Chris Sozou, General Manager of Wealth and Insurance, at Virgin Money Australia, outlines the various purposes of superannuation in Australia, and the need to better define a single purpose.
Superannuation is a trending topic in Australia thanks to some recent political attention. As debate bounces back-and-forth on changes to superannuation tax policy, there has been a lot of discussion about the need for defining the purpose of superannuation in Australia.
Without a definition to guide policy, the purpose of superannuation will be different for different people, depending upon the rules that they are able to take advantage of. Below are some examples of possible purposes of super when viewed through the lens of the varying superannuation rules:
1. Reduce reliance on the Age Pension
Most working Australians get 9.5% of their salary paid into a superannuation account. The compensation for forcing 9.5% of our salaries into super is that these Super Guarantee (SG) contributions (and the earnings made on that money) are taxed at the lower rate of 15%, a benefit for many. However, 9.5% of your salary is widely considered inadequate to provide a comfortable retirement.
Therefore, when viewed purely through the lens of SG contributions, one could consider that the purpose of superannuation is to reduce reliance on, but not replace, the Age Pension.
2. Provide for an active and comfortable retirement without reliance on the Age Pension
The Government also allows individuals to make additional contributions to their super. Depending on your age, you can contribute up to $35,000 of your pre-tax salary (including your SG) per year into super and have this taxed at the lower rate of 15%. In addition to this, you can also contribute up $180,000 of post-tax money into super each year. This money does not get taxed again when you contribute it to super, and any earnings on this money is taxed at the lower rate of 15% rate.
Therefore, when you look at super through the lens of the tax incentives provided for contributing additional amounts, you could say that the purpose of superannuation is to build and provide for an active and comfortable retirement, without any reliance on the Age Pension.
3. Provide for an early retirement
An individual can access their super at the age of 55, increasing to 60 over the coming years (known as the Preservation Age), but can only access the Age Pension at the age of 65, increasing to 70 over the coming years (known as the Retirement Age).
Therefore, when you look at super through the lens of Preservation and Retirement Ages, one can assume that the purpose of superannuation is to provide for an early retirement.
4. Provide post-retirement flexibility for any individual needs
Once an individual does retire, the rules in super mean it is difficult to ascertain the purpose of superannuation. In essence, there are two options:
1. Withdraw Super as a lump sum.
Whether a lump sum amount is taxed or untaxed is somewhat complicated especially for individuals who have untaxed components in their super. For many, it is possible for an individual over 60 to withdrawal their full balance with no tax payable (this is where their full balance was classified as ‘taxed’). There are no rules around what you can do with a lump sum withdrawal. In theory, an individual can withdraw their balance, spend it all on holidays and then rely on the Age Pension. While there is no evidence of such practices, this is commonly cited as a negative aspect of the current system.
2. Transfer a Super balance (whole or in part) to a Pension and commence pension payments
When commencing a Pension, an individual must withdrawal a minimum amount of their pension balance each year. The minimum amount is a percentage amount based on your age. There are also maximum limits on pension withdrawals.
It is possible for an individual to implement varying combinations of the above, for example, take lump sum payments and have a pension. There is a lot of flexibility in how you can withdraw and spend your super once you have reached retirement age and have retired. With this level of flexibility, it is difficult to ascertain a purpose, as each individual can use the system to achieve their own outcome, from supplementing the Age Pension, to using the super system to effect a transfer of wealth from one generation to the next.
Therefore, when you look at super through the lens of post-retirement options, you could say that the purpose of superannuation is to provide flexibility for all retirees, whether that be to take all of your money up front, put it into a pre-defined Pension agreement, or adopt some combination of both.
So what is the underlying purpose of superannuation? It is not entirely clear when analysing the various aspects of the current system. It could be to reduce the reliance on the Age Pension, eradicate the Age Pension entirely, help people retire earlier, allow people to do what they want with their money once they retire, or any combination of the above.
Why is it important to have a defined purpose of superannuation?
There is currently over $2 trillion dollars of superannuation savings in Australia.
Let that simmer for a moment. $2 trillion.
This is a staggering amount and is the envy of the developed world. Yet, based on the above, it is clear to see why there is so much political and media debate on whether the tax incentives provided to super savings provide lasting value for a consistent purpose.
Governments have the incentive to play with the super system based on near term budget and electoral requirements. This was evident in 2007 when the Howard government allowed individuals to make a one-off after tax contribution to super of up to one million dollars, after which a $150,000 cap would apply. At the time, the budget was in surplus, the outlook appeared strong and it was a strong political move, especially in an election year. The following year, under the stress of the GFC and the impact to budgets, the Rudd government made cuts to the contribution limits.
Individuals can also take advantage of policy decisions that benefit the individual but not necessarily the system. As noted above, while some may spend their lump sum immediately and fall back on the Age Pension others are able to maintain super balances that would appear to most as excessive to fund a comfortable retirement. There are approximately 2,700 SMSFs with balances over $10 million and 6 SMSFs with balances over $100 million. When you read about these types of balances, and compare them to your own, it is easy to see why many believe that the tax incentives provided to super are not balanced and not benefiting the system on the whole.
Defining and enshrining into law the purpose of superannuation will mean that any future proposals by Government on changes to superannuation will be assessed against the purpose and the ability to achieve that purpose.
The Government has recently proposed the core purpose of the Superannuation System as:
“To provide income in retirement to substitute or supplement the Age Pension”
There are a 6 sub objectives which support this core objective.
The Government has published this objective for public consultation, and undoubtedly, there will be many and varying opinions on what it should be.
Time will tell whether this ends up being the enshrined purpose, however it is hoped that in defining a core purpose, Australia will aspire to something more than just the mere replacement of the Age Pension. Whatever the final objectives are, it should aim to:
- Provide significantly better outcomes for individuals than the Age Pension;
- Significantly reduce the cost of the Age Pension for the Government;
- Encourage Australians to take an active role in saving for their retirement; And
- Discourage the use of the system as a general wealth accumulation and inter-generational wealth transfer tool.
Using the above key points as a guide, keep a keen eye on the superannuation debate in the lead up to the Federal Budget, and the next Federal Election. It appears to be a key battle ground, and policies will likely be focused on the fairness and efficiency of the system, the reliance on the Age Pension and, of course, getting (re)elected.