Coalition starts making right noises on super

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By Leith van Onselen

Slowly but surely, the Coalition is beginning to see the light on superannuation, and acknowledging that the current make-up of the system is unsustainable for Australia’s long-term finances and ripe for fundamental reform.

Today, Coalition MP, and former advisor to Peter Costello, Kelly O’Dwyer has penned a worthwhile piece in The AFR, arguing that raising compulsory superannuation (the “superannuation guarantee”) to 12% would only compound the deep structural flaws already present in Australia’s super system, making the whole retirement system even more expensive and less effective:

If you knew there were weaknesses in the foundations for a building, would you make sure the foundations could be fixed and repair them before increasing its size by more than 25 per cent?..

Under Labor’s timetable for an increase in compulsory superannuation, the Commission of Audit concluded that there was unlikely to be an increase in the proportion of Australians who were fully self-sufficient… [T]he proportion of people eligible for an age pension would remain constant at about 80 per cent for the next forty years. That’s the same proportion of the population that received the pension in the late 1970s…

The Commission of Audit and Henry Tax Review each canvassed reforms to the eligibility tests for the pension…

Australia’s superannuation system is [also] unusual by world standards in allowing Australians to withdraw their entire superannuation as a lump sum…

Research cited in the Inquiry’s Interim Report highlights that approximately 44 per cent of retirees who take a lump sum use it to pay off housing and other debts, to purchase a home or to make other home improvements. A further 28 per cent use the lump sum to purchase a holiday or new vehicle…

The system effectively encourages Australians to over-capitalise on their homes, spend all or some of the balance on other forms of consumption, and then turn to the age pension…

Naturally, the situation is exacerbated by yet another quirk in the system, where the access age to superannuation (60, if you are retired and were born after July 1, 1964) differs from the eligibility age for the age pension (currently 65, rising to 70)…

Then there are other issues: like the level of competition in superannuation and whether it is resulting in fees which truly represent the value delivered, rather than blatant rent seeking…

O’Dwyer is correct on all counts.

It makes absolutely no sense to raise the superannuation guarantee to 12% until the swag of structural flaws in Australia’s super system are fixed. To do so would blow an even bigger whole in the Budget: the 2009-10 Budget estimated that cost to revenue from raising super to 12% would grow “to $3.6 billion per annum in 2019‑20, due to the increase in the level of concessionally taxed contributions”. It would also reduce lower income earners disposable income, since super contributions are ultimately paid for by employees, and low income earners’ contributions are not concessionally taxed (more on this below).

There is one blatant omission from O’Dwyer’s article, however. And that is the failure to even acknowledge that the current 15% flat-tax on super contributions are highly regressive and overwhelmingly favour higher income earners (see below table).

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The Henry Tax Review agreed and recommended making superannuation concessions more progressive:

The structure of the existing tax concessions is inequitable because high-income earners benefit much more from the superannuation tax concessions than low-income earners…

Based on the 2008–09 tax rates, around 1.2 million individuals do not receive a personal income tax benefit from their concessional superannuation contributions. An additional 1.2 million people receive a concession of only 1.5 percentage points (Treasury 2008). This compares with around 200,000 taxpayers (those earning more than $180,000) who receive a concession on their superannuation contributions of 31.5 per cent…

Superannuation contributions should be taxed at a progressive but concessional rate. This would be achieved by treating employer superannuation contributions as income in the hands of the employee, taxed at marginal personal income tax rates. A flat-rate refundable tax offset, payable to the individual, would apply to these contributions to ensure that investing in superannuation retains its preferential tax treatment over other types of saving…

If raising ordinary workers’ retirement savings is the key objective of super, thus reducing reliance on the Aged Pension, then surely the first best option is to replace the 15% flat tax with a flat 15% concession (rebate for those earning under $18,200)?

This way, everyone that contributes into superannuation receives the same tax benefit, thus maintaining the progressiveness of the income tax system. It also means that lower income earners – those that are most likely to rely on the Aged Pension in retirement – would be better placed to build a retirement nest egg. Of course it would also limit the damage to the Budget – by both avoiding the need to raise the superannuation guarantee and lowering dependence on the Pension.

