By Paul Rickard

The Turnbull government will soon discover that changing the super system and super taxes is bad politics. If some of the changes go ahead, these will impact middle Australia and voters will take out their retribution at the ballot box.

Whether some of these ideas are just a kite flying exercise and shouldn’t be taken too seriously is hard to know, because following the Paris terrorist incidents, it is all quiet out of Canberra. What we do know, however, is that if form is any guide, the politicians will (yet again) make a mess of any changes to the super system.

You need to remember that our federal politicians (and judges) have the most fantastic super system and are so remote from the challenges mere mortals face in saving for their retirement. Further, they are advised by bureaucrats from Treasury, some of whom are still eligible for a defined benefits super plan, while others are members of the standard public service scheme where the Government contributes 15.4% of their salary. Not 9.5% like most of us, 15.4%!

And then they listen to lobbyists from an industry that is fighting over a $20bn revenue pool and is rife with vested interest. Yes, that is right - a $20bn gravy train of fees to share. With pressure on government to find revenue and the industry keen to be seen as “helpful”, is it any wonder that the lobbyists representing the industry and retail funds promote lifetime caps on benefits and contributions? These caps would have almost no impact on their funds, as anyone with any real super assets is managing it within a SMSF. 

That the politicians get it wrong so often on super should come as no surprise, and unfortunately, they will do so again if they listen to some of the current suggestions. 

Before moving on to the changes, let me declare my interests. I manage my own SMSF, and with my colleague Peter Switzer, own a business that advises SMSF trustees.

The latest change

The latest idea to make the super system more equitable is to give everyone the same incentive to make super contributions - effectively a 15% tax benefit.  The existing flat 15% tax on super contributions would be replaced by having super contributions taxed at an individual’s marginal tax rate, less a 15% discount. For example, a person paying tax at the marginal rate of 39% (37% plus 2% Medicare) would pay tax on their super contributions at 24%. This change would have the effect of increasing the tax on contributions for most Australians.

This idea was first suggested by the Henry Review in December 2009, being recommendation 18 out of 138 individual recommendations, most never implemented. Interestingly, recommendation 19 said that the rate of tax on super fund earnings should be reduced from 15% to 7.5%.

Whether the 15% tax discount operates as a refundable tax offset, potentially paid to the super fund or to the individual, or whether the employer reduces the tax rate by 15% on the super contribution, is not yet clear. Important, but critical detail.

If the latter, this will require the employer to make two sets of tax calculations for each employee - one for the wages, and a second for the super contribution. How small business will like this! One thing the government will not be keen to see is any reduction in workers’ take home pay, so a refundable tax offset to the employee seems unlikely.

However, there are also hundreds of thousands of Australians making additional contributions to super via salary sacrifice. They  either face the prospect of increasing their salary sacrifice amount to make the same net contribution into super (and take home less cash), or a smaller net contribution into super, meaning lower retirement savings.

These are the people who may seek retribution at the ballot box. 

To illustrate the impact, consider the example below of a person earning $70,000 pa who salary sacrifices $10,000 into super. This change will reduce their net contribution into super by $750 a year. It doesn’t sound that much, however for a 35 year old who won’t be able to access their super until at least age 60, over 25 years and assuming an earnings rate of 7%, their retirement savings will be reduced by $47,436! 

 

Example 1 - Salary $70,000, Salary Sacrifice $10,000

 

Example 2 illustrates the impact for a person earning $100,000 who salary sacrifices $15,000. Here, the cost is $2,205. Over 25 years, a reduction in super savings of $139,464!

And these aren’t particularly scary examples. I could have shown an example where the individual is salary sacrificing the maximum amount, or is paying tax at the top rate of 49%. 

The point is to show that there will be thousands of hard working, “ordinary” Australians who will be impacted by these changes. Middle Australia understands salary sacrifice. They want to be responsible, plan for their retirement and don’t want to be dependent on the state. A government that doesn’t understand this and tinkers with the system in the name of “equity” does so at its own peril. 

There are easier options for the Government to consider

As I have mentioned in previous articles in Switzer Daily, there are easier options for the Government to consider. They may not raise the same revenue (at least in the initial years), but they are a lot less painful and arguably, go down the equity path.

The first change would be to get the super preservation age back in sync with the pension age. The Gillard Government moved the pension age from 65 to 67, while the Abbott Government talked about going to 70.  However, no one has done anything about the age at which super can first be accessed (the preservation age) – so this gap has gone from 5 years to 7 years. 

Move the preservation age to 62 or even 65. At the same time, change the age brackets on lump sum withdrawals and super pensions so that the effective 0% tax rate also only applies from age 62.

Secondly, scrap transition to retirement pensions. Prospectively, not retrospectively.

While the concept of a transition to retirement pension was well intentioned, the reality is that it is largely used just to reduce tax. As any financial adviser knows, if you have turned 56 and haven’t considered taking a transition to retirement pension, you have rocks in your head.

Finally, take the ALP’s idea about tax on super contributions by higher income Australians and extend it further. Reduce the income threshold to $180,000 (rather than the proposed $250,000) for the Division 293 tax. This will mean that most taxpayers are enjoying a tax benefit of around 20% - probably the amount that is needed to encourage people to make additional contributions to super and accept the trade-off that they will be locking their money away for up to 40 years.   

As the following table shows, persons earning more than $300,000 get a tax benefit of 19.0% by making extra contributions into super. However, persons earning between $180,000 and $300,000 currently get a tax benefit of 34.0%. 

Income Normal Tax Rate (incl Medicare) Effective Tax Rate on Super Contributions Tax Benefit

* With Low Income Superannuation Contribution