Wealthy people who reduce their tax rates by pumping money into super should be stopped by severely limiting the amount of pre-tax income they can get concessions on and ensuring earnings in retirement are taxed, a Grattan Institute report says.
The report, Superannuation Tax Targeting, says that tax breaks for super reduce income-tax collections by more than $25 billion a year, with more than half the benefits flowing to the wealthiest 20 per cent of households who already can afford to fund their own retirement.
Its first major proposal is to restrict "concessional contributions" made from pre-tax income to $11,000 per year. This change alone would improve budget balances by $3.9 billion a year, the report by John Daley, Brendan Coates and Danielle Wood says.
Pre-tax compulsory contributions are now taxed at a flat rate of 15 per cent rather than a person's marginal income-tax rate (except those earning more than $300,000, who pay 30 per cent tax on their concessional super contributions).
As the head of the federal government's own Financial System Inquiry, David Murray, has pointed out, concessional tax rates have allowed the wealthy to use super as a tax-minimisation tool, rather than its intended purpose, which is to save for retirement.
Double benefit for the rich
The report says those that put money into super from pre-tax income just before retirement receive an even larger benefit since they avoid income tax on the money saved, and then benefit from tax-free super earnings and withdrawals once they retire.
"Even if superannuation contributions are made from post-tax income, taxes on superannuation savings are generally lower than taxes on savings outside super," it says.
"People on higher incomes, and those close to retirement, tend to use tax-advantaged savings programs to reduce the tax paid on money they would save anyway."
It says 80 per cent of contributions above the proposed cap level of $11,000 come from the 20 per cent of taxpayers with the highest incomes. These are people likely to retire with enough assets to be ineligible for an age pension.
Other options that had been publicly discussed – such as higher taxes on contributions made by higher-income earners – would be less targeted and more complex to administer, it says.
Limit post-tax contributions
The report also suggests that "non-concessional contributions" made from post-tax income should be limited to $250,000 over a lifetime.
Currently, individuals can make voluntary contributions to their superannuation fund, financed from post-tax income, up to the annual cap of $180,000.
Individuals can "bring forward" their non-concessional cap entitlement on a rolling three-year basis to contribute up to $540,000 in a given year.
The report says of the $30 billion in post-tax contributions each year, about half are made by just 200,000 people who already have at least $500,000 in super.
The other major reform suggested is that earnings in retirement should be taxed at 15 per cent. Currently payouts are tax-free after 60.
This suggested change would improve budget balances by $2.7 billion a year today, and more in future, the report says.
More than half of the benefit of tax-free earnings in retirement goes to the wealthiest 20 per cent of retirees.
"For the top 10 per cent of over 60s drawing on super, the tax benefits are extremely generous – they pay no tax on their average super earnings of $85,000 a year," it says.
Make changes prospective
The changes to contributions taxes would be prospective. The changes to earnings tax rates, such as changes to income-tax rates, would apply to future earnings of assets already acquired.
Grattan Institute chief executive John Daley said he was pleased superannuation tax concessions were again up for discussion as part of the tax review under Prime Minister Malcolm Turnbull, but admitted any of the report's suggestions would be politically sensitive.
"This is an area where there's enormous vested interests," Mr Daley said. "Reform is going to be extremely difficult given those vested interests ... but the policy arguments are extremely strong."
If super tax breaks for the wealthy were wound back, low-income earners and younger people would pay less in other taxes, he said.
As the report notes: "We would all like to be rich. But the benefit of higher retirement incomes must be balanced against the costs of achieving them."
Women lose out, but rich old men lose more
The report says that "for a small proportion of women with higher incomes later in life, the changes would reduce their catch-up contributions".
But the changes would "reduce far more the tax breaks for a lot of rich old men".
It says the top 20 per cent of income earners at age 55 have usually already acquired assets approaching $2 million and the wealthiest 20 per cent of households headed by someone over the age of 65 have typically saved enough to generate a substantial retirement income.
"Superannuation tax breaks for those consistently earning more than $115,000 are not required to reduce age pension liabilities," it says.
