Retirement Incomes - Australian Centre For Financial Studies

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Retirement Incomes - Australian Centre For Financial Studies

Retirement Incomes: Thoughts on

Future Public Policies

Justin Wood

Head of Strategic Solutions and Client Advisory Group, BGI Australia


Agenda

Retirement income solutions – a joint product of

government policy and the industry

• Demographic changes – growing urgency

• Taking a system wide perspective

• Understanding net worth

• Some potential policy considerations:

• Taxation

• Private annuities

• Home ownership


Public / private Integration

Public

Private

• Market failure

• Incomplete markets

• Redistribution

• Innovation

• Efficient resource

allocation


Australia’s demographic position

Longevity risk - life expectancy is increasing

95

90

85

80

75

70

65

60

1947 1977 2007 2037

Male at birth Female at birth Male aged 60 Female Aged 60

Sources: Australian Bureau of Statistics & 2007 Intergenerational Report


Australia’s demographic position

Longevity risk – fertility is decreasing

Source: Australian Bureau of Statistics


Australia’s demographic position

Age dependency ratio will soon increase rapidly

22,500,000

20,000,000

17,500,000

15,000,000

12,500,000

10,000,000

7,500,000

5,000,000

2,500,000

-

1971

1975

1979

1983

1987

1991

1995

1999

2003

2007

2011

2015

2019

2023

2027

2031

2035

2039

2043

2047

2051

2055

0 to 14 15 to 64 65 + Age Dependency Ratio

Sources: Australian Bureau of Statistics (1971 to 2007) & BGI forecast (post 2007)

2059

2063

2067

2071

50%

45%

40%

35%

30%

25%

20%

15%

10%

5%

0%


Australia’s three pillar super system

Pillar 1

Publicly

managed taxfinanced

pillar

providing a social

safety net and

redistribution

Pillar 2

Mandated, fully

funded and

privately

managed DC

pillar that links

benefits to

contributions

Pillar 3

Voluntary, fully funded

and privately managed

pillar for people who want

more protection in old age


Retirement solutions affect all age cohorts

• Public PAYG defined benefit systems can have

the following problems:

• High and rising payroll taxes that may increase

unemployment

• Evasion to the informal sector

• Early retirement

• Unintended inter-generational transfers (often to

high income groups)

• May not be sustainable


The importance of the “All Assets Plus

Liabilities” perspective

Accumulation

Retirement

• Human capital

• Home

ownership

• Superannuation

• Other assets

• Home

ownership

• Superannuation

• Age pension

• Other assets

•Govt policy

• Tax system

Government

• Govt support /

Age Pension

•Govt policy


Net worth of the “typical” Australian

approaching retirement

~$650k

Super

Age Pension

Own home

Investment property

Human capital

Non-super financial assets


Net worth of the “typical” Australian

approaching retirement

Q1–Q3

~$400k

Q4

~$600k

Q5

~$1.5m

Super

Age Pension

Own home

Investment property

Human capital

Non-super financial assets


Some potential policy considerations

• Taxation

• Private annuities

• Home ownership


Taxation of Super

Taxation of gains in managed funds and

superannuation creates complexity,

fragmentation and perverse incentives

• unit holder tax affected by other unit holders,

change in managers and product innovation

• uncertain revenue vs capital distinction

• time varying penalties from active management

• incentive to defer realisation nearing retirement


Taxation of Super

• Put all managed investment funds on capital

account

• Tax unit holders on gains only on sale of units,

eliminate fund distributions of gains

• Defer capital gains tax in super funds until

assets are transferred to the pension account


Jun-07

Jun-06

Jun-05

Jun-04

Taxation of Super

Australian Equity Performance 1990-2007

4.50

4.00

3.50

3.00

2.50

2.00

1.50

1.00

0.50

0.00

Jun-90

Jun-91

Jun-92

Jun-93

Jun-94

Jun-95

Jun-96

Jun-97

Jun-98

Jun-99

Jun-00

Jun-01

Jun-02

Jun-03

Value

T

Date


Private annuities

• Market failure: mandate life annuities as a

component of pension account

• Incomplete markets:

• Government to issue inflation-linked bonds

• Government to provide mortality statistics and risk

insurance

• Investor protection:

• Clearing market for annuities

• Regulatory capital model – provide affordable bankruptcy

protection


Home ownership

Home ownership encourages saving, provides a

life annuity indexed to the cost of housing

services and has a residual value expected to

grow

• Access Super to increase home ownership

• Facilitate the market for reverse mortgages

• Review Age Pension and rent assistance mix


Conclusions

• The baby-boomer retirement wave is imminent

• Segments (wealth and home ownership) will

require different products and support

• A successful retirement system is a joint

product between government and the industry

• Opportunities for policy development lie with

taxation of managed funds and

superannuation, the market for life annuities

and retirement strategies linked to home

ownership

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