Nest and nest egg: 23 aspects of housing and ageing

This article details much, but leaves out the final stage, aged care and rolling into it with a large deposit from the sale of the family home. That requirement changes the picture for all investment choices in the lead up.

Congrats to CEPAR - especially pages 30-33

A comprehensive and independent report that reaches a sound conclusion about the current lack of effective governance and competition in both the govt and non-bank offerings in the residential loan market to unlock savings in the home and boost the income of older low and high income Australians in retirement.

The financial engineering of the income payments associated with a lifetime loan is easy – albeit selling with disinterested advice and overcoming buyer stress or other issues is difficult for some.

There's little, if any, equity or credit risk in unlocking a relatively small amount of savings in the owner-owned home of low income older Australians by regular payments to boost their incomes and well being.

Effectively, it's an income payment to low income older Aussies backed against AAA covered residential loan/bond/asset that should be funded or better packed by the govt or internalised by super funds and sold to their members or global investors at well less than the borrowing cost from both the govt's pension loan scheme and non-banks at 5% or more! Indeed, the govt's NIFC sells similar bonds at 65 basis points above govt bonds, while covered bonds issued by Australian banks sell at a margin of 0.8% over Aussie govt risk - less than 2%.

The govt at Centrelink and non-banks with related financial advisers are selling some today, but the price is way too high - so mainly low income, desperate or ill-advised people will buy and there’s a big opportunity cost.

There's a big wait at Centrelink - so asset rich elderly low income Aussies that do not qualify or cannot wait, head for expensive non-bank offerings.

In short, the current market lacks effective institutional governance and competition and innovation by both the govt and non-bank providers.

At a macro level, it's also not good for growth and jobs for younger Australians - or the national interest.

Currently, this institutional/market failure means the vast majority of low income older Australians over save and die in their home or sell the home/pay off the loan and then enter aged care with excessive savings and younger Australians stay unemployed and wait for a bigger inheritance.

As a movie buff I remember a movie about the life of an uneducated peasant who became president of Mexico. At one stage when advised that the economy was in bad shape and running out of money he responded: well print more. People in the audience laughed. However now it is called QE and treated seriously.

I once had the privilege of attending a lunch with Milton Friedman. In the Q&A someone asked why the US dollar was going down. He responded with a straight face that there was something called supply and demand and if the price was going down then there was more supply than demand. However he also said: inflation is taxation without legislation.
So how does QE help anyone? Certainly not the dopes who have worked all their lives to support themselves in old age only to find their cash to be of declining value compared with assets such as property bought recently with low
interest loans by younger people. Maybe we should just stockpile expensive alcohol and drink ourselves out of it. The youngest sector would probably thank us for getting out of the way.

I seem to recall that many years ago, when super commenced, that contributions were tax free and the earnings within the super fund was also tax free.

I have an issue with the graph
Lifetime government support provided through the retirement income system

and in particular the part dealing with contributions and earnings tax concessions. I suggest that the problem of super tax concessions can be attributed solely to peter Costello when he made pensions from a super fund tax free.

Under the initial system (super funds didn't pay any tax on earnings or contributions) the member of the super fund paid income tax on the pension that was drawn from the super fund.

effectively, if you put money into super, you didn't pay any income tax that year, but when you withdrew the money from the super fund (ie drew a pension) you were then taxed on the income received. putting money into super was therefore not a tax reduction scheme, but rather a tax deferral scheme.

then paul keating changed things. he put a 15% tax on contributions and a 15% tax on super fund earnings. BUT, when you drew a pension from the super fund, you were taxed on the income, but you got a 15% tax rebate on that income (the 15% number is no coincidence, the super fund paid 15% tax on contributions it received, and its earnings, but when the member was paid the pension that came back to him).

It was sort of a withholding tax - keating obviously needed to improve the budget bottom line, and getting 15% off the super fund did that (in that year) but the government would pay for it later (when the super fund started to pay a pension) because the income generated from the pension would be taxed effectively 15% lower than ordinary income. The government got the money now, and gave it back later. Sounds a bit like the franking system that keating also introduced, company pays 30% now, but when it pays out a dividend, then the individual pays tax on the whole dividend (grossed up) but then gets a rebate for the 30% that the company had already paid - effectively, if you ignore timing, the company pays zero tax.

