Ummul Ruthbah:
Hello, everyone. Welcome to the retirement puzzle podcast. I’m Ummul Ruthbah from Monash Centre for Financial Studies. Today, we are going to talk about a topic that is very obvious in some countries while highly controversial in others. One thing is certain, we don’t have it in Australia, at least not yet. And we’re not sure if we’re going to have it ever. I’m talking about the universal age pension.
My guest today is Dr. Roger Cohen. Roger has over 25 years of experience in the financial industry. He’s the founder and principal of Portable Beta, a financial service provider, the founding member of BetaShares, which is a leading ETF manager in Australia with over $16 billion in assets-under-management. He’s also the founder of C2Zero a pioneer in helping businesses and their clients to reduce carbon emissions. Roger is an adjunct lecturer at university of Sydney where he teaches risk management. Hi, Roger.
Roger Cohen:
Hi, Ummul, and thanks for that introduction.
Ummul Ruthbah:
Roger, I know that you’re passionate about a lot of issues ranging from trading risk management regulation of the financial industry, superannuation, age pension sustainability, and the list goes on. But today we are going to focus on the age pension or more specifically the universal age pension. We have a fairly advanced retirement system in Australia. The age pension system provides a reasonable cushion for retirees, but we do not have the best system. Not yet. We are ranked fourth in the world, so there is still some room for improvement. What are the main drawbacks of our current age pension system?
Roger Cohen:
Thanks, Ummul. So I would say you’re right, we do have a very good system, but the biggest drawback I see in our system is the complexity. We would be the only country in the world, I believe, which has both an income and assets test for pension requirements. This together with the lack of understanding of the system which most retirees have means that the system can lead to some, yeah, a lot of lack of understanding and a lot of unintended consequences.
The main unintended consequence, which we’ve referred to as the retirement trap is a consequence of the complexity of the asset and the income test where retirees who take minimum withdrawals from their Super can actually end up being worse off if their asset balances or their income increases, and this is because of the way that the income and asset tests reduce their pension. They end up maybe earning more income, but having a bigger amount and their pension taken away.
Ummul Ruthbah:
Since the retirement income review came out just a few months ago. I would like to know about your impression of the review. What could have been added to this review to make it more complete or comprehensive?
Roger Cohen:
The review was very wide-ranging. It did touch on the undue complexity that we see in the system, and it did identify some of the issues around underspending of retirement assets. It also questioned the level and the timing of the superannuation guarantee and acknowledged that whilst the universal pension would be a great outcome and would be desirable, it would probably cost too much. And as a standalone add-on, of course it would, but it didn’t go into the specifics of how a universal pension could be funded without becoming a great cost burden.
Ummul Ruthbah:
I know Roger, that you are a big believer in universal age pension. And there were quite a few submissions to the retirement income review that advocated this universal age pension, including yours. So what would be some of the advantages of such a system compared to the mean tested system that we have right now? I mean, you mentioned that our system is complex and it makes some retirees worse off in some situations, can it address some of these issues?
Roger Cohen:
Sure. So the issue of expense which we touched on above, I’ll talk about later if I can, but the biggest thing about a universal pension is because everyone gets it. You can do away with a lot of the complexity in the system, you remove the assets and incomes test, a lot of the anomalies that go along with the way those tests work and the way they interact with the pension are removed. And the retirement trap, which we referred to above is also removed by bringing the pension in for everybody.
Ummul Ruthbah:
I guess that it will also reduce some of the operational costs for Centrelink, because right now you have to do these calculations every year. I think they do it twice every year and then decide how much age pension one receives and, or whether someone is eligible for age pension or not, right?
Roger Cohen:
Yeah, I should have mentioned that before, but yeah, the whole administrative burden goes away because everybody receives a universal pay, a basic pension. So there’s no… Once you qualify for it, you receive it.
Ummul Ruthbah:
It is obviously going to add some additional burden on the system, and the review has mentioned it. You have mentioned it. So what would be your suggestion to implement a universal age pension without substantially increasing the burden on the federal government?
Roger Cohen:
If it was done as a best-of-breed system, then I’m pretty confident that it would end up costing the government less or at worst the same as it does today. So what we need to do is we need to say, “Okay, we’re giving everybody a universal pension. How do we recover some of the costs of that pension?”
