Less tax is paid on super savings than other forms of income. But if we want a fair and sustainable superannuation system, reform to super tax breaks is essential.

On a recent podcast, Grattan addressed the question of super tax breaks for balances with over $3 million. But reforming super is a much broader task, that if successful, will result in a fairer system which could repair the budget by billions.

Brendan Coates, Economic Policy Program Director, and Joey Moloney, Senior Associate, discuss their new report on superannuation reform with host Kat Clay.


Kat Clay: Less tax is paid on super savings than other forms of income. But if we want a fair and sustainable superannuation system, reform to super tax breaks is essential. On a recent podcast, we addressed the question of super tax breaks for balancers with over 3 million in them. But reforming super is a much broader task, that if successful, will result in a fairer system that could repair the budget by billions.

Here to discuss their new report, Super Savings Practical Policies for Fairer Superannuation and a Stronger Budget are Brendan Coates, Economic Policy Program Director, and Joey Maloney, Senior Associate. So this might not be the sexiest podcast topic, although Brendan will argue with me on that, but it is an important one.

Joey, I want to start with you and look at some of the basics because it is a complex topic. What are super tax breaks and why have they been in the news lately?

Joey Moloney: You’re right that it’s not the sexiest topic, but you’re also right that it’s an important one. It’s really, really important. So, to start with the basics, super tax breaks arise, because like you said in the intro, super is taxed a lot more lightly than other forms of income.

This is true both for the contributions, that you put into super and for the earnings that accrue once that money’s invested. At a high level, both of those are taxed roughly at 15 percent but there’s some nuances underneath that. You compare that to the personal income tax system where most people have a marginal rate probably above 30, you can see a pretty generous tax break there.

The key point here is the generosity of them and that generosity increases. So the higher your income is, the bigger your tax break is. Now there’s always been a lot of debate about super tax breaks. Nerds like us have been talking about them for a long, long time. But the debate really hit the floor and got into the public consciousness.

this last month or so after the government released a consultation paper with a proposed objective for the superannuation system. It might sound a little bizarre that a 3. 3 trillion dollar system doesn’t have a clear objective after 30 years of operation, but here we are. So the proposed objective was to preserve savings to deliver income for a dignified retirement.

alongside government support in an equitable and sustainable way. People zeroed in on a few things of that objective. One that it’s there to deliver income and two that it needs to be done in an equitable and sustainable way. And right now the part of the super system that is least equitable and least sustainable are the tax breaks.

So naturally that’s where the debate went pretty quickly. The government then announced a policy like you said in the intro to tax the earnings on balances above. 3, 000, 000 at 30 percent and as we said on the previous podcast, we think that’s a great start, but there’s more needed to be done as I’m sure we’re about to get right in.

Kat Clay: Okay. So taking a step back, Brendan, if the government is taxing super so lightly, how much do these tax breaks cost and where do the benefits flow?

Brendan Coates: The cost of the concessions, there are various ways of measuring, but the most common and we think the right way to measure them is to compare, you know, the tax that you’re actually paying on your superannuation savings.

On the contributions, they’re on the earnings and then, you know, in Australia’s case, there’s not tax and withdrawals compared to if that money was instead taxed at full rates of personal income tax, as Joey sort of outlined. On that basis, the combined cost of the concessions on contributions and on earnings is about 45 billion a year.

Now that’s. Pretty much 2 percent of GDP or 17 percent of personal income tax collections, and that that amount of money is going to grow really quickly because the super system is still maturing. We’re putting more money into the system and balances are growing really quickly across the system. And so by 2060, it could be about 3 percent of GDP.

So it’s actually going to increase as a share of the economy compared to the size of the economy over the next 40 years. And in fact, the cost of the concessions in super the tax concessions. Will exceed the expenditure from the government each year on the age pension, you know, within the next decade by that 2036.

Now, in terms of how they distribute it, now concessions flow overwhelmingly to wealthier Australians. About two thirds go to the top 20%. Now that’s because wealthier Australians earn more so they contribute more to the super system and so they get a large concession because of that, but it’s also because the concessions do skew towards higher income earners, particularly when we’re thinking about contributions.

