Published by Australian Financial Review, Sunday 27 September
The AFR Tax Reform Summit last week provided a line-up of groups wanting to wind back the tax breaks on superannuation for those on high incomes. Even some in the superannuation industry joined the chorus – much like the turkeys voting for Christmas. What’s going on?
Superannuation tax breaks allow many to pay less tax on their savings than the personal income tax scales indicate. But we should only provide concessions from marginal rates of income tax if they serve a policy aim.
Although not legislated, many agree that the aims of the superannuation system are to encourage savings to replace and supplement the age pension.
Superannuation tax breaks are poorly targeted to these aims. More than half the benefits flow to the top 20 per cent of households. But these households need the least encouragement to save for their retirement. In practice they save even more outside superannuation than inside. And given their wealth, they are unlikely to qualify for a part age pension.
People on high incomes tend to save for their retirement even without tax breaks. They want to continue to live in the style to which they have become accustomed. An Australian couple in the top 10 per cent of households earning $150,000 a year are not planning to retire onto the full age pension at a little over $30,000 a year.
Studies from around the world show a consistent pattern in the response to tax breaks on retirement savings like superannuation. High-income earners switch their savings to wherever they pay less tax, but the net increase in savings is small.
For and against
Some argue that tax breaks are needed because the top rate of income tax leads to very high rates of tax on earnings from investments. But others counter that if tax rates on earnings are measured the right way, there are still plenty of incentives to invest.
This theological argument doesn’t matter much. The primary reason that high-income earners save is so that they will have money to consume in retirement. The tax rates just don’t make much difference.
Others say that tightening up superannuation tax breaks isn’t worth the trouble. Industry proposals for reform are usually pretty modest – the industry is usually voting for a bit of tinsel rather than the full roast. Such tinkering at the edges will indeed make little difference to the budget bottom line.
But if we were serious, we would limit superannuation tax breaks to the contributions likely to lift people above the age pension asset thresholds. Roughly speaking, those consistently contributing $11,000 a year in today’s dollars are unlikely to qualify. If we limited superannuation tax breaks to this level, then superannuation would serve its purposes, but no more. And this kind of reform could save the budget around $4 billion a year.
Other dark corners in the arcane superannuation system also need some policy sunlight. Reforms to the rules around after-tax voluntary contributions and the taxation of earnings in retirement, could easily yield several more billions a year.
Ultimately, younger households and middle-income older households pay for the superannuation tax breaks of high-income households. We need to cut into the plum pudding of superannuation tax breaks that primarily benefits those who need it least.