As I have argued previously, raising the superannuation guarantee to 12%, before fixing the underlying structural flaws, will merely heighten inequities already present in Australia’s retirement system. It will rob younger (and poorer) workers of much-needed disposable income and worsen the long-term sustainability of the Budget.

About the only winners from such a policy would be the superannuation industry, which would get to ‘clip the ticket’ on more funds under management and earn fatter profits. Perhaps this is why they are so strongly support raising compulsory superannuation and often lobby against fundamental reform. They smell easy money.

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Unconventional Economist

Leith van Onselen is Chief Economist at the MB Fund and MB Super. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.

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Comments

  1. Leith, I wish you would re-publish your charts showing how superannuation failed to achieve its ostensible objective: increasing savings for retirement.

    Look here for your November 2013 article on Australia’s savings rates.

    After the introduction of voluntary superannuation in the late 1980s, and compulsory superannuation from 1991 onward, there is no evidence at all of its changing the steady downward slope of household savings.

    And look here (9th chart: household debt to GDP) to see how household debt began to skyrocket in 1991 . . . just as compulsory superannuation was introduced. (There is a smaller upward blip a couple of years earlier, coincidentally or otherwise just when voluntary superannuation was introduced.)

    It wasn’t until the horror of the GFC that savings rates began to rise sharply. Nothing to do with superannuation.

    Why did this happen? Apparently Australians simply substituted superannuation for traditional forms of saving, principally buying a house an paying it off. With the rise of compulsory superannuation, the banks moved in to offer “home equity loans” to allow wage and salary earners to maintain their spending in the face of the “compulsory saving”.

    That effect will be worsened by allowing superannuation to be applied to buying the place of residence. It will be worsened by forcing superannuation funds to “invest” in private infrastructure projects (a compulsion which will quickly degenerate into a hidden tax as funds find themselves obliged to “invest” whatever the rate they are being offered).

    This is a cautionary tale for those who argue in favour of raising superannuation contribution rates and prohibiting people from withdrawing “their” money as a lump sum.

    Attempts to raise savings rates by compulsion have failed in the past and there is no reason to believe they will succeed in the future.

    All they are guaranteed to do is line the pockets of the ticket-clipping rent-seekers who run the world’s third most expensive pension scheme.

    • You are honesty a clown. “The worlds third most expensive pension scheme” – what absolutely twaddle. I have actively seen and participated in at least four other schemes in different countries, and seen a couple of other besides. Australia’s scheme is so good everyone is looking at it in envy. And I know a number of countries are actively thinking of following Australia’s programme. We should be enlarging it – not scaling it back.

      No – you would rather raise taxes 5-6% – enforce no savings and live for today – like most of Europe. Who probably lose 7-8% in transfer payments from taxes to recipient.

      All pathetic lies.

      • What la la land do you visit on weekends? A ponzi scheme based on forced expropriation from the producers and given to the ticket clippers for decades is sustainable? Explain where the savings went

      • Researchtime,

        There are some decent points in support of your position but you need to make them first (even if you think you have made them many times before).

        Leading with the insults is not very persuasive.

      • @Pfh007

        I learned long ago that there is no point trying to debate with fundamentalists. One might as well sit in a bath of cold vomit hammering knitting needles through one’s eyeballs for all the good it does.

        You, on the other hand, might be interested in this link to the SMH of 14 April this year:

        “As submissions from the Reserve Bank and Treasury highlight, ours is one of the most expensive private pension schemes in the world.

        “The RBA cites Organisation for Economic Co-operation and Development figures on pension funds’ operating expenses as a share of total assets. In the RBA’s graph, Australia’s cost ratio was third-highest among OECD countries, behind Spain and Mexico.”

        I have been trying with limited success to track down the original source. One OECD paper (www.oecd.org/pensions/PensionMarketsInFocus2013.pdf) presenting data from 2012 shows Australia as the sixth most expensive scheme in the OECD with an average expense ratio of 0.8%pa (behind not only Spain and Mexico but smaller newly independent states like Estonia, Slovenia and the Czech Republic).

        What is interesting is the “world best practice” ratios of places such as Germany (0.2%pa) and Switzerland (0.3% pa).

