With Treasurer Scott Morrison due to deliver the Government’s formal response to the final report of the Murray Financial System Inquiry (FSI) today, Mercer’s David Knox, has urged action on the inquiry’s call to crackdown on lump sum superannuation payouts. From The Canberra Times:
Mercer senior actuary David Knox said a shift away from default lump sums toward default income products was a vital if Australia is to maintain its bragging rights for having one of the top retirement systems in the world.
“Introducing a requirement to ensure that at least a good chunk of superannuation benefits be directed into CIPRs [comprehensive income product for retirement] rather than a lump sums is one of the most important steps the government could take to help improve Australia’s retirement system,” he said…
The Murray FSI was clear in its opposition to superannuation lump sums, claiming that it shifted longevity risk onto the Government (taxpayers), and instead recommended that retirees be required to take their super as an annuity income stream:
Australia is unusual in neither mandating nor encouraging the use of income streams with longevity protection in retirement…
Policy settings should ensure that retirees can manage their accumulated balances in a way that improves retirement income and risk management, without transferring an excessive amount of longevity risk to the Government…
It may be appropriate to have policies that discourage lump sums. Several submissions recommend restricting or discouraging lump sum benefit payments…
To be effective, the tax and social security implications of decisions may need to be significant.
It’s hard to disagree with this policy reform. The exclusion of the family home from the assets test for the Aged Pension, combined with the ability to withdraw one’s super as a lump-sum (instead of an annuity), creates an incentive for households to borrow to purchase an expensive home in the lead-up to retirement, retire at 60, withdraw their super tax-free as a lump sum, use the money to pay-off their mortgage or to fund consumption, and then go on the Aged Pension from 65 years of age.
In such instances, the taxpayer is left wearing the cost of superannuation concessions throughout the individual’s working life, and then again once that same individual goes on the Aged Pension. It is a strategy that, while making sense for the individuals concerned, compromises the integrity, fairness and sustainability of the retirement system which, after all, was supposed to relieve pressure on the Budget, not exacerbate it.
Indeed, the Retirement and Retirement Intentions survey, released in 2013 by the Australian Bureau of Statistics, revealed that more than half of retirees withdraw their super as a lump sum, with many then spending the windfall on their homes or a new car:
Of the 3.3 million people aged 45 years or over who were retired from the labour force, 2.0 million (61%) had made contributions to a superannuation scheme…
Of those who had made contributions, 55% had received all or part of their superannuation funds as a lump sum payment (54% of men and 57% of women). Many of those who received a lump sum payment used it to pay off or improve their existing home or purchase a new home (32% of men and 31% of women) or to buy or pay off a motor vehicle (14% of men and 11% of women).
One solution to discourage lump sum withdrawals of super is to tax withdrawals over a certain low threshold amount, thereby encouraging the rest to be withdraw as an annuity. This way, people with very small superannuation balances would not be disadvantaged, whilst at the same time, those with larger balances would not be able to spend their funds early before falling back on the Aged Pension.
The Government could also assist in creating a competitive annuity market by offering super holders the option of a regular income stream in return for their nest eggs.
These changes should be fairly simple to implement and could greatly improve the equity and sustainability of the system.
