Super: A promise that was meant to be broken

In February, the Prime Minister promised the Government would 'never remove tax free superannuation payments for the over-60s'. I thought at the time it was an oddly worded commitment and so it proved last week, when the Government announced it would remove tax-free superannuation earnings for the over-60s (by imposing a 15pc tax on annual incomes above $100,000).

The Government has cottoned on to a fair point but they are struggling to articulate it. An unlimited tax exemption on superannuation in retirement is inconsistent with our progressive tax system and was never likely to remain financially viable long term. Done fairly, capping the exemption makes sense.

But it is unfortunate that the Government has chosen this path. It is not clear whether they were hamstrung by the February promise or the promise was drafted in light of a decision already made. Either way, it is a promise that may have been better off broken.

It's early days for this policy. We haven't seen the detail and it may not see the light of day. For the Government, it's an election policy, and Tony Abbott has said there will be no 'unexpected adverse superannuation changes' under the Coalition – another carefully crafted promise. But the policy has some major flaws.

Firstly, since earnings include capital gains, investors whose annual super pensions never reach $100,000 may end up paying the 'tax on the wealthy'. Pitched as a tax on those with $2 million balances it could end up hitting those with $200,000 balances if, for instance, an SMSF has borrowed to buy property. Capital gains tend to be lumpy and what might really be many years' earnings could end up taxed.

Secondly, the policy provides an incentive for those with large super balances to run multiple super accounts (since the $100,000 cap applies on a fund by fund basis) and to withdraw funds to utilise their personal tax free thresholds. Rules might be introduced to try to prevent this but that will get messy.

This brings us to the next point: complexity. A tax on large pensions (not earnings) would target the same point of principle but would have less random outcomes and wouldn't require super funds to get involved in the process. Individuals would simply add up their pension payments (from whatever source) and disclose it in a tax return.

Under the Government's policy, super funds would spend money reworking their systems and administering the tax. This cost will be borne by all investors, not just the wealthy ones.

Worst of all, this policy creates a financial incentive on retirees to withdraw their super since it taxes the earning of the income, not the spending of it. To borrow a crude but apt phrase, they've got it 'arse about'. Whether investors respond by shifting the money to other super funds, invest it in their own name or consume, none of this is consistent with an objective of long term saving.

Personally I don't think people are as scared of change and broken promises as they are of random, haphazard decision making and policy on the fly. A broken promise – in the form of a tax on large pension withdrawals – could have eliminated a major flaw in our present system: the ability to withdraw your entire super balance without penalty. It could have also been paired with a range of simplification measures to improve the system for all.

The Government has a point but they've missed the target on execution. Some promises are meant to be broken. Or not made in the first place.