Published by The Australian Financial Review, Wednesday 18 February
Should age pensioners contribute to repairing the Commonwealth government’s budget? Haven’t they paid their taxes already?
The Commonwealth has a big budget problem. Its deficit in 2014-15 is forecast at $40 billion. For each Australian household, it is incurring an annual additional debt of about $4500, which will have to be repaid from future taxes. On current forecasts, the Commonwealth will post a large deficit in each of the 10 years between 2009 and 2018. It is spending $11 for every $10 it receives.
The age pension costs $42 billion a year – about 10 per cent of all government expenditure. It’s growing much faster than the economy and taking an increasing share of government spending. Over the last 10 years, spending on the age pension has grown by 5 per cent a year in real terms. Without legislative change it is forecast to grow by 6 per cent a year for the next 10 years.
Therefore, changes to the amount of the age pension, or eligibility for it, make a big difference to the budget.
The May, 2014 budget proposed the age pension should only increase in line with inflation. As a result, the income of a full age pensioner would fall further behind the income of an average wage earner. The change would most affect those who have no income other than the full age pension – generally, Australia’s most vulnerable retirees.
The 2014 budget also proposed increasing the pension age to 70. Yet, even if the Senate passes the legislation, the current proposal will not affect anyone – or the budget – until 2023. More significant changes are needed and they should be targeted better so that they most affect retirees who have more resources.
The problem is too many people are eligible for the age pension. Many retirees with significant resources collect at least a part pension. Half of the government’s spending on age pensions goes to people with more than $500,000 in assets. Of those over 65 with $1 million in assets on top of their own dwelling, 80 per cent collect a part pension.
The age pension is the real home of middle-class welfare in Australia. Households over 65 can still qualify for a part pension even if they have $1 million in assets in addition to their primary dwelling.
Including owner-occupied housing in the pension assets test could improve the Commonwealth’s budget position by about $7 billion a year. This is roughly the combined effect of the May, 2014 budget measures to impose a Medicare co-payment, reduce family tax benefits, tighten Newstart eligibility, increase income tax for high-income earners, and increase the amount students contribute to their degrees.
Of course, this proposal raises concerns about pensioners with large homes but little income. Grattan Institute’s 2013 report, Balancing Budgets: tough choices we need, proposes allowing them to continue to collect the age pension until they die, at which time the Commonwealth would recover the cost from their estate. Our proposal, if well-designed, would have almost no effect on retirees – instead it would primarily reduce inheritances.
Many retirees believe they are entitled to a part-pension, even though they have substantial assets, because they have paid their taxes. But those who retired in the last six years didn’t pay all their taxes. Instead, the government lived beyond its means, and imposed the costs on future taxpayers. And older generations today cost a lot more than previously. Grattan Institute’s 2014 report, The Wealth of Generations, shows that in 2010, governments spent around $32,000 a household over 65, up from $23,000 for the equivalent household in 2004.
Of course, change in pension eligibility could affect existing retirees who have arranged their affairs to maximise their entitlements. But the solution is not to grandfather existing arrangements. Grandparents may have spent more on their house to maximise their pension, but they are still well off. Many younger households will be lucky to ever own their own home.
There is a better way. A gradual increase in the value of owner-occupied housing that is included in the pension assets test would give retirees time to decide how to respond to the new rules. Some may decide to draw down on the value of their house, reducing the inheritance they will pass on. Others will move to a smaller house so they have more money to live on. All households in this situation will remain much better off than households on the full age pension.
Both the government and opposition have been quick to rule out including owner-occupied housing in the pension assets test. But the age pension is large, growing fast, and poorly targeted. Sooner or later, the unthinkable will have to be thought of as essential to budget repair.