders who have been dudded by the Treasury treachery and envy.
The reason for their envy is that their enormously generous and indexed by government guarantee ( i.e Taxpayers ) ceases or is communed to their spouses on their passing whereas the proceeds of self provided Super funds may be arranged in a estate tax effective way.
I originally thought I may assist my children accumulate higher Superannuation balances however the meddling means that I am much better off spending it on toys
This is a great article. The ineptitude of the Govt policy makers/pollies on this issue is staggering. It will obviously need to be fixed. Sooner rather than later I hope for the benefit of ALL Australians!