And so that money, that two thirds of the value of the concessions is going to the wealthiest percent of 20 percent of Australians. They’re likely or very likely to already have a comfortable retirement by the time they retire. They’re on track. and they’re also the group that’s not going to really relied on the age pension, even if you didn’t give them those concessions.

So regardless whether we think of the government’s objective, which is about providing incoming retirement for a dignified retirement. Well, what the coalition previously proposed that super should be about providing incoming retirement to supplement or substitute for the age pension, either definition put forward by the major parties in recent years is just not consistent with where the tax concessions are.

And so it suggests that they do need to be wound back. And the biggest challenge I think that we face, the biggest concern we have is that a lot of this money is not actually being spent. So these concessions top up the value of super balances in retirement. But, you know, the typical retiree in Australia doesn’t tend to spend down their balance and certainly not most of their balance to the point where the extra concessions that are going in are actually being drawn down to provide a retirement income.

And so the system is turning into a taxpayer funded inheriting scheme, you know, today, about one in 5 that comes out of the super system is in the form of a bequest, you know, to your family by 2060, it’s going to be one in 3. And so, you know, irrespective of what you think the objective of super is, the concessions currently being offered appear far too generous, and they’re completely out of whack with any plausible definition or objective for the super system to that.

Kat Clay: Thanks, Brendan. Now, I find some of the examples that you’ve used in this report really helpful. And one of the lines which took me aback is that you. And I quote, a self funded retiree couple can have from 1st of July this year, 3. 8 million in super unlimited home equity and income outside super up to about 66, 000 a year and pay no income tax.

Joey, it sounds like super tax breaks create an intergenerational fairness problem as well.

Joey Moloney: Yeah, that’s exactly right. They definitely do. And one thing I neglected to mention, earlier was that. The investment earnings on your super, they’re taxed at 15 percent if you’re in the accumulation phase. So if you’re still working and making contributions to super.

But if you’re a retiree, so you’ve left the workforce and now you’re drawing down on your super, those earnings are now tax free, right? So that’s how that, the example that you just illustrated, that’s how that arises. And this line, it speaks more broadly, not just to the decision to give retirees tax free earnings on their super balances, but to a bunch of decisions made by successive governments that have really shifted the tax burden onto younger workers.

We’ve got a situation now where the share of households aged 65 plus, so roughly speaking, retiree households, the share of them paying income tax has halved. Now this is despite really strong growth in their income and wealth. And you’ve got to keep in mind, there’s a, there’s a wealth of evidence showing that the incomes of younger people are really stagnating, yet they’re the ones being hit with the increasing tax burden because of these decisions that have been made by successive governments.

And the reason this is a compounding problem is that we’ve got an aging population, which means there’s going to be fewer younger people working to support each older person. So we’re going to have more older people and they’re going to be living longer. That’s certainly something to celebrate. We should definitely celebrate people living longer, but it does come with a price tag.

It means more people needing more health and aged care and fewer younger people paying the tax needed to fund that. Critically, we’ve got to think about the current context where we’ve got a budget deficit of 2 percent of GDP and no real plan. To fund those commitments that governments have made to pay for the health and aged care that our aging population is going to need.

But one thing is certainly clear is that it’s, it’s clearly unsustainable and undesirable to push all the costs of that onto young people. And the excessive generosity of super tax breaks are a big reason why that’s happening. And it’s a big reason why we. and our report, shows why they need to be reined in.

Kat Clay: We understand that super tax breaks are expensive, unfair, and unsustainable. As you’ve said, Joey. Brendan, what does your report say we should do about it? Let’s start on the contribution side here.

Brendan Coates: When we’re talking about contributions to super, we’re talking about the fact that money can be contributed to super, and you don’t pay your marginal income tax rate on the money before it’s saved.

So it’s typically taxed at a concessional rate. Typically 15 cents on the dollar per dollar that you can put into superannuation before you’ve paid tax on that income. Now, there are two key problems with the way that contribution tax breaks are structured at the moment. The first is that they give a larger tax break per dollar contributed to high income earners rather than lower, low and middle income earners.

And that’s a problem because if you think about why we offer these tax breaks, whether it be to encourage people to save more. But particularly as compensation for preservation for locking up that money for 40 years, then the case is very strong for giving a larger concession to low income earners per dollar they contribute to super than to high income earners.

