Our superannuation system is ageing – reform is inevitable

A flexible and ageing workforce calls for a new approach to our national tax and savings system. David Thorp suggests a comprehensive reform.

That old saying about there being only two things certain in life is starting to look in doubt. As advances in medical technology accelerate, some projections indicate that humankind may soon achieve eternal life. But that simply reinforces the inevitable need for increased taxes on an ageing population, or more specifically superannuation tax reform. As a society we simply can’t afford to have an ever-increasing proportion of the population with ever-increasing health-care costs to be paying a minimal level of tax. So the only questions for tax reform are when and how?

There are also other reasons for superannuation reform that can help an ageing population. The concept of a fixed, arbitrary retirement age is already an anachronism. A fitter population in their sixties, with two or more decades of healthy life ahead of them, are not only capable of work, they also want to do so, to participate in their community and to fund a better lifestyle. What they want though is a more relaxed and flexible balance of leisure and part-time work. Moreover, younger generations – faced with an extended working life to age 70 and beyond – also want a more flexible approach to their careers that allows for many changes in jobs and “time out” for career breaks.

Our national tax and savings system needs to cater for these modern needs of a flexible and ageing workforce. From a fiscal perspective we can take advantage of these needs by giving the customer what they want in return for less costly tax bribes, which are currently a very expensive way of encouraging personal savings. Ideally we should also create a more even tax “playing field” that reduces the economy’s distortion towards property price speculation and instead encourages more productive business investments. Can this be done within all the political constraints that reforms face?

I believe it can, if we directly tackle the biggest current barriers to voluntary superannuation contributions, being the locking in of savings until a fixed retirement age, and the availability of the Commonwealth pension if you don’t save. Customers don’t want to lock their money away in super, not just because they definitely want it now (e.g. to buy a home), but also because they ​might need it sooner rather than later and they ​might not even live to retirement!

A more flexible system should allow contributions to be withdrawn at any time if the current and projected future balance is enough to provide at least a minimum standard of retirement (allowing for some part time working). In addition, the Commonwealth pension should be integrated into superannuation as regular government contributions for the low paid/unemployed, so customers can plan their future on the basis of a single pool of funds. To enable this flexibility without wasting tax incentives, ​all preferential tax treatment should be focused on investment earnings, so the tax benefits automatically increase the longer that funds are saved for, and hence there is a natural incentive to save funds for longer (rather than spend it quickly then turn to the pension).

Accordingly, full income tax rates should apply to either contributions or withdrawals (the effect is equivalent), with the latter approach having the added benefit of not biasing against career breaks like current annual tax assessments do. [1]

So there we have it, a simple superannuation system with a low tax on earnings (say 15%), no tax on contributions, full income tax on withdrawals and flexibility to withdraw funds at any time if the balance remains above a minimum (which would rise with age). If this policy were optional for people over say 45 and was phased in over 10-20 years, I believe it would also be popular.

Further discussion of these ideas, along with the broader tax reform opportunities they raise, can be found here.

[1] The more that’s withdrawn in any single year, the higher the (standard progressive) rate of income tax that would apply, so there’s an incentive to withdraw funds gradually. The proposed tax treatment would also benefit people taking a voluntary or forced career break, because the marginal tax on withdrawal could be at a lower rate than during prior high-income periods of their career. For example, the income tax paid by someone earning $100k in year 1, putting half this money into superannuation then withdrawing $50k in year 2, would be taxed the same as someone who worked two years at $50k p.a., unlike the current income tax system, which taxes you more for earning a given amount over one year rather than two, thus actively discouraging employment contracts that respond faster (more efficiently) to varying demand.