Our super system: unjust, inefficient and increasingly indefensible

by John Daley

Published by the The Australian Financial Review Monday 26 May 2014

The government’s least broken promise is “no adverse changes to superannuation”. Yet if promises had to be broken, this one should have been broken first.

Australia’s superannuation policy is a mess. The tax concessions on super are now the largest hole in our tax system. A large part of these tax concessions benefit those who need little help. And superannuation is doing a poor job of what it was designed to do: reduce demands on the age pension.

Tax concessions for superannuation are now more than a third of all Commonwealth tax concessions identified by Treasury in the budget papers. There are two big superannuation tax concessions.

First, most contributions to super come from pretax income, and are taxed at only 15 per cent. When top income earners invest in any other asset, they do so out of post-tax income, which has been taxed at 47.5 per cent.

The second concession is on super earnings. Super is invested and earns a return. People aged under 60 pay only 15 per cent tax on these earnings, instead of tax at their marginal rate. People aged 60 and over pay no tax at all on their superannuation earnings. These tax concessions overwhelmingly benefit those who are already well off. Treasury estimates more than half of the savings from superannuation tax concessions go to the top 20 per cent of taxpayers.

The effect of these concessions is that those who are old and rich pay less tax. As a result, the young and not so rich pay more tax.

Pensions still being collected

The effects are particularly stark for those over 60, who can pay money into superannuation on Monday and take it out on Tuesday. A 59-year-old with a super balance of $500,000, super earnings of $35,000 and wage income of $100,000 a year will pay $42,000 in tax. A 60-year-old in the same situation pays only $18,000 in tax on total earnings of $135,000. It is not clear why the old and rich should pay less than half the tax of the young and rich.

Not only are tax concessions for superannuation expensive, they also do not do much to reduce demands on the age pension. Four in five Australians over 65 qualify for the age pension today, the same proportion as six years ago, and the proportion is not forecast to change in the next 30 years. Eventually there may be some decline in the proportion of people who get a full pension, but it hasn’t happened over the past six years. Broad eligibility rules mean that even couples with $1 million in super can still qualify for the age pension.

The industry defends these superannuation tax concessions on the basis that without them, the wealthy would invest elsewhere and claim different tax concessions. Perhaps so, but they would still pay a lot more tax. If anyone knows of any other investment that allows you to invest out of pretax income and pay no tax on the earnings, I would like the number of their financial planner.

Most other arguments against reforming superannuation tax concessions seem to be about precisely how much tax will be recouped. This is like arguing about the future value of a burning house while the fire brigade stands by. The current arrangements are unfair and costly. We should spend our energy designing reform, and then find out in practice exactly how much it raises.

Simple Reforms

Grattan Institute’s report, Balancing Budgets, proposed two simple reforms to super that would be easy to administer, raise substantial revenue, and improve the fairness of the tax system.

First, account holders should be able to contribute only $10,000 a year into superannuation out of pretax income. Contributions greater than this should be paid out of post-tax income.

At present, the limit is $25,000 for younger taxpayers and $35,000 for those over 50. By definition, those contributing more than $10,000 to superannuation are unlikely to be hard up. Grattan estimates that the change would increase tax revenue by about $6 billion a year.

Second, those over 60 should pay 15 per cent tax on their superannuation earnings, just like everyone else. The concession primarily benefits those who are wealthy and they are the people with large superannuation balances. Grattan estimates this would increase tax revenue by about $3 billion a year.

These reforms dwarf other measures in the recent federal budget. The high income levy to increase the tax rate for those earning more than $180,000 a year will only raise about $1.2 billion a year. The super reforms proposed would raise $9 billion a year. $9 billion a year is about the total value of all of the specific cuts in the last budget, including medical co-payments, overseas development aid, increased recovery of student fees, family tax benefit, and unemployment benefits.

The National Commission of Audit urged that superannuation concessions be reconsidered in the planned tax review. Super concessions are unfair, fail to do much to reduce pension liabilities, and could make a large contribution to budget repair. Promises to reform superannuation should be the first thing on any party’s platform for the next election.