Tinkering with super is just a taxing waste
Assume for a moment that superannuation, compulsory private saving, is a good idea. How should it be taxed? If something is compulsory, it doesn’t need to be encouraged; yet almost all countries have concessional taxation arrangements for personal contributions to retirement nest eggs, whether they are mandatory or not.
In theory, saving – consumption in the future – should not be taxed more heavily than spending – or consumption today. Yet by taxing the income savings generate, income tax does precisely that.
The argument for concessional taxation of retirement saving is even stronger: the tax wedge between current and future consumption grows the longer the savings period (especially if inflation is high), and concessions might even prompt people to save more, which could defray the cost of any taxpayer-funded retirement pensions.
Tax concessions for super in Australia have long been very generous – until 1983 only withdrawals were taxed, and at a very low rate. Governments have progressively tightened the screws.
In 1988 Paul Keating introduced taxation on superannuation contributions and earnings. Keating was right to rein in the concessions but opted for the wrong structure.
Ideally, superannuation withdrawals should be taxed at individuals’ marginal income tax rates while contributions and earnings should be exempt entirely.
That arrangement harnesses the full effect of compound returns, encourages people to save more and stay in the workforce longer, and mitigates the risk of excellent or dreadful returns among all taxpayers through income tax on ultimate withdrawals.
The United States exemplifies that model, where voluntary saving in ‘401(k) plans’ has been around 8 per cent of wages, more than the 7.65 per cent compelled here (net of the 15 per cent contributions tax). Treasurer Costello’s decision to tax-exempt superannuation payouts entirely in 2007 quashed any chance the betters structure could be revived in Australia.
The Gillard government is scrounging around for ‘saves’ to pretend it can afford disability ‘insurance’ and extra funding for public schools. Federal Labor’s continual, piecemeal changes to superannuation since 2008 suggest super concessions will be a target again.
That said, they may still be too large. The Treasury values them (relative ordinary income tax) at around $30 billion a year – roughly $15 billion each for the discounted 15 per cent tax on both contributions and earnings. The actual cost to revenue would be much less because withdrawing them would alter behaviour dramatically.
Robert Carling, a senior fellow at the Centre for Independent Studies – a think tank not known for advocating higher taxes – has argued tax on super is too low relative to tax on wages and savings outside super, suggesting curbing concessions could support lower marginal tax rates, with obvious economic benefits.
For high income earners, especially those near retirement, evidence shows super tax concessions change the character of their saving rather than the amount.
Even an economist as sceptical of government interference as Frederick Hayek advocated compulsory saving in order to counteract a moral hazard intrinsic to democracies: people will under-save because they know they can foist the cost of a basic retirement onto taxpayers. So in theory forced saving obviates the need for an Age Pension for all but the very poor.
But Australia’s system is a far cry from Hayek’s idea. Too many people are already on the $35 billion-a-year Age Pension, and another 220,000 will be drawing it in the next few years as baby boomers retire in droves.
The pension’s eligibility test on the pension is so porous the estimated, long-run cost in increasing the superannuation guarantee to 12 per cent (because of income tax forgone) is GREATER than the reduction in future pensions outlays. Also, many retirees, quite rationally, spend their superannuation balances quickly after age 60 (or renovate the family home) and then claim the Pension at age 65.
The desire to establish a ‘perfect’ system must be weighed against the cost to public confidence in superannuation from continual fiddling. Yet the government needs to encourage people to take their superannuation balance as an income stream, rather than a lump sum, and tighten eligibility for the Pension.
The government could abolish tax on superannuation earnings for younger people who undertake to withdraw their ultimate savings as an income stream.
If the Gillard government wants to reform superannuation definitively and sensibly, it should make wholesale changes that cannot easily be unwound.
Tinkering by both sides will otherwise continue. As Keating learnt in 1988: hiking tax on super harvests a lot of buck for relatively little political bang because changes aren’t salient for the vast bulk of the voting public, even if they have a profound effect on their retirement.
No Australian parliament can tie the hands of its successors. But successive Australian governments, state and federal, have created the institutions to make politically motivated changes in key areas difficult.
The Reserve Bank Act and subsequent form agreements make it very hard in practice for the government to influence monetary policy.
Similarly, the government cannot easily push around Future Fund managers; and state government energy ministers cannot easily direct their state-owned energy companies. Australia’s superannuation architecture is at least as important and deserves a lithe statutory body to guard its design.
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