        If Australia’s overall expense ratio were cut by 0.5% pa on $2 trillion of assets, that would be a saving of $10 billion a year!!

        But it would leave a few ticket-clippers out of pocket.

        And there is still the main issue: that the whole expensive edifice does not seem to have increased savings rates in Australia.

      • That is absolute rubbish – Switzerland and Germany have big state pension systems – or final payment schemes with associated companies that you may work for (and you had better hope that the company pension scheme is adequately funded and/or the company doesn’t go bust). Furthermore, the contribution rate is currently 19.5% gross salary shared equally between employee and employer. This means the employee pays 9.75% of their gross salary and the employer pays the same. Council rates in the UK (up to £300per month) in some counties pay 50% of the tax take to outstanding pension liabilities.

        Get with the facts!!! And BTW Spain has no money…

      • Thanks SM,

        I recall an article on MB about that.

        I am no fan of the current super system. Though I don’t think the prime reason for its introduction was because Keating wanted to help the Sydney North Shore and Eastern Suburbs finance types.

        In principle the idea of encouraging people to provide for their retirement is a good one (having independence from centrelink has some value). Unfortunately, they used a boondoggle tax dodge model of super made famous by executives around the world. I can imagine the idea of extending an executive ‘lurk’ to the workers appealed to the union mindset. I think this a more plausible explanation of why the unions supported the concept. Now that super boards provide nice little lurks they have additional reasons.

        There are much much simpler ways of acheiving the objective of encouraging people to provide for their retirement.

        One is the Swedish model you have raised a few times.

        My preference is a mobile simple deposit only bank account – with or without a compulsory employer contribution – as part of a more fundamental review of banking in the economy. For most a single bank account is easy to understand and manage without fees. Banks would compete for the deposits with interest rates. If govt wished to help low income earners they could make additional deposits. But as I said this would be part of a more fundamental review including things like full reserve banking.

    • Pfh007 – I have attempted to in the past, but found that my posts were getting deleted (or not even getting posted), whilst those in support allowed free reign.

      In either case – if someone makes statements that are in fact quite unsustainable, why not call a spade a bloody shovel. These forums are not interested in discussion, just megaphone mother statements.

      • I’d be interested in hearing a reasoned defence of the current system.

        I’m not well informed but I’m inclined toward the following views. Please disabuse me of them if you can.

        1. Compulsory super has not been responsible for raising the savings rate.
        2. The funds aggregated by super serve primarily to support ponzi speculation, not productive investment.
        3. Compulsory super owes much of its political support to the fact that it is a tax dodge for high income earners.
        4. And to the fact that it has spawned a massive ticket clipping industry with pork to protect.
        5. Shifting responsibility for retirement incomes to super puts retirement income “security” at the mercy of the ponzi dominated (and hence unstable) asset markets.
        6. Provision of retirement incomes would be much cheaper and more effective if compulsory super was abandoned, concessional treatment of super was removed and a decent universal age pension funded by taxation was provided.

      • RT,

        I doubt they are deleted – usually it is the twitchy spam folder.

        People are constantly making statements that are unsustainable. If only the correct answer needed a single explanation life would be much simpler.

        By way of clarification – I assumed your concern was that fixing our current super system was preferable to completely abandoning a model of compulsory retirement saving. I think there are good points in favour of that general position.

        But I see that your defence is largely based around your success managing your own super fund and having a very good understanding of what you are doing.

        I think that is the core of the problem.

        Most people in super are not like you and if they are not passive within the system, they may be putting their savings at risk trying to do it themselves.

        So while the current system suits you it may not be in the broader interest.

  2. Australia’s superannuation system is [also] unusual by world standards in allowing Australians to withdraw their entire superannuation as a lump sum…

    Was she advising Costello when he allowed super to be withdrawn as a lump sum tax free!

    There is one blatant omission from O’Dwyer’s article…

    Yeah, she missed the most important part.

    • Well, since most people aren’t any better off in super because fees take most of the tax concessions, why shouldn’t they have just as much access to their money as someone else who saved outside super?

      The Murray Report stated that 25% went on fees. Reference to actuarial tables confirms it. A simple Excel analysis can confirm it.

