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Note: This article was published before the government announced changes to the deeming rates on 14 July 2019, dropping the lower rate from 1.75% to 1%, and the higher rate from 3.25% to 3%. For more information on the changes see SuperGuide article Age Pension deeming rates cut, at last, and learn more about deeming in SuperGuide article Deeming rates for the Age Pension income test.
As official interest rates drop to a record low of 1%, Age Pensioners who depend on income from cash investments face a double whammy. Not only do they receive less income from their bank deposits as interest rates fall, but they also risk losing some pension because they are deemed to earn more than they do.
“It’s a pension tax,” says National Seniors chief advocate, Ian Henschke.
To be eligible for the full Age or Veteran’s Affairs Pension under the income test, a single person can earn up to $174 a fortnight ($4,524 a year) before losing some of their pension. Couples can earn up to a combined $308 a fortnight ($8,008 a year).
For every $1 you earn over the threshold you lose 50c in pension income.
So, what sort of income are we talking about? Income from work, an income stream from a super pension or annuity, interest from bank term deposits, share dividends and rental income from investment properties are all included in the pension income test.
But here’s the rub. Rather than assessing the actual amount of income you earn from these investments the government assumes you are earning a fixed rate of return referred to as the deeming rate.
Bank deposit rates falling
While the best term deposit rates for $50,000 are currently around 2.5%, but typically below 2% from the big banks, deeming rates can be significantly higher depending on the value of your investments.
The current deeming rate for singles is set at 1.75% for the first $51,200 in financial assets and 3.25% above that level. For couples where at least one of you gets the pension, the threshold is $85,000.
In other words, a single pensioner who has no other sources of income, can have investment assets worth around $163,000 (with deemed income of $4,524) and still receive the full Age Pension. You must also pass the assets test, have reached pension age and be an Australian resident. Couples can have investments assets worth a combined $286,180 (deemed to earn income just below $8,008) and receive the full pension.
Because of the complex interplay between the Age Pension income and assets tests, your relationship status and whether you own your home, a large group of pensioners are potentially unfairly penalised by current deeming rates.
Once your financial assets reach a certain threshold, your pension eligibility will be determined by the assets test rather than the income test. Single homeowners can have assets of up to $258,500 before their pension is reduced ($465,500 for non-homeowners). Home-owning couples can have $387,500 combined ($594,500 for non-homeowners).
Part-pensioners the biggest losers
These thresholds are summarised in the table below. Pensioners who have assets above the lower threshold will lose pension income under the income test. And pensioners with assets above the higher threshold will lose pension under the assets test. It’s part pensioners who fall between these thresholds who are most likely to be doubly disadvantaged by current deeming rates.
|Status||Asset level affected by deeming rate|
|Single homeowner||$163,100 – $258,500|
|Single non-homeowner||$163,100 – $465,500|
|Couple homeowner||$286,180 – $387,500|
|Couple non-homeowner||$286,180 – $594,500|
“Our best rough estimate is that there are about 350,000 people who would be impacted by the deeming rate given its current setting and the way that the asset and income tests are calibrated,” says Henschke. But he says the figure could be higher.
The situation is only likely to get worse as term deposit rates head below 2% in response to falls in the official cash rate.
Interest rates heading lower
The government set current deeming rates in 2015 in response to the Reserve Bank of Australia’s decision to lower the official cash rate to what was then, an historic low of 2.25%. Since then, the RBA has cut rates to a new low of 1% in July 2019, with further cuts expected.
This is the fifth time interest rates have fallen since 2015 and deeming rates have not changed.
The government’s justification for the current level of deeming rates is that they apply to a wide range of investments, including dividends from shares and rental income from property. If so, deeming is a blunt instrument that discriminates between different types of investors.
Back in 2015, a government publication explaining the new deeming rates argued among other things that, “the deeming rate reflects the returns that pensioners can get for their savings”. For pensioners who rely on term deposits and at-call bank accounts, that is well and truly no longer the case.
One of the problems in working out how many people are unfairly penalised by current deeming rates is that there is no timely data on the type and value of investments held by pensioners.
Ian Henschke says that while most Age Pensioners have got bank accounts, relatively few hold shares or investment property.
According to CoreLogic, the rental yield on Australian residential property is currently 4.1%. The average dividend yield from the top 200 Australian shares is also around 4% (7% including franking credits) although many popular blue-chip shares pay more. As at June 20, the big four banks were yielding between 5.24% and 6.78% (7.48-9.69% including franking).
One of the unintended consequences of the current deeming rates could be to push more pensioners into higher risk investments such as shares, where their capital could be at risk in the event of a market downturn.
Call for government action
One of the first announcements from Treasurer Josh Frydenberg after the last election was that he planned to go ahead with the Productivity Commission’s call for a review of our retirement income system. The three pillars of that system are the Age Pension, superannuation and personal investments held outside super.
As yet, there are no details of what might be included in a review or its timing.
Professor Deborah Ralston, chair of the Alliance for a Fairer Retirement System expects deeming rates will be an area of interest when the retirement income review finally gets underway.
“It’s definitely an area of concern to members of the alliance,” says Prof. Ralston.
Given that deeming rates haven’t been adjusted for four years while investment yields have fallen across the board, Ralston believes deeming rates should be linked to a specific benchmark and adjusted quarterly or six-monthly as currently happens with the Age Pension.
“It shouldn’t be a big deal or political”, she says.
A spokesperson for the Department of Social Services says, deeming rates are continually monitored and that Social Services minister Anne Ruston has asked the department to provide advice on the current deeming rate settings.
But with interest rates falling, pensioner advocates are calling for more urgent action from the government to close the deeming gap.
“National seniors are calling for an independent board to set the Age Pension and rules around deeming rates”, says Henschke.
For more information
Learn more about the Age Pension in the following SuperGuide articles:
- Case studies: How is the Age Pension assessed?
- How to maximise your Age Pension
- Australian Age Pension rates (September 2019 to March 2020)
- Age Pension calculator: How much could you be eligible for?
- Am I eligible for the Australian Age Pension?
- Age Pension income test rules (September 2019 to March 2020)
- Age Pension assets test rules (September 2019 to March 2020)
- Retirement age calculator: When can you access your super or the Age Pension?
- Deeming rates for the Age Pension income test
- How do I apply for the Australian Age Pension?
- How does superannuation affect the Age Pension?
- How does the Age Pension work bonus work?
- What are the Age Pension residency requirements?