There are two main avenues for doing that. One is to take superannuation contributions that we make as we do now, and to stream some of those towards a defined benefit scheme, which would fund the universal pension. The balance then goes into a defined contribution scheme as it does for most of us today.
Roger Cohen:
The other way to do it, which was picked up in the retirement income review was to look at taxing income from superannuation, just as we tax income from other sources, and this would both help to fund the pension. It would also remove some of the anomalies around the big differences between our superannuation, which is essentially a tax-free or tax sheltered environment and everything outside superannuation. So I think you end up making the system simpler in more than just one dimension.
Ummul Ruthbah:
So some of the Super funds already offer a defined benefits scheme. For example, UniSuper has two separate accounts. One is a defined benefit account and the other one is an accumulation account. In what ways, the system that you are proposing would be similar or different from the one, for example, UniSuper has?
Roger Cohen:
There are many similarities, but the biggest difference would be with a universal pension, we end up having huge and diverse pools of funds, of stakeholders, and that means that the system can be managed in a sort of a best of breed framework. You get all the benefits from offsetting across different income levels, different asset classes, different timeframes and things like that, and so you end up with a very, very robust system if it’s managed well.
Ummul Ruthbah:
So, it doesn’t seem that complicated. So then why don’t we see these in many countries? I mean, I’m not talking about the developing countries or the middle income countries, but we don’t see that in many developed countries as well. So how many countries actually provide these universal age pension?
Roger Cohen:
I think again, I don’t know the exact number of countries that do supply a universal pension. I think New Zealand and the UK do it. Then if you look on the chart at some of the countries that came ahead of us, I think it’s Denmark and the Netherlands have a mix of a universal pension plus a means tested pension. It’s not something that all countries would be able to do. We’re lucky in Australia that we’re a relatively wealthy country and we have a relatively well-funded retirement system. So yeah, to be able to do a universal pension, you really do need to have those things in place.
Ummul Ruthbah:
So is there any lesson that we can have from the countries that already have these universal wage pension, if we decide to implement it in Australia as well?
Roger Cohen:
I think as I said to the last question, it’s something that requires a very good and strong retirement system, but it should be something. You know we have enough example from our peers globally and internally, and we have a very large asset management system in Australia. We would have to make it a best of breed system, use the best products and the best technology available to make a strong and cost effective universal pension system.
Ummul Ruthbah:
I’m going to ask you about again, your proposed methodology and the one that we already see in some other countries. So New Zealand is one of the countries that provide, you mentioned that universal age pension. And so far, I know that it provides the highest amount, but their universal age pension system is tax funded. What are the advantages of dividing savings in the existing superannuation system into a defined benefit and an accumulation part instead of funding the whole system through taxation?
Roger Cohen:
Look, if you have enough tax revenue that you could put into a pension system, then you could say, okay, job done, and that’s what New Zealand does. It has a relatively small population, has high tax rates and is able to do that. In Australia, we’re not quite where New Zealand is, but we also have a very large superannuation system and we have high rates of contribution into that super system. So what I’m proposing or what we’ve proposed is we say, we can use the tax system to partially fund a universal pension and whatever the gap is, you could either increase taxes to do, or you could take the existing pension system, and you could say, we’ll take some of that to fund the universal pension.
Roger Cohen:
I think that introduces some equity because those who have allowed superannuation pool will in a sense, be paying themselves the universal pension and those that don’t have it will still be funded by the government, and then you can still have the benefit of a discretionary superannuation system where members have flexibility as to how their investments are managed and how their contributions are managed. So I think you end up with the best of both worlds by doing that, and you don’t need to increase tax, I should add.
Ummul Ruthbah:
So you’re proposing that a better system can be developed using our existing superannuation system and through taxation. Right now we have different types of tax concessions built within our superannuation system. Some are applicable during the accumulation phase and some during retirement. I understand that these concessions during accumulation phase are important as savings in Super are different from those outside Super. For example, in your bank account, as you cannot have access to savings in Super until you retire. But there are also concessions for savings in Super during retirement. Once pension is universal, would there be any justification of the special tax treatment for superannuation assets in pension account? For example, right now, one can keep up to 1.7 million of their accumulated Super balance in a pension account and pay no tax on the income generated by this asset.
