Retirement Income Review: How should Australians fund their retirement?

A review into Australia’s retirement income system has added further fuel to the debate about what retirees should rely on to fund their retirement, with some commentators saying home ownership is more important in creating wealth than an increase in the super guarantee. We break down these arguments, outline the key takeaways from the report and provide tips on how you can give yourself your own retirement pay rise.

The Federal Government released the findings from its Retirement Income Review on Friday, 20 November, which found that even among the uncertainty and volatility created by COVID-19, the system that manages retirement savings and income in Australia is “effective”.

The evidence suggests there are ways it could be improved though, such as by boosting financial literacy and busting misconceptions, to improve people’s understanding of the system and set them up to be better prepared for their retirement.

Notably, some of the findings call into question the scheduled increases to the rate of the superannuation guarantee to 10% in July 2021 and eventually 12% by 2025, with the report favouring accessing equity in the home as a way to “significantly boost” retirement incomes, and suggesting “more efficient” use of retirement savings could be a better way to improve retirement incomes than increasing the super guarantee.

The super guarantee (SG) rate has been frozen at 9.5% of since 2014, despite originally being scheduled to reach the 12% mark by 1 July last year, with some government representatives and think tanks arguing a higher SG rate could see workers miss out on pay rises. This has been refuted by others who say wages have been almost stagnant anyway during the five-year SG freeze, which they argue has been exacerbated by workers also missing out on thousands of dollars in missed boosts to automatic super contributions during that time.

Before we get into those arguments, here are some of the key takeaways from the from the 650-odd page report that may apply to you.

7 key takeaways: What did the retirement income review find?

The Review analysed the retirement income system in Australia, which is made of up three pillars: the Age Pension, compulsory superannuation and voluntary savings. The three are designed to work together to fund Australians’ retirements and the review found the system is already “effective, sound and broadly sustainable” overall, but that there was also room for improvement.

The government’s early release of super scheme that enabled Australians to access up to $20,000 of their superannuation across two financial years has cushioned the economic impact of COVID-19, according to the report, but it noted that early access can have a more significant impact on super balances at retirement for younger people than for those closer to retirement.

While the Review was designed to present information rather than make specific recommendations to improve the system, its findings included some of the following key takeaways:

There’s a need to improve understanding of the retirement system

The Review highlighted the need to improve Australians’ understanding of how our “complex” retirement income system works.

Complexity, misconceptions and low financial literacy have resulted in many people not adequately planning for their retirement or making the most of their assets, the report noted. The report said the system’s interaction with other areas like aged care and tax added to this complexity, and argued Australians “need better information, guidance and good, affordable advice tailored to their needs.”

The Age Pension isn’t going anywhere

The report found the Age Pension provides a strong safety net to those who retire with small super balances and effectively supplements retirement income for about 65% of Australians (in combination with super and other savings).

The Review also found the Age Pension reduces income inequality among retirees, because low-income retirees “generally receive the largest Age Pension payments”, whereas super tax concessions “increase inequity” because bigger concessions are given to people on higher incomes. Women, Aboriginal and Torres Strait Islander people and those with disabilities, along with workers not eligible for the SG, were identified as those suffering most from an inequitable retirement.

A higher super guarantee rate arguably results in lower wage growth

The report argued that increases in the super guarantee rate tend to lead to lower wages growth and adversely affect living standards in working life. It’s the argument that people may have to accept being worse-off now if they want to increase the SG rate to fund a better retirement.

“A rate of compulsory superannuation that would result in people having an increase in their living standards in retirement may involve an unacceptable reduction in living standards prior to retirement, particularly for lower-income earners,” the report said, adding that if people are encouraged to “save too much” in super, this can reduce their standard of living in their working life and harm their overall wellbeing.

This view is in line with that of some Coalition MPs, the Reserve Bank and the Grattan Institute, who have all argued there is a wage trade-off with increasing the super guarantee, based on the idea that employers would be less inclined to pass on higher wages if they have to pay their employees more super.

The Review argued it would be “appropriate” for the SG rate to be set according to the circumstances of the “average income earner” with a “typical working life”, given it is universal and may not suit all Australians.

Advocates for boosting the rate have previously emphasised the importance of retirement living standards, while some Labor MPs have pointed to the fact that wage growth has already been sluggish over the last few years, despite the SG rate being on hold at 9.5% throughout that time.

