How half our retirement savings went missing

Regardless of specific tax brackets, our super system ignores half the country's retirement nest egg. Its serious structural failings are cheating Australia.

The stink over the Abbott government’s decision to scrap a planned 15 per cent tax on retirement earnings over $100,000 won’t clear quickly. Indeed, it will haunt the Coalition at the next election.

The planned tax was expected to impact around 16,000 retirees and was part of the funding model for a low-income super top-up payment that is also now being scrapped.

That gave acting opposition leader Tanya Plibersek all the ammo she needed to ask on ABC TV: “Is it fair to allow people who are already on a very good wicket with superannuation, who are claiming the highest benefits, who are getting the highest tax advantage, to allow them to continue to claim very high tax advantages, and the money to pay for that comes from making low and middle income earners pay more for their super, or get less tax benefit for their super?"

Well no, it’s not. But then there is so much unfairness swirling around in the retirement savings sector of the economy that you’d hardly notice.

The low-income super co-contributions would, according to Industry Super Australia, cost 3.6 million Australians on low incomes $500 a year.

Hey, that’s about $300 more than the carbon tax component of their household electricity bills. If Abbott could turn a $200/year carbon-tax impost into an election-winning bogeyman, imagine what Bill Shorten will do with a $500/year hit on low-income worker’s benefits.

But let’s not get carried away. None of this is really addressing major structural problems in the superannuation system that make it both unfair, and utterly confusing as an area of public policy.

Neither the Labor proposal, nor the Coalition decision to scrap it, affect ‘fairness’ very much at all. To understand why, you have to go back to basics and look at the whole picture of the retirement savings part of the economy.

Usually, we look at one half of that picture – the part accounted for by an individual’s superannuation savings and the pension used to top up any shortfalls. Melbourne University tax reform expert Professor John Freebairn points out that at present, around 50 per cent of over-65-year-olds rely almost entirely on the pension (remembering that the super-guarantee only began in 1993 and really old Australians never got to put money into it). A further 25 per cent get an income from a super fund, topped up with pension. And the remaining 25 per cent rely exclusively on their hard-saved superannuation dollars.

But again, that is only half the picture. Because most older Australians sit on another very large asset that is in many cases larger than their superannuation fund – their home.

Freebairn argues that the value of homes needs to be brought into the superannuation equation, but not for the reasons many would expect.

At first glance, such a proposal would seem wildly socialist in nature – if a government can’t meet its pension commitments and balance the budget, surely asking home owners what their other big asset is worth would be a way to screw more money out of older Australians?

We might as well order them to wear olive-green Maoist jackets as well.

The funny, and for once surprising, thing is that it isn’t the government leeching the financial lifeblood from these oldies, but their children.

What’s occurring as the backdrop to the Coalition’s “no surprises” policy is an alarming intergenerational transfer of wealth that operates largely outside the tax system, and almost renders the ‘fairness’ of our super system redundant.

In essence the equity locked up in retirees’ homes is like a giant honey-pot that the younger bees would like to feast on well before their parents leave the hive (A huge opportunity in retirees' hidden wealth, Novemer 12).

At the same time, oldies who are asset-rich, but income poor, are increasingly looking at the same honey and wondering how it can make their retirement years more comfortable.

And so a tug of war begins. Parents and grandparents like to pay off the university-fee debts of their grandchildren. Parents are called on to stump up housing deposits for their children (because deposits are now much larger as proportion of average incomes than 30 years ago).

And increasingly, according to one mortgage lending manager I spoke to this week, the younger generation are seeing their future inheritance as theirs for the taking now for less essential things – like sports cars of their own.

There are three basic ways of getting the money out of the house and into more opulent living. First, a retiree can remortgage the house and make repayments with whatever income they have from their super/pension.

Secondly, there are a few providers of ‘reverse mortgages’, in which an income stream is paid to the homeowner, but one that racks up a debt that must be paid when they pass on to mortgagee heaven. These products make many homeowners uneasy, as they are essentially taking a gamble on the future sale price of their home.

So a third kind of equity withdrawal is becoming popular – a debt-free equity withdrawal in which the bank (or similar) buys a portion of your home. In these products the bank is taking the risk, and ‘buys’ the portion of the home at a knock-down price that reflects the risk of price movements, but also the amount of time they expect to have to hold the liability on their books.

The Homesafe service, in which Bendigo Bank is a 50 per cent shareholder, is one such offering, though due to the wild gyrations of Australian property prices in recent years it is only available for Melbourne and Sydney properties.

But the big problem with equity release, one homelender told me this week, is the kids.

An older couple may start down the path of wanting to release equity for a stair-lift, a new car or just an annual South Pacific cruise. Fair enough.

However, says the home-lender, “three out of four” enquiring homeowners, who are at first very positive about equity release, “decide it’s all too difficult” when their kids start asking for chunks of their inheritance in advance.

Yep, that kind of conversation will spoil Christmas dinner every time.

But whether or not Mum and Dad dip into their home equity, there is an obvious distortion in the superannuation ‘fairness’ measures. Half the big picture is missing.

The 16,000 people said to be affected by Labor’s 15 per cent withdrawal tax are being measured on income ($100,000 or more), not on the capital withdrawals they can or cannot make on their homes.

Conversely, those withdrawing equity and splashing it about on themselves or their kids still have the same ‘income’ when their super/pension ratio is being determined.

A frugal old couple that does not draw down equity passes on a huge gift to the next generation when they die, meaning the tax incentives at the heart of our superannuation system are enjoyed by another, younger group of people.

By contrast, profligate oldies that spend all their equity actually get to enjoy the superannuation tax breaks themselves.

Complicated, isn’t it?

The purpose of Keating’s super guarantee was to force all workers to invest part of their income, so that the economy of the future would be big enough to fund a top-heavy demographic profile.

What we have instead, with or without taxing wealthier retirees at 15 per cent, is a system where one group of Australians (parents) are assessed on only one-half of their actual wealth (income) and then get to choose whether to enjoy all the tax-free benefits of the other half of their wealth (their primary residence) or effectively pass those tax concession on to the younger generation.

There is a solution to this ‘unfairness’, says Freebairn. He would like to see the Costello version of superannuation taxation scrapped, and replaced with system that taxes super contributions in exactly the same way as the family home.

A home is paid for with after-tax dollars, but capital gains and future equity withdrawals are tax free.

As an economist, Freebairn says super should also be paid using after-tax dollars, but the current complicated system of tax on ‘earnings’ within a super fund should be scrapped altogether. And he doesn’t think super income in retirement should be taxed either.

That may sound wildly radical, but all Freebairn is pointing out is that most people own two major assets – one of them taxed in a ‘fair’ way (your house) and the other in a way that allows more tax benefits to accrue to high income earners (those who can afford discretionary super top-ups each year) and for those tax benefits to be passed between generations.

Yes, the super tax system is deeply unfair. And it has virtually nothing to do with that 15 per cent that the Coalition says it won’t collect.

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