Roger Cohen:
I think that’s a very complex issue, but I think some points about it. You should know that the number of people who reach that $1.6 million cap is only… It’s not the majority of the population, and if you look at the spread, the ones who get towards the 1.6 are generally, wealthy people who have other assets outside their pension. So Super becomes a tax shelter almost for those people. I think introducing an age pension, if you give something extra, you have to take something away. And, of course the spread of who wins, and who loses is not always the same. But I think if you’re looking to establish a universal pension, removing some of those tax concessions is a good way to fund it.
Roger Cohen:
It’s also simplifies the system because if I have assets inside my pay, inside super and outside super, and I know Super is a tax shelter, I’ll behave very differently too, if everything is treated in a similar way. I think on the way into Super that the tax concessions are good, because it gives you an incentive when you’re younger and you’re working to put money into Super. You can see, this is money I’m not going to see for 30, 40, 50 years when you’re very young, but at least you’re seeing that it’s… There’s an incentive to put it in Super and to start building up the balances that will serve you in retirement.
Ummul Ruthbah:
Do you think that such a system, I mean, a universal age pension system might have an adverse implication for the working age individuals?
Roger Cohen:
I don’t think so. I think if you look at two things, one is if it’s funded out of future tax on your retirement income and, or streaming contributions from Super, you’re still making those same contributions. So on that side, nothing changes, and I think on the psychological side, people are saying, “Well, if I know I’ve got to get a pension, then I don’t need to bother to save or I don’t care.” That happens anyway, we still have… It’s a means tested pension, but if I do nothing and I don’t accumulate and I don’t have assets, I’m going to get that pension anyway. So I don’t see how it does. I think what needs to be explained is the story around, well, why should people who are extremely wealthy get a universal pension? The answer there is, those people have funded that pension through their super contributions and also through the tax that they will be paying on their retirement income from all sources. So I think it’s more around the messaging than around the actual outcome.
Ummul Ruthbah:
Yeah. I think given the state of our financial literacy, especially among the general population, it would be a difficult message to convey. So Roger, my last question to you, what are some of the questions that researchers can address to help the industry and the policymakers in this space of superannuation, age, pension and retirement?
Roger Cohen:
I think you touched on the first one, which I think is education and financial literacy. I think if Australians early in their lives understand better how the system works, what they’re putting in while they work, what they get out and what they can expect when they retire that will make things easier. I also think that a lot of the submissions to the retirement income review and the discussion around it, all came from people who’ve got a vested interest of some sort, whether it’s political or whether it’s product or something else, it wasn’t really from the population in general.
Roger Cohen:
I think we need to understand, and we need to educate, and we need to talk to a wider selection of stakeholders to make sure that, what are the gaps in their understanding and, how can we address that? I think one issue that the retirement income review did uncover was the fact that retirees do not understand fully that their pension is meant to be a pool that provides for them in retirement, and they should be using both the income and the capital from that pool. Whereas most or many retirees think that their Super, their retirement assets is something that will generate income for them in retirement, but the capital is something that they preserve or pass on in their estate.
Ummul Ruthbah:
So, Roger, what would be your suggestions on how the government and the industry can move forward in enlightening the general population about the system and how it works?
Roger Cohen:
Difficult. I think the first thing is to make the system simpler. It’s just too difficult at the moment to understand. Even I have trouble getting my head around it sometimes.
Ummul Ruthbah:
Yeah, me too.
Roger Cohen:
So, I think the things we spoke about just making the system simpler and then explaining a simpler system becomes a much easier task.
Ummul Ruthbah:
Thanks a lot Roger. Thanks for taking time to share your opinions with us.
Roger Cohen:
My pleasure. Thank you Ummul.
Ummul Ruthbah:
From today’s discussion with Roger, we have learned that universal age pension can improve our age pension system by making it simpler. It is possible to implement such a system without putting additional burden on the federal government, as those who are wealthy will fund their age pension with their accumulated super funds. It will be good for the retirees as a whole of course. It will be easy for all of us to understand. More importantly, we already have the infrastructure required to establish such a system.
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