Don’t believe the Liberals when they say freezing the Super Guarantee is all about boosting wages. In the 6 years before the last time they froze it, wages grew at 3.3% on average. In the six years since then, wages have grown at record lows and an average of 2.08%. #auspol pic.twitter.com/LVBC4sTvK2

— Jim Chalmers MP (@JEChalmers) November 20, 2020

Efficient use of savings has a bigger impact than increasing the super guarantee

Following its point about the ‘trade-off’ between a higher SG rate and wage growth, the report argued that more efficient use of savings in retirement would have a greater impact on improving retirement income than increasing the super guarantee. Specifically, it was observed that too much focus has been placed on growing super balances rather than assisting people to use their savings efficiently and plan income streams, with many Australians being reluctant to draw down on their savings even during their retirement.

Accessing equity in the home via methods such as the Pension Loans Scheme was signalled as a key way to boost retirement incomes, along with downsizer contributions, and the home was identified as “the most important component of voluntary savings”. The Review said few retirees use the equity in their home to support their standard of living in retirement, with options available to do so including reverse mortgages, equity release schemes, home equity loans and downsizing.

→ How does the Pension Loans Scheme work?

Renters are worse off in retirement

The retirement income system does not appear to be delivering an appropriate standard of living for many retiree renters, the report found. In fact, it noted renters who retire before they are eligible for the Age Pension have the highest level of financial stress in retirement.

The Review found that about 60% of single retirees who rent their home are living in poverty, compared to about 12% of single homeowner retirees. It noted that if the decline in home ownership among younger people was sustained into retirement, there could be an increasing number of retirees who rent.

The government could boost the rate of Commonwealth Rent Assistance but, as the review highlighted, even a 40% increase wouldn’t be sufficient to significantly pull renters out of poverty. The report noted that an “alternative approach” to support renters in retirement should be considered, but did not advise what that approach should be.

Voluntary super contributions provide flexibility

As well as the compulsory 9.5% super guarantee paid by employers, Australians can also choose to contribute more to their super, either from their pre-tax salary or by directly depositing some of their post-tax earnings. These are called voluntary super contributions.

The Review found around a quarter of people make voluntary contributions, which highlights the importance of the super guarantee in increasing retirement savings for most people.

The report noted voluntary contributions provided flexibility for those outside the compulsory super system, such as the self-employed or those with interrupted working careers.

The report also found that the main reason people say they don’t make voluntary contributions was because their main priority is to meet current expenses.

→ How to make voluntary super contributions

The government will keep supporting first home buyers

Following the release of the Review, Treasury said its findings highlighted the importance of home ownership to financial security and wellbeing in retirement and meant the government would continue to support first home buyers to buy sooner, including through the First Home Loan Deposit Scheme, First Home Super Saver Scheme and HomeBuilder scheme.

→ First Home Loan Deposit Scheme gets buyers into their first house four years earlier

Superannuation guarantee increase vs. home equity access

In response to the Review, the government gave no commitment to going ahead with the legislated increase in the super guarantee and is expected to delay its decision until the May Federal Budget. The first increase is set to start on 1 July, 2021.

The Review said if retirees could use superannuation assets more efficiently and access the equity in their home to generate wealth, this would effectively boost their financial wellbeing in retirement without the need for the SG rate to increase.

This has further ignited the debate for and against the scheduled increase to the super guarantee, as we’ve outlined below.

→ Here’s how a change to the Super Guarantee could impact retirement savings

The debate regarding the super guarantee rate

The super guarantee is a percentage of earnings an employer is required to pay an eligible employee’s super fund to help bolster their retirement savings and supplement the Age Pension. The rate at which it should be paid is a hot topic of debate.

Industry Super Australia argues an increase to the super guarantee would boost the average 30-year-old couple’s retirement balance by $200,000, being the difference between a “dignified” retirement and one “just scraping by”.

Super industry body ASFA said it “strongly disagrees” with the Review’s take on the super guarantee increase, saying the increase is essential for many Australians to offset their financial loss from withdrawing super under the COVID-19 early release scheme.

“ASFA research found that 75% of Australians support the legislated increase to 12% SG which is a cost to business of less than $1 a day for the average worker,” ASFA CEO Dr Martin Fahy said.

And some union representatives are concerned that delaying or cancelling the SG increase could disproportionally impact women who are already at greater risk of retiring in poverty and homelessness. They say this move would offer “a shrinking group of comparatively wealthy retirees” who own their own home a “false choice between their home and a secure retirement”.

“The report suggests a focus on home ownership and financial literacy as the fix for retirement outcomes. Yet for many of our members, on average annual incomes of around $45,000, home ownership is simply not a reality,” ACTU Women’s Committee Chair and SDA Assistant Secretary, Julia Fox, said.

→ How can women maximise their retirement savings?

The debate regarding older people having access to home equity

The Review seemed to support the view of home ownership as a vital way to avoid insecurity in retirement, and that it was more important in building wealth than an increase to the rate of the super guarantee. It highlighted accessing home equity as one way to supplement income. This would generally involve borrowing money against your home’s equity (the difference between your home’s market value and the balance of your mortgage).

