Compulsory superannuation payments help many middle-income earners to save more for retirement, but super is simply the wrong tool to provide an adequate support for low-income earners. Our analysis shows top-up measures targeted at helping this group save for retirement are poorly targeted and an expensive way to do so.
Australia’s superannuation lobby wants the government to define in law that the purpose of Australia’s A$2 trillion super system is to provide an adequate retirement income for all Australians. The government disagrees: it confirmed instead that the purpose of super is to supplement or substitute for the Age Pension.
The government is right: super can’t do everything. Income from the superannuation of low-income earners will inevitably be small relative to the value of the Age Pension. The government boost to super aimed at low income earners is not tightly targeted. And fees will eat up a material portion of government support provided through superannuation.
With the Age Pension and Rent Assistance, government already has the right tools for assisting lower income Australians.
Government provides two super top-ups for low income earners
The Low Income Superannuation Contribution (LISC), introduced by the Labor government in 2013, puts extra money in the accounts of low-income earners who make pre-tax super contributions. Under the LISC, those earning less than A$37,000 receive a government co-contribution of 15% of their pre-tax super contributions, up to a maximum of A$500 a year.
The Abbott government was set to abolish the LISC, but the Turnbull government now plans to retain it, renaming it the Low Income Superannuation Tax Offset (LISTO), at a budgetary cost of A$800 million a year.
The super co-contribution, introduced by the former Howard government in 2003, puts extra money in the accounts of low-incomes earners who make post-tax super contributions. It boosts voluntary super contributions made by low-income earners out of their post-tax income by up to A$500 a year, at a budgetary cost of A$160 million a year.
Super can’t help many low income earners
Superannuation is a contributory system: you only get out what you put in. And low-income earners don’t put much in.
Their wages, and resulting super guarantee contributions, are small and their means to make large voluntary contributions are even smaller. Their super nest egg will inevitably be small compared to Australia’s relatively generous Age Pension.
For example, a person who works full time at the minimum wage for their entire working life and contributes 9.5% of their income to super would accumulate super of about A$153,000 in today’s money (wage deflated), making standard assumptions about returns and fees. If the balance were drawn down at the minimum rates, this would provide a retirement income of about A$6,500 a year in today’s money.
By contrast, an Age Pension provides a single person with A$22,800 a year. For someone who worked part time on the minimum wage for some or all of their working life, super would be even less, but the Age Pension would be pretty much the same.
Top-ups are not tightly targeted to those that need them
The LISC and the super co-contribution aim to top up the super and thus the retirement incomes of those with low incomes. But our research shows about a quarter of the government’s support leaks out to support the top half of households.
Whereas eligibility for the pension is based on the income and assets of the whole household, including those of a spouse, eligibility for superannuation top ups depends only on the income of the individual making contributions. That means the top ups also benefit low-income earners in high-income households. A far better way to help low-income earners is to increase income support payments such as the Age Pension.
Super top ups provide some help to households in the second to fourth deciles of taxpayers. But they do very little for the bottom 10% of those who file a tax return.
These households, many of which earn little if any income, only receive about 7% of the benefits of top ups. A further set of households file no tax returns – typically because welfare benefits provide most of their income. Very few of them receive any material super top up.
Super fees erode super top ups
Super fees will erode a sizeable share of the funds in the super accounts of low-income households, as a result of super top ups. Our research shows that super fees levied on most workers receiving the LISC erode between 20 and 25% of the value of the extra funds at retirement. This finding is consistent with previous Grattan work on super fees.
But super fees do not usually erode super top ups as much as they erode contributions to super in general. Fees eat up a higher proportion of the super savings of people with low balances because most fees have a fixed component that’s the same whatever the account balance. In effect the personal super contributions of low-income earners absorb that fixed component, which is typically the same whether or not government tops up the account.
However for those with very low super savings and sporadic employment, fixed fees can erode the value of their super top ups. That’s because at some point in their lives, their super balances can drop close enough to zero and fixed administration fees eat into the value generated by the top up.
Some top up is still needed for low income earners
Superannuation compels people to lock up some of their earnings as savings until retirement. High-income earners are compensated for this delayed access because their contributions are only taxed at 15%, rather than their marginal rate of personal income tax.
Without the LISC, which reduces the tax rate on their compulsory super contributions to zero, those earning between A$20,542 and A$37,000 would receive relatively little compensation for locking up their money in superannuation. The 15% tax on contributions would be only slightly less than their 19% marginal tax rate.
And for those earning less than A$20,542, the absence of a LISC would take them backwards when they made super contributions taxed at 15% rather than keeping the money in their pocket tax free.
Reflecting these concerns, the LISC, reborn as LISTO, appears crucial to gaining support in the Senate from Labor or the Greens for reforms to super tax breaks. Continuing the offset is a reasonable price to pay to unwind billions of dollars in unnecessary super tax breaks.
Better ways to provide adequate retirement incomes for low-income earners
However super top ups should not be expanded. It is too hard to target them tightly at those most in need, and super fees can eat up their value.
Instead, a targeted boost to the Age Pension would do far more to ensure all Australians have an adequate retirement. But there is an even better way to improve the retirement incomes of those most in need.
As previous Grattan research shows, retirees who do not own their own homes are the group at most risk of being poor in retirement. A A$500 a year boost to rent assistance for eligible seniors would be the most efficient way to boost retirement incomes of the lowest paid, at a cost of A$200 million a year. Only 2% of it would flow to the top half of households, with net wealth of more than A$500,000.
By contrast, a wholesale A$500 boost to all Age Pension recipients would cost A$1.3 billion, with half the benefit going to households with net wealth of more than A$500,000, mainly because the home is exempt from the Age Pension means test.
In defining an objective for Australia’s superannuation system, the government is right that super is not a universal pocket knife. Super top ups are a costly way to ensure that every Australian enjoys an adequate retirement.