How grey gougers work and dodge tax

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By Leith van Onselen

In 2005, former Treasurer Peter Costello implemented the mother of baby boomer bribes in the form of the “transition-to-retirement” (TTR) rules, which allows those aged over 55 to legally minimise their tax by salary sacrificing up to $35,000 into a superannuation account (thus paying 15% contributions tax) and then simultaneously withdrawing the funds as income. Thus, TTR effectively allows high income earners to reduce their marginal tax rate from 45% to 15% on the last $35,000 of their income.

Super Guide explains TTR as follows:

I have often described transition-to-retirement pensions (TRIPs) as the super saver’s version of ‘having your cake and eating it’.

A transition-to-retirement pension enables Australians who have reached their preservation age (at least the age 55 and increasing to age 56 and older, depending on date of birth) to access their super in the form of a pension without retiring or satisfying an additional condition of release…

Although some individuals use TRIPs for a gradual transition into retirement, the majority of TRIPpers appear to have used the strategy for boosting super savings and tax minimisation…

One of the more popular TRIP strategies is to salary sacrifice into your super fund up to your concessional (before-tax) contributions cap, and replace that income with tax-free (if over 60) pension payments, or concessionally taxed pension payments (if under 60).

And ASIC provides a useful example of how Costello’s TTR rules can minimise one’s tax:

Andy is 55 and earns $100,000 a year. He intends to keep working full-time for another few years. Andy has $220,000 in super.

Andy’s financial adviser explored whether a transition to retirement (TTR) strategy could be useful…

How will the strategy work?

1.Andy transfers most of his super to an account-based pension. This saves money as he no longer pays tax on investment earnings.
2.He salary sacrifices a large amount into super. This saves income tax, but reduces his take-home pay.
3.Then, he withdraws up to 10% of his pension balance each year, which boosts his overall income back to his current level.

Benefits

Andy’s take-home income stays the same. Overall he saves over $2,300 in tax in the first year. This means Andy will have more money in super when he finally stops work.

In essence. Costello’s TTR rules were a sop to the older generation, effectively enabling richer older people to avoid paying tax and shifting the tax burden to the younger generations.

Not surprisingly, then, the Productivity Commission urged reform to the TTR rules in its recent Superannuation Policy for Post-Retirement report:

…the tax concessions embodied in transition to retirement pensions — designed to ease workers to part-time work prior to retirement — appear to be used almost exclusively by people working full-time and as a means to reduce tax liabilities among wealthier Australians. A better understanding of how these incentives are being used and by whom could potentially improve the efficacy and sustainability of the retirement income system.

Today’s Grattan Institute report, entitled Super tax targeting (see here for summary), provided an excellent analysis of the TTR rules and their deleterious impact on equity and Budget sustainability:

Wage earners aged over 60 can withdraw money from superannuation tax-free. They can reduce how much tax they pay on wage income and immediate consumption by contributing up to the concessional cap out of their wage income, and then withdrawing the funds from superannuation the next day to consume immediately. Since workers only pay 15 per cent tax on the income contributed to super, rather than their marginal tax rate, the tax savings can be substantial. For workers aged between 60 and 64 years earning between $65,000 and $150,000, this strategy reduces the amount of tax paid by over $5,000 (Figure B.1). The tax benefits for workers aged 65 years and over are even larger.

ScreenHunter_10546 Nov. 25 11.09

Access to superannuation for older workers, such as via ‘transition to retirement’ rules for those aged below 65, was designed to allow individuals to move from full-time to part-time work without reducing their incomes, using superannuation withdrawals compensate for lower wages.222 However, recent evidence suggests that these rules are mainly used by high wealth individuals to reduce their tax bills while they continue to work full-time…

As a solution, Grattan proposes that the concessional contributions cap be reduced to $11,000 for over 50s, from $35,000 currently, as this would significantly curtail the tax benefits from recycling wage income through superannuation (Figure B.2).

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Hopefully, the Turnbull Government will unwind Costello’s Budget blunders, starting with the “transition-to-retirement” rules, along with tax-free super for over-60s, and making superannuation concessions fairer.

If the Budget deficit has any hope of being eliminated, and the “age of entitlement” addressed, the Coalition must right Costello’s Budget wrongs.

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About the author
Leith van Onselen is Chief Economist at the MB Fund and MB Super. He is also a co-founder of MacroBusiness. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.