Low income earners are more likely to be adversely affected by the fact that they’re locking away their money for a long time. You know, previous grant work has shown they’ve been forced to save too much for retirement. They’re more likely to see the increase in super savings be offset by a lower age pension entitlement.

So they actually don’t benefit that much from having higher rates of super contributions. Lower income earners tend to have, frankly, they live shorter lives. Like on average, there is A link between your social economic status and your life expectancy. And so if you’re going to live for fewer years, you’re going to live for fewer years to enjoy the benefits of superannuation in retirement.

So, you know, an indigenous man lives on average about 10 years less. then, you know, a non indigenous man. And so that has the effect of making it less valuable to lock up your super and therefore the cost of preservation higher. So that’s why we should be offering in fact, a larger tax concession to low income earners per dollar contributed to high income earners.

But we in fact do the opposite. Right. And the second reason is that the amount you are allowed to contribute to superannuation on a pre tax basis is just too hot. So on the first of these We would reorient the way the tax concessions are distributed to offer a larger concession per dollar contributed to super to low income earners compared to high income earners.

We would do that first of all. By changing what is called division 293 tax. So this is a tax that means that if you earn currently more than 250, 000 a year, then you’re taxed at 30 percent on your super contributions rather than 15%, which is how everyone else is taxed. That’s currently kicking in at 250, 000.

We think it should kick in from 220, 000 and the rate should be raised to 35%. That has saved 1. What it would mean is high income earners would get a 10 cent per dollar tax break that they contribute to super, whereas low and middle income earners would get at least 15%. The second change we would make is that the low income superannuation tax offset, which is about basically refunding the tax that’s paid.

On super contributions for low income earners because that comes out of the super fund once it’s gone into the account that that should be raised to extend it from incomes of 37, 000 currently to 45, 000 and the size of that offset increase from 500 to 800 and that would just mean that anyone earning up to 45, 000, which is where, you know, the 19 percent personal income tax bracket now kicks in would get a con a concession Of at least 15 cents in the dollar on every dollar they contribute to super up to the new rate of compulsory super contributions of 12%.

And so those two things would ensure that the less money you make, the larger the tax rate you get per dollar you contribute to super. But that itself won’t be enough to actually, you know, fix the system when it comes to contributions. You know, we still see a large amount of money going into super on a voluntary basis.

A lot of it looks like tax planning and tax minimization and potentially planning for inheritances rather than actually genuine retirement savings. So the second thing we would do is to reduce the cap on the amount of money you can contribute to super on a pre tax basis. from 27, 500 a year to 20, 000 a year.

Now that would basically affect a lot of these pre tax voluntary contributions being made by people, you know, people who’ve got the extra money to contribute. We know that 80 percent of the value of those contributions above 20 grand a year are made voluntarily, and that two thirds of them go to the wealthiest 20 percent of super accounts in each age group.

So they’re going large to the people that are already saving up for retirement. So if we Brought that back. If we trim that back to 20, 000, that would save another 1. 6 billion a year. The raising the division to 93 tax and lowering the threshold where it applies. Expanding the listo and then capping pre tax super contributions at 20, 000 a year, all that would save 2.

2 billion a year, and that would be a materially fairer and better super system on the contribution side then what we have today.

Kat Clay: Brendan, this is just a follow up question to that last point on the co contributions, because in the report, it talks about how these were intended for people who might not have big super balances to top up that, such as women who have kind of irregular working habits through the, through the years.

But what it’s been used for is kind of like that late stage wealthy kind of topping up the super balance before it becomes tax free. Is that the case? Yeah,

Brendan Coates: so there’s a difference between the LISTO, which is an automatic rebate of the tax that’s being paid and then these co contribution schemes, which are additional, which is that if I voluntarily make as a low income earner, you know, an extra 5, 000 contribution to super, then there’s a top up from government and the problem with those kind of.

top up voluntary schemes is that they really depend on you having the financial resources free to make the additional contributions. They’re designed as an equity measure, either for around gender or as an equity measure around, you know, avoiding poverty and retirement. And the problem is that, you know, if you tend to be, have a lower income during retirement, you also tend to have a lower income before you retire.

