On 20 November 2020, the Treasury released the Retirement Income Review Final Report finding that “the Australian retirement income system is effective, sound and its costs are broadly sustainable.” However, there are areas where the system can be improved. The report is based on the three pillars of the retirement income system being the Age Pension, compulsory superannuation contributions and voluntary savings (including home ownership) which results in most Australians achieving adequate retirement outcomes. The aim of this review is to contribute to more informed decisions by improving understanding of the operation of the retirement income system with supporting facts and evidence.
Key observations across the three pillars
The Final Report makes a number of key observations including:
- The retirement income system is complex. The report found that there was a need to improve the understanding of the retirement income system, citing complexity, misconceptions and financial literacy as key reasons for Australians not sufficiently planning for retirement. The report also indicates that Australians were not utilising assets in retirement appropriately. The report found for most households aged 65 or over, the family home is the main asset in retirement and that for the majority superannuation makes only a small share of their net wealth.
This is further complicated due to the complex nature of the Australian taxation system and constant changes to the regulatory environment. The report goes even further suggesting that although the Age Pension helps offset inequities in retirement outcomes, the design of superannuation tax concessions increases inequality in the system.
- A clear objective for the system is needed to guide policy, improve understanding and provide a framework for assessing the performance of the system.
- Additionally, the objective for the system should be “to deliver adequate standards of living in retirement in an equitable, sustainable and cohesive way”.
- Increases in the superannuation guarantee (SG) rate will result in lower wages growth and would affect living standards in working life. More efficient use of savings in retirement can have a bigger impact on improving retirement income than increasing the SG.
- The focus of superannuation has often been on building larger superannuation balances through increased contributions. But lower fees and higher investment returns will increase superannuation balances. Crucially, there has been insufficient attention on assisting people to optimise their retirement income through the efficient use of their savings.
Evidence suggests retirees are generally reluctant to draw down their savings in retirement due to complexity, little guidance, reluctance to consume funds that are called ‘nest eggs’, concerns about possible future health and aged care costs, and concerns about outliving savings. Currently adding to concerns is uncertainty around the impact of the COVID 19 Pandemic.
- Using superannuation assets more efficiently and accessing equity in the home can significantly boost retirement incomes without the need for additional contributions. Several measures could encourage people to use their assets more effectively, including focusing retirement planning on income streams rather than balances, better quality and more accessible advice and guidance, and advancing the concept of the Retirement Income Covenant so funds guide members into effective retirement strategies.
- There are inequitable retirement outcomes for various groups, such as women, Aboriginal and Torres Strait Islander people, those with a disability and those not covered by the SG.
- Changes to improve the fairness of the retirement income system include removing the $450-a-month threshold when the SG is paid; paying the SG on employer-paid parental leave and the government’s Parental Leave Pay; giving greater visibility of superannuation balances in divorce settlements; extending the SG earnings base to include overtime; and ensuring people receive the SG they are entitled to, such as by paying the SG at the same time as wages and better enforcing sham contracting laws.
- While the Age Pension helps offset inequities in retirement outcomes, the design of superannuation tax concessions increases inequality in the system and provide greater benefit to people on higher incomes
The Age Pension has been described as a safety net for Australians who do not have an adequate level of financial resources to maintain their minimum standard of living in retirement in line with community requirements. The report states this is more than a safety net, as it also “provides a buffer for retirees whose retirement income and savings fall due to market volatility, and for those who outlive their savings”.
Compulsory Superannuation Guarantee and voluntary superannuation contributions
The Superannuation Guarantee scheme currently mandates employers to pay 9.5 per cent of certain wages and salaries into a superannuation fund. The rate is currently legislated to increase incrementally until reaching 12 per cent in 2024-25. The report says there were a number of submissions received advocating that the rates should be maintained at 9.5 per cent as increases in the rate would result in lower current income for lower and middle income workers. However, the report also says that maintaining the rate would also lead to lower superannuation balances at all income levels in retirement.
In response to the report, Treasurer Josh Frydenberg has suggested these incremental increases may be delayed as a result of the economic impacts of the COVID-19 pandemic, citing that an increase to super will come at the expense of wage growth, however, he did not mention that this would lead to lower superannuation levels in retirement.
