The Government is determined to limit early access to super to help borrowers pay down a mortgage.
It is striking that the consultation paper on this proposal makes little mention of the age pension, even though super and the age pension are closely linked in providing retirement income. Under our retirement system, the family home is exempt from the pension assets test. It means the family home can have any value and it will not reduce the pension.
According to the Retirement Income Review, some 15% of age pensioners live in houses worth more than $1 million, mainly in Sydney and Melbourne. By contrast a person’s super balance is an assessable asset and a large super balance significantly reduces the age pension. A homeowner couple with a combined super balance of $1million do not qualify for the age pension.
Moreover, the age pension is heavily biased against non-homeowners. Non-homeowners are allowed to have more assets than homeowners before their pension is reduced, but the income generated by these additional assets plus any Centrelink rent assistance is insufficient to cover today’s market rents. Age pensioners who are also renters are at significant risk of poverty in retirement.
The hypocrisy of current rules
One of the changes to super introduced by Treasurer Costello in 2007 gave people access to all their accumulated savings, tax-free, once they reach their preservation age and they meet a condition of release. Many people now use some or all their super to pay down their mortgage as soon as they can access it, tax-free after age 60. The reason is quite rational. It will minimise or eliminate the debt on their family home in retirement, while also maximising their age pension on reaching pension age.
Some see this as double-dipping; enjoying the tax concessions of super and enjoying the taxpayer benefits of the age pension as well. But if the purpose of super is to encourage dignity in retirement, this strategy saves many pensioners from poverty in their later years. This behaviour is now so entrenched, that many people enter retirement with higher debt levels than previously in the expectation they can access a tax-free lump sum from their super savings after age 60.
Therefore, to deny people access to lump sum withdrawals from their super in retirement would upset the plans of many people and the government should expect a significant political reaction.
The current proposal foreshadows a prohibition on allowing young people early access to their super to reduce or eliminate their mortgage. The reason is that early access will significantly reduce their super balance at retirement and make their dependence on the age pension more likely.
It is the height of hypocrisy for a set of rules that allows retirees to legitimately use their super to reduce their mortgage after age 60 and simultaneously increase their dependence on the age pension on retirement but denies young people early access to their super to reduce or eliminate their mortgage on the grounds that they will have with a lower super balance at retirement thereby increasing their dependence on the age pension. Whenever super is accessed to reduce the mortgage, surely the outcome is the same; there is less super available to provide income in retirement.
Moreover, if younger people are denied early access to their super to reduce their mortgage earlier, they pay more interest on that mortgage for longer while they wait to get access to their super. It also means that the industry funds collect more fees for longer while that money is retained within the fund. Some suspect that this is the real motive for this proposal.
The mathematics of compounding are clear: early access to super will certainly reduce the final super balance, but the point often overlooked in this discussion is that young people have time on their side. At their age they are able to “catch up” by making additional contributions later in life when there is more discretionary cash available. By contrast, people who reduce their mortgage only when super is available tax-free after age 60 are seldom able to make extra contributions.
How policy has evolved
Before 1992, when a person changed jobs, their super was paid out in full. That payout allowed families to put a larger deposit on a house and it often meant they were also able to pay it off sooner. From a housing perspective, early access to super was very positive. However, it meant starting a new job with little or no super, and without those earlier contributions and subsequent compounding of investment earnings they would have had to save really hard to make up the difference. It’s not called salary sacrifice for nothing.
The critical element at that time, however, was that were higher limits on concessional (before-tax) contributions. Employees over the age of 50 were able to salary sacrifice $100,000 per year. With more discretionary money available, that period when the kids have left home and the mortgage is greatly reduced, is a great opportunity to build super balances.
After super became compulsory in 1992 for all workers, the budgetary impact of super tax concessions increased dramatically, but the expected reduction in the cost of the age pension has taken much longer. One reason is that people can access their super tax-free many years before their super balance is assessed for the age pension. Another reason is that a home-owner couple, can have $419,000 in super and still receive the full age pension.
The tax receipts flowing from super increased significantly from 2017, when members with large super balances were forced to move the money in excess of the TBC from a tax-free pension fund to an accumulation fund paying 15% tax on income.
To limit the total cost of super tax concessions, however, the main strategy employed by successive governments has been to severely restrict contributions and increase the tax on contributions for high income earners. Perversely, the impact of these limitations on contributions has been to severely limit the size of the super balance that present day workers can now accumulate.
In other words, to limit the tax concessions flowing to large super balances in retirement, the government has severely limited the capacity of younger people to achieve financial independence. Successive governments have attacked the problem of excess tax concessions from the wrong end. The intention is clearly to prevent present workers from accumulating large balances, but it has also removed incentives for young people to save through super and it has had absolutely no impact on these existing large super balances in retirement. It is inequitable and leads to intergenerational envy.
At present, a couple who owns their own home with more than $935,000 in super, which is mostly their own savings, is independent of the age pension and save the taxpayer $40,000 per year for possibly 30 years. Any rational approach for the government would be to encourage people to contribute more rather than less to their super to reduce the cost of the age pension. And yet the trend since 2007 has been to restrict both concessional and non-concessional contributions.
Young people deserve the option of accessing super early
Super is a long-term project and it makes more sense to people if these forced savings are available to them as their needs change through their life cycle. Younger people should have the option to draw on their super balance, within limits, to assist with their housing needs to provide financial assistance at the time in their lives when they need it most.
People typically begin to concentrate on their retirement plans in their 50’s when they have discretionary resources and their kids and careers are relatively settled. That is why the current contribution caps should be relaxed especially for people over the age of 50 to allow them to make catch-up contributions.
By adopting a life-cycle approach to super savings, workers could have the best of both worlds.
Firstly, super could be used to help young people become homeowners and mortgage-free much sooner.
Secondly, relaxed contribution caps could help older people to gain financial independence in retirement with accelerated savings when they have the financial resources to save for their retirement and save the taxpayer the cost of the age pension. That really would be a dignified retirement.
Jon Kalkman is a former Director of the Australian Investors Association. This article is for general information purposes only and does not consider the circumstances of any investor. This article is based on an understanding of the rules at the time of writing.