And so you just don’t have the means to do it instead. What’s happening as you say, Kat. Is most of the money that’s going into those, those co contribution schemes is actually, you know, money that’s been put in, by couples channeling the money into the, the, the, the, through the super account of the person with the low income, making the use of the co contribution, but they’ve got a high income earning spouse.

And so it’s not a really efficient way of trying to support the suit of equity objectives in super. In fact, we would say, you know, beyond that automatic rebate of the tax paid on contributions by the listo, you know, you should actually be just using the age pension system, the income support system as the priority to fix equity objectives because it’s just a much more coherent way of making sure that we’re supporting vulnerable people at much less cost to the government without this kind of week huge in this form of tax planning that we see today.

Kat Clay: Essentially. I mean, if I was a low income earner and I had a thousand dollars to spend, I’m going to pay the immediate bills and, and costs of living first, rather than putting money into superannuation, which might feel like a long way off.

Joey, I mean, what happens to the money inside super? What do we need to do on earnings tax breaks?

Joey Moloney: It’s those tax free retirement earnings I was talking about before that’s the big elephant in the room when it comes to earnings. tax breaks reform. So like I was saying before, retirees get tax free earnings.

This is actually up to a limit of 1. 7 million a year. That’s the balance invested, not the actual earnings. it’s going up to 1. 9 from 1 July this year. About 90 percent of the benefit of tax free retirement earnings flows to the top 20 percent of retirees. This is essentially a function of the uneven distribution of super balances amongst current retirees.

About half of them don’t have any super, so get no benefit from this tax free exemption. The way that they flow means that a retiree with a balance at the maximum allowed to access tax free earnings, so 1. 7 million, can easily get earnings tax breaks. that are actually more valuable than a poorer retiree gets from the age pension.

Apart from being unfair, it’s a very, very unsustainable situation because we’re going to have more and more super moving into the retirement phase as the system matures. That means tax free retirement earnings are punching a bigger and bigger hole in the budget. Our solution is quite simple, really.

Which is to align the tax treatment between earnings on your super while you’re working and earnings on your super when you retire. So recall I said when you’re working your super earnings are taxed at 15%. We propose that 15 percent applies to the earnings in the retirement phase as well. Now this is still a tax break.

15 percent is still a generous tax rate. It’s still lower than you’re likely to pay outside of super. Actually it’s definitely lower than you’re likely to pay outside of super. It’s lower than. Workers will pay on their income, most workers. It’s just not as excessively generous as the tax free status that retirement earnings currently enjoy.

Now, this change would make the system fairer for current retirees by reducing the tax breaks flowing to people who don’t need them, don’t certainly don’t need them to have a comfortable standard of living in their retirement. But more critically, it helps with that intergenerational fairness problem that I was talking about just before.

It would 5. 3 billion a year. This is real money. This is over double what our contributions tax package would raise. That is money that can go to help fund our growing health and aged care funding commitments to the product of the aging population. And it can do that in a way. That also helps shift, redistribute the tax burden away from younger people and back towards wealthier retirees.

Now 70 percent of this revenue of this 5. 3 billion would come from the top 20 percent of retirees. So it’s a very progressive change. On average, a retiree in the top 10 percent by their income would pay an extra 7, 000 to 7, 500 a year on average. While the poorest half would pay no more than 200 each.

So it’s progressive within their generation of current retirees, but it’s also improving fairness across generation.

Kat Clay: So we’ve previously done a podcast on, the government’s proposal to tax the earnings on balances above 3 million at 30%. But I did want to circle back to this proposal because you do have some very interesting things to say about that in this report.

Do you want to take us through that?

Joey Moloney: The thrust of it is we’re very much on board with the general direction of this change. You know, there’s been, there was a series of decisions made by previous governments that allowed a select lucky, a select few lucky retirees to. accumulate very large super balances.

There are some rules in place now that make it harder to do that now, but we’ve still got this legacy problem of these high balances in the system that will probably never get spent down and we’ll just end up going to bequest. So there’s a very, very strong case to stem the earnings tax breaks flowing to those accounts.

Less those earnings tax breaks just end up subsidising inheritances to the next generation. This proposal by the government, is a great start. Like we’ve already gone through, we think there’s a lot more that needs to be done. But on this proposal specifically, we think that the 3 million threshold is too high.