The report also discusses the flexibility of voluntary superannuation payments for Australians such as sole traders or contractors who are generally not covered by the Superannuation Guarantee scheme. Further voluntary superannuation allows Australians to make catch-up contributions after periods out of the workforce and for other Australians to make additional contributions.
Prior to 1 July 2017, many very large superannuation balances were built up under the previous high contributions caps and according to the report are expected to stay in the system for several decades. According to the report, at June 2018, there were over 11,000 people with a balance in excess of $5 million. People with very large superannuation balances receive very large tax concessions on their earnings. However going forward, these superannuation balances are not likely to be as large as the report suggests as the amounts of both concessional and non-concessional contributions cap have been substantially reduced over recent years.
Generally, employers will make Superannuation Guarantee contributions to an employee’s superannuation fund during the accumulation phase. Superannuation funds then move into the retirement phase when the employee begins to receive an income stream from their superannuation fund. There is a $1.6 million cap on funds that can be moved from the accumulation to retirement phase. Earnings on assets transferred into the retirement phase to support the retirement income stream from superannuation are generally tax-free.
Tax Concessions for superannuation
Contributions tax applies to superannuation contributions that have not otherwise been taxed and are generally taxed at 15 per cent in the superannuation fund. This generally includes Superannuation Guarantee contributions or voluntary contributions such contributions made under a salary sacrifice arrangement. This concession applies to contributions up to $25,000 (the concessional contributions cap), however where the total balance in the superannuation fund is less than $500,000, any unused portion of the contributions cap can be carried forward to later income years for up to 5 income years.
Earnings tax is paid when superannuation assets grow in value. Earnings on superannuation assets are taxed in the superannuation fund at 15 per cent in the accumulation phase and are tax-free when the assets are in the retirement phase (i.e. where they are providing income to the retiree). Capital gains are also taxed at 15 per cent, with a one-third discount for assets held for more than one year. Further other concessions exist in specific circumstances, such as a where a person aged 65 or over downsizes/sells their home to make a contribution to the superannuation fund of up to $300,000, subject to other conditions
Tax Concessions for pensioners
By utilising a number of tax offsets such as the low income tax offset (LITO), the low and middle income tax offset (LMITO) and the seniors and pensioners income tax offset, individual age pensioners with incomes of up to $33,088, or $29,783 each for couples, should pay no income tax, with the tax benefits of these offsets decreasing as taxable income increases.
COVID-19 and Retirement ages
Of note, the report discussed how the COVID-19 pandemic is likely to affect retirement ages in the immediate future due to the impact of the pandemic on retirement savings potentially causing some Australians to stay in the workforce for longer than first planned, as was seen after the 2008 Global Financial Crisis.
This is more likely as the preservation age (i.e. the age at which Australians can access their superannuation) is increasing to 60 years and the Age Pension eligibility age increasing to 67 years.
The Government's stimulus measure that allowed a total of $20,000 to be withdrawn from superannuation accounts for members effected by the pandemic will also have a substantial effect on the amount available to fund retirement savings for those who took advantage of this stimulus measure.
The report emphasises the complexity of the Australian retirement income system. Although this is acknowledged and we would prefer simplicity, we also feel that complexity is probably an inevitable corollary of a robust, flexible and stable environment that serves individuals and the community for the long-term (noting that the Australian retirement/superannuation system is, in many respects, considered an international leader). Nevertheless, we feel that the sheer size of the Australian superannuation pool and increasingly problematic demographics (especially that we are an ageing society) mean that it is inevitable that there will continue to be significant (if not, ultimately, profound) legislative and policy amendments and shifts. Both advisers and participants should be mindful of those changes as they are debated and formulated, to allow them to make timely decisions that are better-informed. On the basis that numerous BDO Partners and staff are intrinsically connected with and contribute to all arms of the Australian retirement/superannuation system, we urge and would welcome your contact in this context at any time.
Even though the report states that currently legislated increases in the superannuation guarantee rate will result in lower salaries for lower and middle income workers, there seems to be plenty of push back on this point, indicating that this is not necessarily accurate. As an alternative, the report suggests that funds charging lower fees and providing higher investment returns is the key to increasing superannuation balances. In this regard, BDO is able to assist clients with both aspects to ensure that selected funds are reasonable with regard to fees and improving the investment performance to meet the client’s best interests.