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Rich retirees may need the aged pension


Chris Johnston artworkThere has been great pressure on both of the major political parties to stop giving so-called rich retirees partial pension income. The conventional view has become that retired millionaires should not be feeding off the public teat.

At first glance this seems entirely reasonable. A million dollars, or anything close to it, sounds like an awful lot of money. But if we factor in current interest rates on the lowest risk option, term deposits, we get a very different picture. In terms of income, many of those ‘rich retirees’ would actually be better off on the pension.

Both the lower limit and upper limit on the assets test will change from 2017. At the lower end, the Government will increase the assets test limit to qualify for a full pension, from $286,500 to $375,000 for couples, and from $202,000 to $250,000 for single people. At the other end, the upper limit for receiving a part-pension and the associated benefits will fall: from $1,151,500 to $823,000 for couples and from $775,500 to $547,000 for singles.

The income from the aged pension is $860 a fortnight, or $22,360 a year for singles, and $1296 a fortnight, or $33,696 a year, for couples. Let us assume that single or couple retirees choose term deposits because they need income and they have a low tolerance for risk, so are unwilling to choose other riskier options, such as investing in shares. How much capital will they need to get the same result as the aged pension from a term deposit as the aged pension?

At current term deposit rates of about 2.5 per cent, the single retiree would need assets of $892,000 – $345,000 above the proposed upper limit cut off rate – to receive the same income as the full aged pension. Couples will need $1.3 million – $477,000 above the cut off rate – to get an equivalent income to the pension. So the government’s plans to cut off pensions at a lower asset rate will notionally put many retirees who have saved for their retirement in a worse position than if they had saved much less and gone on the pension instead.

The good news is that couples that have no, or low, savings and so rely on the aged pension are actually ‘worth' well over a million dollars, at current interest rates. A single retiree is ‘worth' almost a million dollars. It is further demonstration of the manner in which Australia’s social welfare system is a great equaliser. But for those who have saved, the outcome may not be as good.

There are a few assumptions here. This analysis only looks at the income, whereas retirees can run down the principle over time. It is also unlikely that retirees with more than $800,000 will rely only on term deposits. Most will attempt to persify their investments between bonds, shares and cash in order to get a significantly better return. Other low risk options, such as annuities, could also provide a significantly higher return than term deposit rates, although just what that final return will be can be difficult to assess because the annual income is based on a formula that takes into account investment costs, investment risk, profit for the operator and administration and marketing costs.

The implication for those who will now be cut out of the part pension payments is that it makes sense to take greater investment risks, or perhaps even go on a spending spree to pest assets. It certainly does not make sense to take out a term deposit at current interest rates.

The global financial markets have, since the global financial crisis of 2007-08, been extremely distorted. Interest rates have been negligible across most of the developed economies, and there seems to be little sign that they are about to rise significantly. Australia, which was exempt for a long time, has now been drawn into that problem. It has led to a world-wide pursuit of riskier investments in the hope of getting better returns. It is likely that Australia’s ‘wealthy’ retirees will be joining that chase. At least if they lose out they will have the aged pension as a fall back.

David JamesDavid James is a business journalist with a PhD in English literature. He edits Personal Super Investor.


Topic tags: David James, economics, finance, superannuation, social justice



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Existing comments

Alan Kohler, in an opinion piece published on the ABC’s Drum web page on the 19th of March titled ‘Want to sort out pensions? Then look to super’, has presented a good argument for improving superannuation returns by encouraging the funds to invest in the nation’s infrastructure. He is very critical of super funds for being too conservative in their investments, for ‘confusing risk with volatility and investing too much money in fixed-interest assets in order to smooth out short-term ups and downs at the cost of long-term returns.’ He claims that over the last twenty years or so, returns from infrastructure have far outstripped those from fixed assets such as term deposits and the like. Kohler suggests that anyone twenty years ago investing in Transurban for example, owner of Melbourne’s CityLink toll road, would not even qualify for a part pension today. Moreover, given the trillions held in our super accounts, such a strategy could ensure that we have the best infrastructure possible as well as solving our pension dilemma; and would it not be a great boost to renewable energy development?

Paul | 28 July 2015  

A further development of that idea Paul, would be to limit superannuation tax concessions to funds invested in Infrastructure Bonds issued by Commonwealth, state, or local governments Government Infrastructure Bonds, to fund publicly owned infrastructure. The interest on the bonds could be funded by a levy on the users of the infrastructure.

Ginger Meggs | 28 July 2015  

I have no doubt at all that many Super Funds are very poorly managed. The level of volatility in my account would indicate that the geniuses who manage it have invested my meagre funds in Mexican jumping beans. Kohler's suggestion about Super Funds investing in Australian publicly owned infrastructure would be a very constructive idea if in fact Australia stilled owned anything to do with public infrastructure.

David Timbs | 31 July 2015  

Quite true. So called "rich" Australians who have worked hard for their living all their lives, taken risks, kept others in employment, sometimes at a cost to their own health & lives I may say, invested to make provision for retirement are now struggling to cope with all of the above & more. Property investment is hopeless with constant added on costs & renters always assuming owners can fork out for anything & everything, share market very risky & interest rates low. If you have been self employed you may not have super for yourself. All that and more makes retirement a struggle to make ends meet. Yes you are probably better off on a pension when at least you know where your next $ is coming from and it is consistent....unless of course we end up like Greece.

Penny | 31 July 2015  

A good article David but what is your opinion ? I cannot help but look at the dreadful incentive structure this welfare system creates. It rewards the person(s) that saves nothing and provides no net benefit to any family who has saved $1.3m. Further, it actually penalizes the same couple if they are above $823k but below $1.3M. The encouragement is for people to spend as they get close to retirement such that they can then accumulate the pension. This in turn makes all of us less well off b/c we fund greater transfer payments. Alan Kohler's analysis is superficial. Yes, the government has sold a number of infrastructure assets and has allowed pricing regimes that provide monopolistic returns. That is the past. One cannot bank on these continuing to provide the same rates of return nor should they. The idea behind superannuation is you want more and more retirees to save and become self sufficient as they get older. The current policy does not support this objective.

Luke | 13 October 2015  

Think of this another way. A couple owns a house in Sydney worth $4m and collect the pension into their 80's. A worker earning the average wage pays tax during this time to support the pension of this elderly couple whilst the elderly couple is able to maintain its real store of inflation hedged savings in form of the family home. The couple dies and leave the house to their two children who each pocket $2M. The "real" transfer here has occurred from the tax payer to the children because the parents have been able to shield themselves from drawing on their store of value. Someone else has funded their intergenerational wealth transfer. I hope Morrison is able to actually orchestrate tax change but I fear he will simply look to take more from this that are already funding these perverse incentive structures.

luke | 13 October 2015