Retirement funding provider Household Capital supported this view, saying house equity access would be most helpful for Baby Boomers in particular.

“For most Baby Boomers, voluntary savings outside of superannuation means the equity in their home,” Household Capital CEO Dr Joshua Funder said.

“Australian homeowners entering retirement today only started to accrue 3% superannuation halfway through their working lives – it’s simply not enough to fund more than 25 years in retirement. Available home equity can double the amount of their superannuation and help fund their retirement.”

Equity release scheme provider Homesafe also supported this view, saying the family home represented the largest share of net wealth for Australians aged 65 and over.

“Accessing the equity built up in the home, to enable older Australians to fund a comfortable and independent retirement, makes sound financial sense for many senior Australians, and many already use this strategy,” Homesafe COO Dianne Shepherd said.

Compare the pair

Grattan's retirement income modelling on the left.
Retirement income review (p.220) on the right.

Both show majority of Australian workers can expect an adequate retirement income. Bottom 30% get a pay rise at retirement.

Clear evidence SG rise isn't needed pic.twitter.com/ph7z0mWFCm

— Brendan Coates (@BrendanCoates) November 20, 2020

→ How you may be able to use equity to buy an investment property

How to give yourself a retirement pay rise

Canstar money expert Effie Zahos has three tips for consumers to consider that may help boost their retirement income:

1. Downsize

Ms Zahos said downsizing and selling the family home to release some equity can make sense for some people.

“The added bonus here is that starting from 2018, a change was made to super rules to let older Aussies make a one-off ‘downsizer contribution’ of up to $300,000 each, or $600,000 as a couple, from the proceeds of selling the family home. Get some expert advice though as it could affect your pension,” Ms Zahos said.

Ms Zahos said one benefit of making a downsizer contribution is it means you’re putting more money into your super fund, rather than having it sit outside your super where it would typically be exposed to a higher tax rate. She said the downsizer contribution would form part of the member’s tax-free component held in the fund.

One potential downside of this strategy, however, is that the downsizer contribution is not exempt from the Age Pension means test.

“If you are getting a full or part Age Pension you should check how it will affect your payments and other benefits,” Ms Zahos suggested.

2. Take out “the government’s version of a reverse mortgage”

Ms Zahos said another option for some older Australians could be to essentially draw down on the equity you have in your home by taking out a government loan via the Pension Loans Scheme, if you’re eligible. In return, you receive a fortnightly income , which you can use however you wish.

You don’t have to be on the Age Pension so long as you’re an Australian citizen of Age Pension age who meets Services Australia’s eligibility requirements, including potentially self-funded retirees.

“The big sting here is the interest rate,” Ms Zahos warned. “The interest rate the government charges pensioners who want these loans is 4.5%.”

The current rate of 4.5% was lowered from 5.25% from 1 January 2020, after campaigning by insurer and advocacy body National Seniors Australia.

3. Save on health care costs

Another option could be to take advantage of lower deeming rates, which Ms Zahos said may mean more people could qualify for the Commonwealth Seniors Health Card (CSHC).

The ‘deeming rates‘ are the rates at which the government assumes people’s financial assets to grow by each year. These rates are used to calculate a person’s income and can affect how much pension they receive.

From 1 May, 2020, the ‘upper’ deeming rate fell from 3% to 2.25%, and the ‘lower’ deeming rate for smaller investments fell from 1% to 0.25%. This means the government now assumes seniors are earning less on their investments than before, which could mean more people are eligible for income-tested measures like the CSHC.

“Depending on your situation, a CSHC holder could save close to $2,500 per year on health care costs, and this does not take into account the potential to be bulk-billed by your GP,” Ms Zahos said.

More tips from Canstar

Canstar has offered a number of other tips on how to boost your retirements savings in the past, whether it be by adding more to your super, planning ahead for what other income options might be available to you, or by using the value of your home to give you more options in retirement. It could be worthwhile doing some research now to pay off later. One way to start could be by checking out the below reads.

How to plan your retirement: What to do about property

BFG Financial Services Managing Director Suzanne Hadden provides her tips on how to turn your dream retirement into a reality with some careful planning. This includes thinking about income options other than super, such as the Age Pension, and how you can use the value of the home to free up more cash.

3 ways to boost your super, including using cashback sites

Canstar’s Effie Zahos uses her more than two decades of experience helping Australians make the most of their money to break down three key ways to boost your super. She also flags some common traps to watch out for.

How to top up your super after the year of the pandemic

The COVID-19 pandemic has put many Australians under unprecedented financial strain, forcing some to dip into their superannuation investments. Tony Kaye, Senior Personal Finance Writer at Vanguard Investments Australia, discusses some ways to boost your super account in the wake of the pandemic.

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