What we’re trying to do here is to peel back earnings tax breaks going to High balance accounts that don’t need them. We think 2 million is 2 million is a better line for that. There’s no real rationale for generous earnings tax breaks on balances between two and 3 million. Certainly not one that’s consistent with the proposed objective for superannuation that I mentioned earlier, only about 1 in 200 people have more than 2 million in super.

So we’re really talking about the top, top end here, but the amount of money these people have, these 1 in 200 is as much as the 11 million Australians who have. Less than a hundred thousand dollars in their account. So these folks are going to have a comfortable retirement with or without earnings tax breaks on that third million.

So we think 2 million is a better line to draw. So

Kat Clay: Brendan, I mean, it seemed like the government had to navigate a very tricky public debate on just this policy of a 30 percent tax rate on balances over 3 million. Is there a risk that all these great suggestions. End up in the too hard basket.

Brendan Coates: It is tricky for governments to try to reform tax and to talk about tax.

There’s over the course of the last decade, there haven’t been too many occasions where governments have been willing to go there and to prosecute that case. I think the challenge is you look around at where we find ourselves, which is. A world with a structural budget deficit of $50 billion a year. So 2% of gdp.

You’ve got big spending pressures in health aged care, disability, and now increasingly with defense, with things like the nuclear summaries, government’s gonna have to find a way to pay for that. And so the question I always ask when people say, well, look, you know, we shouldn’t touch super or we shouldn’t touch something else, well, okay, what is your solution to how we’re actually gonna fund make these commitments?

How are we gonna fund. You know, the services that Australians are demanding, particularly as the population ages when we find ourselves in a harder security environment and when we’re starting so far behind the eight ball because the structural budget deficit is so large. I actually think supertax is probably one of the easier ones for governments.

So, you know, any tax change, the government’s going to lose a bit of money. That’s certainly been the case with the 3 million cap on super tax breaks. It’s striking though that that policy, despite some of the media commentary, has proved to be very popular. And so if we’re thinking about what could a government do that was willing to take the plunge on super tax?

Well, there’s a series of changes they can make that we’ve outlined to Division 293 tax, capping pre tax contributions, and the like, potentially going further on the, the 3 million cap on soup of that tax free. on super balances and the concessions that flow from those down to 2 million. If we did those things, you could save, you know, easily three, 4 billion a year off the bat.

And then the big challenge is that we won’t make the system sustainable until we tackle tax free super earnings for most people. Now, these policies though, if we do implement them, there’s very little impact to economic growth because we’re talking about tax settings. That don’t actually change how much people say.

So that’s the real empirical reality. We’re talking about things that would improve equity. That would make the system a more coherent that would align the purposes of the tax breaks with the purposes of super. And, you know, we’re talking about if we did our set of recommendations, 11. 5 billion a year, that’s, you know, a sizable chunk of that budget deficit.

And, you know, unless we actually are willing to make those kinds of choices, we will really struggle to make any headway. So, you know, I think it’s a bit of a litmus test. If governments are willing to move here more so than what they have already. That’s a sign that we’re actually a chance to rein in that budget deficit and set up the budget in the long term because super tax really does have to be stuck a part of that conversation.

Kat Clay: Thank you so much, Brendan and Joey. We will be talking further about the budget and potentially methods for repair in the coming weeks, but really appreciate you coming on to talk about superannuation. It seems like a complex issue on face value if you’re not familiar with it, but it is really important and affects all of us here in Australia.

If you’d like to talk to us more about this issue, find us on Twitter at Grattan Inst and all other social media channels at Grattan Institute. We are a not for profit organization and we do rely on donations from our listeners. Please donate at grattan.edu.au/donate please take care and thanks so much for listening.

Joey Moloney

Economic Policy Deputy Program Director
Joey Moloney the Deputy Program Director of Grattan Institute’s Economic Policy program. He has worked at the Productivity Commission and the Commonwealth Treasury, with a focus on the superannuation system and retirement income policy.

Kat Clay

Head of Digital Communications
Kat Clay is the Head of Digital Communications at Grattan Institute. She has more than a decade of experience in digital content and creative services across the non-profit and government sectors.

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