      Someone can invest outside super in LICs, bonds, cash – all without excessive fees. So fees are avoidable. Some people might even save so they can start up a business.

      So why punish people who have had their money locked away for forty years and got no advantage from it?

      Well, there is one reason. Forcing them to keep their money in super means the FIRE industry gets even more fees.

      Is that the agenda?

      • Don’t argue with me lorax, argue with David Murray.

        Go on, tell him where he is wrong. LOL.

        Oh, and if a bankster admits to 25% in fees, as a former part of the FIRE industry, that’s likely to be on the low side.

        I often think that Mig goes overboard with the dismissive comments, but sometimes I am sorely tempted.

        Given the history of David Murray, I would suggest that the onus is on those who reckon he is wrong to prove their case. Something you and researchtime have singularly failed to do. Still, you are entitled to your beliefs, I suppose.

      • Emess
        Would be interested if you could run this simple example in Excel and share it ..

        Two income earners on a $100,000 package. A) has $8,676 (9.5% super) taken from that package leaving him with $91,324 taxable salary, B) keeps and pays tax on the entire $100k.

        B) saves equivalent of A)’s net super contribution of $7,374 from his after tax salary. Both earn 8% gross on their investment, A) pays 1% in fees to his rent seeking fund manager and super fund; B) manages it himself and pays 0.20% in fees. Contributions/earnings within super and earnings are taxed at 15%, all other income (including that saved outside of a super environment) is taxed as per ATO individual rates.

        Because I am fairly confident that A) has both – more disposable income after his compulsory super, as well as a higher closing balance in his super account. Despite paying fees of 1% versus 0.20%.

        If you can show in this example how B) could save & invest the same amount and still better off on an after tax basis under the current taxation regime and using real examples of achievable fees, I would be very keen to see !

      • Kinetic,

        How many people start their careers earning $100k?

        In fact, how many ever achieve that salary?

        How about something a tad more realistic – just for the sake of reality?

        Take someone who starts at 19 on $30k, and over 46 years progresses to $105k at the interest rates you nominated.

        By my calculation after 46 years it is line ball for either. The reason is pretty simple, early fee costs and low wages combined with compounding mean that later high concessions barely manage to cancel out the early fee impost relative to salary.

        Taking a completely unrealistic scenario such as someone earning $100k from 19 to 65 is not helpful.

        However, for the sake of harmony, I am happy to agree that someone who has been on $100k or more for over forty years should not be able to access their super as a lump sum. All others of course should be allowed lump sum withdrawals.

      • Emess
        Ok, so even under your ‘realistic’ scenario there (which implies zero real wages growth !), saving via super is still a better outcome. And that assumes in the alternative scenario that you are paying 80% less on annual fees over that 46 year timeframe, which is being pretty generous to the benefit of your argument to say the least !

        Fees charged by fund managers ARE still too high for my money, but in reality there are plenty of options available to workers contributing to super to reduces those fees, and the pressure is only going to get worse for fund managers to compete on fees.

        There is a lot wrong with super (the flat concessions for one), but your example of how fees are negating the taxation benefits is not quite all there.

      • Er, no kinetic, it is line ball. Not better.

        Let’s make it simpler.

        If Murray is right, and fees take 25% (his figures, not mine) of the final balance, and the tax take is 15% inside super, what does 15%+25% add up to you?

        Compare that to the MTR of most people for their working life.

        If Murray is wrong, then you’d think someone here might like to show how. It would be something of a scoop if it could be done don’t you think?

        If he isn’t, then 15%+25% inside super vs most people’s MTR outside is a pretty good rule of thumb.

      • Err, no Emess. Even excluding the difference in disposable income under those two scenarios, there is a massive difference at the end of 46 years in favour of the super scenario. The compounding difference in fees is of nothing compared to the difference in tax paid. Add in the difference in disposable income and your theoretical worker here is far, FAR worse off, even with the most favourable of fee assumptions. It’s a simple Excel spreadsheet, mate. I can send it to you if you like !

      • No no kinetic, send it to Murray.

        Sure he’ll be interested.

        Or put it another way, my excel calcs pretty much line up with Murray’s figure. If I’m wrong, so is he.