The next big change to the super taxation system was Costello. he made pensions from super funds tax free. Now for someone who drew a pension of about $40k it made no difference to their tax at all. Marginal tax rate for the individual was 16.5% (including medicare) and they got a rebate of 15%, so effectively zero tax. But for a person who was on a high income (and MTR) they used to pay tax at their rate (say 46.5%) less the 15% rebate, so when Costello made super pensions tax he gave nothing to the low value super pension account holders, but a lot to the high value ones.

if the government were to reverse The Costello tax free super pension change, and started taxing pensions again (less the 15% pension rebate) then all of the problems of tax concessions would be eliminated. High income earners would still get a bit benefit in the short term (paying only 15% contributions tax instead of their MTR) but would pay for it later when then started drawing a super pension. By reversing the Costello change, all that super would do is postpone a tax payment (by evening out income over a lifetime rather than just over a working life). Its not too far distant from what farmers can do with income equalisation.

hope these thoughts are helpful. happy to discuss further if you wish

And if you maintain the minimum pension draw downs then those with higher balancEs must draw higher income that will push them into higher tax brackets

The tax on pensions that applied before the Costello changes in 2007 only applied to the proportion (not the amount) of concessional contributions within the fund and those proportions are frozen when the pension starts. By definition, large funds hold large proportions of non-concessional (after-tax) contributions and therefore the taxable proportion of each pension payment would generally be quite small (even with large pension payments from large funds).

That tax arrangement still exits on death benefits today - something that most people seem unaware of.

The tax liability on the super pension was then further reduced when the 15% pension rebate was applied. In reality not much tax was collected from super pensions before 2007 and so by making all withdrawals from super tax-free after age 60, Costello was able to generate enormous political capital with little fiscal cost to the Budget.

I explained this more fully here: www.firstlinks.com.au/myth-costellos-generosity-tax-free-super

With our franking credit system the same "slight of hand" applies when the government says it is going to reduce the corporate tax rate.

Take for example a company that earns $100 in profit. It pays corporate tax on this at 30%, so $30 goes to the government. Eventually the company pays out the after tax profit to its shareholder, so the shareholder gets $70, but in their tax return has to put the $70 cash, and gross it up for the tax already paid, so the individual includes in their tax return $100. This then gets taxed at their marginal tax rate. For illustrative purposes, assume that the tax rate is 46.5%. The individual then owes $46.50 in tax, but as the company has already paid $30 in tax, the individual has to pay only $16.50. If the individual's tax rate is 31.5%, then they have a liability of $31.50, $30 of which is already paid, so they have to pay $1.50. and if the individual isn't liable for tax, then the individual gets a refund of $30. From the government's point of view, it gets a total of $46.50 ($30 from the company plus $16.50 from the individual) from the first individual, $31.50 ($30 from the company and $1.50 from the individual) from the second, and nothing (it collected $30 from the company, and then refunds $30 to the individual) from the third

Now lets consider if the government "slashes" the company tax rate to 10%. In this case, the company makes $100 in profit, but now only pays $10 in tax. now the first individual pays $36.50, the second $21.50 and the third gets a refund of $10. The government from these three individuals collect in total (when added to the company's tax collected) $46.50, $31.50 and zero.

But in the process, the government has managed to create a headline "government slashes taxation" and gets votes. Slight of hand! The best tax cut you can have (from the government's point of view) - a great headline that has cost the budget nothing

so much for Australia having one of the highest company tax rates in the world! In fact, Australia has a zero company tax rate

John, your analysis of tax in superannuation and on Companies shows that you have no understanding of the situation. To suggest that companies are paying no tax because the shareholder gets a credit against his total tax bill is wrong. If the shareholder did not get this credit he would effectively be paying double tax. You cannot tax the same income twice. If the taxpayer invests directly, instead of through buying company shares, he ends up paying exactly the same tax as he does under the imputation system. This is the problem we have in Canberra. Politicians, who are mainly solicitors, do not understand tax unless they are specialists in this area.

Not quite, Lewis, it's a bit more nuanced than that. The imputation system exists to completely integrate the company tax and personal tax regimes so that the income earned by companies is taxed in the hands of the shareholder. Where that shareholder is foreign, the income is taxed at the company tax rate, currently 30%.

The economics of this is identical to a situation where the company tax rate is zero and all earnings are distributed to the shareholders and taxed as ordinary income for them, plus a 30% withholding tax on earnings paid to shareholders who aren't taxed in Australia.

So in that sense, John was actually correct. There is, in essence, no "company" tax. Where he's wrong is in suggesting that this means that company profits are not taxed. They are, and based on the estimates I came up with during the franking credit debate, the average rate of tax paid on those profits is actually higher than 30% since there's more shareholders who are in the top marginal tax bracket than there are in the lower tax brackets, including zero. Also, foreign shareholders do pay the 30% tax rate.
Finally, John's missed the very clear element of the debate about the company tax rate, which has recognised all along that it's primarily been about the tax levied on foreign shareholders and how competitive that is globally. There's been no slight of hand in this. Rather, it's as you say at the end of your comment - many politicians don't understand how the tax system actually works in a financial and economic sense. This was evident in the franking credits debate and is often on display in other contexts, including discussions about payroll tax (which is a tax on consumers, not a tax on jobs) and the company tax rate debate.
Oh how this former Treasury officer despairs of the way policy is debated in this country!

Talk to most people in their 30s and their main financial priority is still buying a home, and nothing to do with super. They will go to great lengths on delaying having children, working two jobs, starting with a smaller place, anything to get started on the ladder. This article shows that makes good sense, given the consequences of not owning a home in retirement.