Government review of retirement income streams

Senator Mathias Cormann, the Acting Assistant Treasurer, who has ministerial responsibility for retirement incomes, has released a discussion paper dealing with the SIS rules applying to retirement income streams.

It seems that the Government is looking at addressing the issues of longevity and investment risk as they apply to retirement income streams – such as account based pensions and other similar pensions.  The longevity risk is that the member receiving the pension may outlive the pension.  The investment risk is that the member receiving the pension bears the entire investment risk – so that negative investment returns will be borne by the member.  

While there is no guarantee that any changes will result from the review (and if they do – it is unlikely that the changes will apply before 2015/16 financial year at the very earliest) the release of the review does suggest that the Government will reform the drawdown rate which applies at advanced ages and also permit superannuation deferred lifetime annuities to be issued. 

Neither the taxation treatment of retirement income stream (currently tax free after age 60), the taxation treatment of the fund paying the retirement income stream (currently, no earnings tax on assets supporting the pension) nor the social security treatment of retirement income streams are part of the review.   The Government has more political sense than reimposing tax on retirement income streams or on the fund paying the retirement income stream.  And the Government has already announced (adverse) changes to the social security treatment of retirement income streams which applies to new retirement income streams commencing on and after 1 January 2015.

In relation to the drawdown rate, the discussion paper notes that the rate varies from 4% to 14% (at very advanced ages).  In this respect, the Government could consider the introduction of either a flat drawdown rate or a much more tapered draw down rate.

In relation to the deferred lifetime annuities, the discussion paper notes that the current pension and annuity rules preclude such annuities from being issued (as the rules currently require at least one payment each year and this rule cannot be satisfied during the deferral period).  If the pension and annuity rules were changed (to permit a deferral period before the annuity becomes payable) then these annuities could be used to provide a retirement income which could commence once the account-based pension had been exhausted or much reduced by drawdowns.

While the review is welcome (particularly if the drawdown rate is reduced) the review cannot address the fundamental problem with longevity risk – that is the most retirement income balances are too small – which is a reflection of inadequate contributions which have been artificially limited by the contribution caps.

In relation to investment risk – if an investor is immunised from investment risk (for example because the capital or income or both is guaranteed) – this simply means someone else is bearing that risk and will charge a fee for bearing that risk.  Additionally, there is the risk that the entity providing the guarantee itself fails.