        If you are right, and so convinced, let him know.

      • Mate, I’ll send it to both of you – I think you’re in greater need ! In this scenario (simple Excel exercise mate, I hope you did it !), lifetime fees represent 13% of the final super balance. To get to 25% in this example you’d need to either increase those fees to 1.8% per year at a long-term gross return of 8%, or 1.6% on a long-term gross return of 6%. And even in that scenario, you’d be net better off ! Your argument just doesn’t stack up, mate, unless you assume the worst possible fees within super, and the best possible savings on fees in an alternative scenario. It’s a simple Excel model, you should do it yourself to verify the outcome. I will find a way to share my spreadsheet online so you can work through it closely. I think you’re coming from the right place Emess, you’re just getting confused along the way !

      • Nope, your example of $30k starting salary escalating at 2.7% per year.

        If you can reference the section in the Rice Warner actuarial study commissioned by the FSI, I will get in touch with them, too ! Their assumption is an average fee of 1.12% converging to 1%. To get to a result of fees paid as 25% of the end balance, you have to assume a pretty low lifetime gross return, something like 2.5% p.a.

      • You are both completely missing the point! You are arguing about a nothing…

        I have a self-managed superfund – and I pay around 0.5-1.1% (depending on how busy the ATO wants my accountant to be – a lot of paper work). Platinum Asset management charge 1.2-1.3%, but it has quite an amazing track record. But any discussion on fees is entirely irrelevant, its entirely dependant on your return. Seriously, 25% are in fees!!! Hard to believe given many funds have averaged 9-11% CAGR for 20 years (and yes, Australia has had an amazing economic run)!!!!

        For arguments sake, assuming that the average fund manager charges 1.5% annual fee – how could derive a 25% on the fund due to fees? That number only works if you include the 15% initial contribution fee, which is a direct tax – and there is also taxation on realisable capital-gains taxes (but only at the point of sale). If you combined fund fees and initial entrance taxes and capital gains – it is possible to get to that 25% figure. But importantly, the vast majority of which, would be government taxes!!!

        Which almost negates the discussion because those monies would be taxed anyway via income tax even if you didn’t have a superannuation scheme. But even still, that 25% in fees is an extremely dubious number to me…

        If some of the bears are correct on this site – your super fees could be several hundred percent over the next couple of years, especially if Australia enters a recession. Again, the discussion in fees pales into insignificance if your fund loses 35-45% in a decent market correction.

        You have to concentrate on returns. Ignore the fees – its a red herring. Use some of the ideas you can glean of this website, and make 20-30% pa some years!!! It is eminently doable. A lot of people who post on this website just have an axe to grind. They would pull everyone down to their level if they could…

      • Kinetic, I admit to being intrigued.

        However, before you do, why not try a bit of a check using straight calculations.

        If I use an amount of $1000 per year for 46 years:

        Inside super that’s $850 after tax. Let’s say your 7% less 3% inflation less 1% fees = 3%
        Outside, that’s $665 at MTR. 7%-3%-0%=4% (approximate, you can finesse for fee levels, but this is a rough cross check before you go writing).

        For 46 years at 3%, the compounding factor is 96.5 inside super.
        For 46 years at 4% that’s 127.

        Therefore as a gross cross check, the ratio of expected outcome of inside super: outside = (850/665)x(96.5/127)=.97 ie, line ball in favour of an outside super strategy.

        Comes up close to my excel calcs, and Murray’s figure.

        Researchtime, that depends on whether Murray’s figures are empirical or just calculated. If empirical, then he is saying that’s what has been taken. Your comments about returns are in principle correct. However, a glance at the actual returns of super funds after fees over the past ten years when plugged in the analysis again reflect Murrays assertions from a practical perspective. If you have done better than the average Joe, then well done, but for public policy purposes, it is the outcomes for that average Joe that count.

      • RT
        Read that thread property, mate. Not arguing about a nothing, trying to make it clear to Emess that he’s on the wrong track, in the same way that you are deducing yourself.

        Of course returns are important, but the argument that the super system doesn’t work because of fees is just not right.

