Age-old problem needs swift, decisive reform

The Financial Planning Association is developing a concerted campaign to put retirement income issues on the Federal Government's agenda. Here, Michael McKenna puts the case for a full enquiry into what could turn out to be one of the government's biggest headaches in the new millennium.

As this is the international year of the older person, it is very timely to undertake a comprehensive review of retirement savings and to begin developing a national retirement incomes strategy to help Australians save for their future.

It is a well-known fact that Australia has a very poor savings record. According to the latest OECD figures, Australians have the third lowest net national savings as a percentage of GDP of all the OECD countries, at 3.6 per cent.

The only countries with lower net national savings are Iceland and Denmark. Our Asian neighbours have high saving rates with Korea at 24 per cent and Japan at 15.4 per cent of GDP.

Yet within the next ten years, more than two million baby boomers will begin to enter retirement and a large number have not saved enough for a secure future if our household savings record is anything to go by. Our household savings ratio has fallen from around 15 per cent in the 1970s to 4.7 per cent in 1996/97 and in the current financial year it is expected to be less than 3 per cent.

The projected cost of the age and veterans pensions as a percentage of GDP in the next ten to twenty years ranges from as low as 3 per cent in 2010 based on the existing arrangements to as high as 4.7 per cent based on a universal pension in 2020. At present pensions amount to about 3 per cent of GDP, or $17.8 billion per year.

With an ageing population, the cost of aged health care is an area of concern.

Treasury's Retirement Income Modelling Unit (RIMU) estimates health care costs will rise from the current position of about 8.5 per cent of GDP to between 8.9 per cent and 10.7 per cent of GDP in 2031 if health costs grow at 1 per cent above inflation.

If health costs increase at 2 per cent above inflation then health care costs will increase to between 13.2 per cent and 15.9 per cent of GDP in 2031. RIMU believes that health costs are more likely to increase at 2 per cent above inflation, which is very worrying.

It is most likely that both public and private savings in Australia will decrease due to the combined increase in aged health care and pension and the draw down of superannuation funds by retirees.

The current taxation reform, while not specifically targeting it, will affect superannuation and Australia's national savings performance. These effects, combined with those of the ageing population, are so important that a separate enquiry is needed. Reforming the taxation basis of the superannuation system is vital to ensure its success as the primary savings vehicle of all Australians.

All this points to an urgent need for a comprehensive review of retirement incomes to address issues such as:

To maintain lifestyle in retirement, it is generally accepted that people require an income of 60 per cent to 70 per cent of pre-retirement net salary. To fund this, super contributions of 15 per cent to 18 per cent are needed for 35 years of working life.

The government wants greater self-sufficiency in retirement, so should superannuation be mandatory and, if so at what level - the World Bank and OECD suggest 15 to 18 per cent of salaries?

What should be the split between employer/ employee levels of contributions?

Should superannuation be limited to providing only an income stream rather than the option of a lump sum payment? Or at least provide a minimum indexed pension at aged pension level before any lump sum can be taken.

What is the best way for retirees to fund major capital expenses that occur around retirement?

Is the tax regime applied to superannuation best suited to the long term needs of government revenue? Would it be better to make contributions and earnings tax exempt now and tax benefits as they are received at a future date?

as a safety net, what is an appropriate and adequate level for the government aged pension - 25 or 30 per cent of average weekly earnings?

What other forms of tax preferred savings vehicles can be introduced to encourage medium term savings?

How will aged health care costs be funded in the future - by retirees, private health cover, the public purse?

Now is the opportunity to show commitment to increasing household savings and retirement income policy. If we don't we will be dependent on our children and grandchildren. They won't be pleased if we are selfish and don't address these questions now.

Michael McKenna is the chief executive officer of the Financial Planning Association.