Deciding the objectives of the super system
On 29 February, around 40 members gathered at the Actuaries Institute for a Research Colloquia hosted by Andrew Boal and Anthony Asher to discuss the objectives of the superannuation system. This is particularly timely given the release by the Government on 9 March of a discussion paper and consultation process on the “Objective of Superannuation”. This is a summary of those discussions and some principles that emerged.
One of the goals of retirement policy must be fiscal sustainability, to keep taxpayer expenditures to a reasonable level. While the Superannuation Guarantee (SG) was introduced in 1992, the level of compulsory employer contributions did not reach 9% of earnings until 2002. Nonetheless, superannuation savings have helped to keep a lid on the cost to the taxpayer of the Age Pension.
The increase in the level of superannuation savings combined with the operation of the Age Pension means tests, as well as the gradual increase in the Age Pension eligibility age to 67, is projected to limit the cost of providing age-related pensions to under 4% of GDP until 2049-50 (Source: 2010 Intergenerational Report). This amount is expected to fall further when the new Age Pension assets test commences on 1 January 2017. This cost compares favourably to other countries so it can be said that the superannuation system has already been successful in achieving at least one important goal for Australia’s retirement income system.
Read the Institute’s April 6, 2016 Submission to Treasury on the Objective of Superannuation.
It is now widely acknowledged that superannuation will not replace the Age Pension for most Australians, but will act as a supplement to improve their standard of living in retirement. Willis Towers Watson research shows that, using the new Age Pension assets test that will apply from 1 January 2017, a single home owner wishing to spend the ASFA Comfortable level of $43,000 per annum for 25 years in retirement, and not qualify for any Age Pension payments in that time, will need to have saved close to $1.5 million (assuming a 6.0%pa investment return in retirement, or $2.6 million if you assume a 3.5%pa investment return).
There is little disagreement with the view that the objective for superannuation should be to provide a level of retirement income that, together with the Age Pension, allows Australians to live a dignified retirement and meets their reasonable expectations.
That raises the question though of what level of retirement income should be targeted, and what is the role of non-superannuation assets including a person’s home?
One suggestion has been to target, say, 65% of a person’s after-tax pre-retirement income. However, this would provide very significant levels of retirement income for high income earners and it is questionable whether the cost to the taxpayer of supporting that level of income is warranted.
An alternative target would be a level standard of living throughout life, including retirement, after allowing for important costs such as children and housing. This approach highlights two difficulties with the current system. The first is the liquidity constraints of the young, in particular families until their children leave home when they become more able to save for retirement very quickly.
“And what of the housing wealth of retirees? According to the Productivity Commission, it is estimated to be worth $926 billion.”
The other difficulty is that, as assets decline during retirement, the workings of the assets test mean that the Age Pension payments will rise over time. It is therefore complicated to design a retirement income product that produces a level income through retirement.
Another alternative would be to target a dollar level of retirement income, such as the ASFA Comfortable level, with limited taxpayer support provided above that amount. This could be achieved using well targeted annual and lifetime contribution caps, as well as a limit on the amount of superannuation savings that can be ”crystallised” and then invested in a superannuation income stream product that has a 0% tax on the investment earnings.
ASFA has suggested that one target could be for at least 50% of Australians to reach the ASFA Comfortable level. Willis Towers Watson and the University of Melbourne published research in March 2014 that showed that 11% of singles and 32% of couples are on track for the ASFA Comfortable level when you include both superannuation savings and the Age Pension. However, when you also include other non-superannuation savings (excluding their “own home”) these percentages increase to 22% for singles and 53% for couples. Certainly, if we can get at least 50% of Australians up to the ASFA Comfortable level using just their superannuation savings and the Age Pension, then we will be a long way towards achieving a successful retirement for most Australians.
And what of the housing wealth of retirees? According to the Productivity Commission, it is estimated to be worth $926 billion. Again, there seems to be little disagreement that exempting the home entirely from the assets test is generous and could be limited in some way. The Actuaries Institute also suggests that partial protection (up to a dollar cap) from the Age Pension means test should be provided for amounts released under home equity release schemes or downsizing.
Finally, it is important that retirees have products available to them to help them sustain their living standard in retirement no matter how long they live, and to provide them with the confidence to drawdown their capital safely during retirement. The Institute eagerly awaits the outcomes of Treasury’s review into retirement income stream regulations. In particular, we are keen to add deferred lifetime annuities (DLAs) as well as various forms of investment linked lifetime annuities to the product mix available to Australian retirees, with due consideration of the incentives provided to retirees to take their superannuation as an income stream.
Of course, given the heterogeneous nature of retirement outcomes, the Institute does acknowledge the flexibility required in the system to reflect each individual’s different retirement income needs and varying capacity to exercise choice. But a system that is equitable and sustainable, including a cap on the combined cost to the taxpayer of superannuation tax concessions and the Age Pension, and allows at least 50% of Australians to reach the ASFA Comfortable level in a reliable and secure way during retirement no matter how long they live, could reasonably be judged to be a successful retirement income system.
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