      • I did… the 25% number is a complete nonsense and must include entrance taxes and capital gains – simply because it doesn’t in anyway match actual returns over the past two decades. To be remotely true, it implies that fund fees must have been historically in-excess of 2.5% !!! Which as far as I know – they haven’t.

        In either case, I made the points that: (a) even if the monies were not allocated toward a pension, they would be likely taxed at above that 25% level; and (b) the fees percentage is entirely dependant on returns (mathematically speaking). Get the returns up – fee percentage drops and becomes irrelevant.

        I reiterate, the whole thing is a nonsense argument.

      • Kinetic,

        *sigh*

        So, Murray is wrong, plain arithmetic is wrong, calculators such as at superguru.com or nicri.org.au are wrong, and you alone are right? The money smart site of the government says there is a 20% difference in accumulated amount after 30 years for a 1% fee difference.

        There is a long list of people out there putting out calculators which support my position.

        Now you could go to a lot of effort to convince them of the error of their ways, or you could perhaps check to see if maybe, just possibly, you might have made a mistake.

        Research time, I have been looking at a savings period of over 40 years. The geometric nature of the calculation means that what you say might be true for 20 years, but between then and a full 40+ years there is a crossover.

        Like with kinetic, don’t believe me, just use some of the calculators out there.

    • +1 Lorax, was thinking the same thing. Also the uncapped tax free profits are disgusting – inquality to the max!

  3. Kelly, Kelly, Kelly..one thing at a time.

    You have enough on your plate with the FIRB inquiry.

    Audit the buyers residency status for Syd/Mel existing dwellings.

    Get the data.

    Publish the results.

    • Strange Economics

      Yes Kelly – stick to the FIRB and foreign buyer campaign.
      You’ll make yourself unpopular enough with the FIRE industry with that alone – if anything reduces their top paying buyers.
      Don’t open a second front yet !
      (At least she was smart enough not to attack the high income tax breaks, that doesn’t fit with the budget approach t o cut low income support).

  4. 80% of 5.2 million boomers means one big fiscal headache.
    The PPOR needs to be included in the pension asset test for any value over $500k based on the VG numbers for the land. Simple to implement and fair if combined with reverse mortgages provided by Centrelink at reasonable interest rates.

    • Of course, one could always donate the house to a charity, a certain Church comes to mind.

      Big tax deduction at age 59.

      Then at the same time, sign a 99 year lease for the property at a rental covering rates and taxes plus say 10%.

      Six years later, get full pension plus higher amount of capital allowed before pension reduces, plus the extra pension for renters.

      When you die, the church, er, charity gets the property, and during the lifetime, gets the 10% extra on the lease.

      The other point is this. Such a proposal works best for government revenue if house prices are as high as possible. We know what happened with State Governments with that as an incentive. Is it really going to be any different if we give the Feds the same incentive?

      Overall, my message is, be careful what you wish for.

  5. Fancy Kelly overlooking the equity issue. That is most unlike a Liberal.

    Interesting animal experiments show that the notion of fairness is even hard-wired into monkeys. I guess Liberals are a bit lower on the evolutionary scale.

  6. The real winners in any attempt to tax super progressively would be the software providers.
    I work in super and the issues the division 293 tax has caused with DB members- waste of time and money to sort it out- simply because the legislation was poorly written.
    I understand the principle, and it seems to work for straightforward accum well, but DB (and that is where the real money goes) – nightmare. And the worst bit- all of the people in the accum accounts in the same fund- a large chunk of their fees will be spent on updating the system to facilitate this.

  7. What amazes me is the evolution away from the original system where there was a link between age pension which was indexed to AWOTE ie 25%. The super contributions were also linked to AWOTE as well as the amount that was allowed to be accessed concessionally taxed.

    Costellos attempt to win the 2007 for John Howard by making super tax free, getting rid of maximum drawdown limits and only costing the changes for 5 years during record terms of trade should be seen as a prime example of short term politics impacting on a long term retirement incomes strategy.

    I agree with Steve Morris that SGC was a windfall for fund managers and gave them a guaranteed increase in FUM but I also feel Keating had no choice but to privatise the age pension system as it represented the least worst option and it offset the CAD via international investments.