Objectives of the superannuation system

Recommendation 9

Seek broad political agreement for, and enshrine in legislation, the objectives of the superannuation system and report publicly on how policy proposals are consistent with achieving these objectives over the long term.

Description

Government should seek broad agreement on the following primary objective for the superannuation system:

To provide income in retirement to substitute or supplement the Age Pension.

In achieving this primary objective, Government should also seek broad agreement on the subsidiary objectives of the superannuation system, as set out in Table 3.

Table 3: Subsidiary objectives of the superannuation system
Subsidiary objective Why the objective is important
Facilitate consumption smoothing over the course of an individual’s life Superannuation is a vehicle for individuals to fund consumption in retirement largely from working life income. The system should facilitate consumption smoothing while providing choice and flexibility to meet individual needs and preferences.
Help people manage financial risks in retirement Risk management is important as retirees generally have limited opportunities to replenish losses. The retirement income system should help individuals manage longevity risk, investment risk and inflation risk. Products with risk pooling would help people to manage longevity risk efficiently.
Be fully funded from savings A fully funded system, as opposed to an unfunded system, is important for sustainability and stability. The system is designed to be predominantly funded by savings from working life income and investment earnings, where superannuation fund members in general have claims on all assets in the fund.
Be invested in the best interests of superannuation fund members Superannuation funds are managed for the sole benefit of members, which means the investment focus should be on maximising risk-adjusted returns, net of fees and taxes, over the lifetime of a member. This results in auxiliary benefits to the economy by creating a pool of savings to fund long-term investment.
Alleviate fiscal pressures on Government from the retirement income system Government’s total contribution to the retirement income system, through both the Age Pension and superannuation tax concessions, needs to be sustainable and targeted. Higher private provisioning for retirement should reduce the burden on public finances.
Be simple and efficient, and provide safeguards The system should achieve its objectives at the minimum cost to individuals and taxpayers. Complexity is less appropriate for a compulsory system, as it tends to add to costs and to favour sophisticated and well-informed investors. Given the compulsory nature of SG contributions, the system needs prudential oversight and should provide good outcomes in both the accumulation and retirement phases for disengaged fund members.

The superannuation system spans two of the three pillars of Australia’s retirement income system: the mandatory savings pillar and the voluntary savings pillar.8

Objectives

  • Provide a framework for evaluating the efficiency and effectiveness of the superannuation system.
  • Contribute to greater long-term confidence and policy stability through agreed objectives, against which superannuation policy proposals can be assessed.

Discussion

Problem the recommendation seeks to address

The superannuation system does not have a consistent set of policies that work towards common objectives. For example, the current framework provides significant support and guidance to superannuation fund members during the accumulation phase through mandatory savings and default arrangements. However, the framework does not provide the same degree of support at retirement, when individuals confront a complex set of financial decisions.

The lack of an agreed policy framework and objectives reduces the efficiency of the system. Submissions acknowledge that this lack of clear purpose is affecting the operational efficiency of the system. Some submissions state:

Without clarity of purpose, superannuation and retirement policy and regulatory architecture cannot be aligned and, therefore, cannot deliver the right outcomes. This ultimately drives up costs and complexity.9

A coherent overarching framework will allow development of an efficient long-term strategy and reduce the incidence of short-term policy changes.10

The absence of agreed objectives contributes to short-term ad hoc policy making. It adds complexity, imposes unnecessary costs on superannuation funds and their members, and undermines long-term confidence in the system. Submissions note that many superannuation policies have been introduced and then subsequently repealed or amended (in some cases, repeatedly). One submission states:

Constant short-term change involves a significant and perhaps unnecessary cost for the industry and consumers to bear.11

The lack of an agreed policy framework also increases the cost of the superannuation system to Government because tax concessions are not being efficiently targeted at meeting the system’s objectives.

Rationale

Clearly defining the objectives of the superannuation system is a prerequisite to achieving the objectives efficiently. Consistent policy settings across the accumulation and retirement phases would meet the retirement income needs of Australians more efficiently and effectively. It would also assist Government in implementing policy settings that are well targeted and sustainable over the long term. One submission notes:

Defining the objectives of superannuation will allow the efficacy of the retirement income system to be measured. It will also enable a more reasoned assessment of the need for future policy changes and hopefully see an end to the ad hoc policy tinkering of the past two decades. The articulation of the objectives and system design principles will also help foster a bi-partisan, enduring commitment to the superannuation system, ensuring stability and long-term confidence in the system.12

Objectives that guide policy making and frame community and industry debate would help build confidence in the system by providing a framework for considered and cohesive change. Greater clarity around objectives can help reduce complexity and costs in the system. Importantly, in supporting greater policy stability, the Inquiry is not seeking to avoid future change. The system needs to adapt to changing circumstances but avoid unnecessary or ad hoc changes that cannot be sustained over time.

Options considered

  1. Recommended: Seek broad political agreement for the objectives of the superannuation system.
  2. Recommended: Enshrine the objectives in legislation. Government should report publicly on how policy proposals are consistent with achieving the objectives in the long term.
  3. Establish a publicly funded independent body to assess the superannuation system’s performance and report on superannuation policy changes.

Option costs and benefits

Seek broad political agreement for the objectives of the superannuation system

Given superannuation is both compulsory and a tax-preferred long-term savings vehicle, Government has a clear role in defining the system’s objectives.

Submissions agree that articulating clear objectives is a critical step towards greater policy consistency and stability, and a prerequisite to achieving the objectives efficiently. In general, submissions nominate two major objectives: providing income in retirement and reducing pressure on the Age Pension. A number of stakeholders raise the importance of the superannuation system for national savings and funding economic activity. However, funding economic activity is a consequence of a well-designed long-term savings vehicle that invests in the interests of its members, rather than an objective in itself.

The Inquiry’s single primary objective prioritises the provision of retirement incomes and precludes the pursuit of other objectives at the expense of retirement incomes. It will help reorient the community mindset around superannuation, away from account balances and towards the provision of retirement incomes. Nobel Laureate Robert Merton wrote: “Sustainable income flow, not the stock of wealth, is the objective that counts for retirement planning”.13

Assessing the current superannuation system against the primary and subsidiary objectives outlined in this chapter identified a number of weaknesses that have given rise to recommendations in this report. These include the lack of focus on retirement incomes over other objectives, the lack of operational efficiency in the system, the lack of risk management in retirement, the inefficiency in converting wealth to retirement income, the ability of superannuation funds to borrow rather than be fully funded from savings, poorly targeted tax concessions, and safeguards that could be strengthened to assist members.

Enshrine the objectives in legislation and provide more Government reporting

Submissions strongly agree with the need for greater policy stability to promote long-term confidence in the system. Submissions also acknowledge that the ability to respond to changing circumstances is important but that new policies must be well considered and take a long-term perspective.

Enshrining the primary and subsidiary objectives in legislation would provide a framework against which Government and the broader community could assess superannuation policy proposals. Parliamentary approval would be required to amend the objectives over time.

Increased transparency around the objectives of policy proposals would help frame parliamentary and public debate. This could be done in regulatory impact statements at little cost. In addition, Government could periodically assess the extent to which the superannuation system is meeting its objectives. This could be done in a stand-alone report or as part of the Intergenerational Report, which is prepared every five years.

Establish a publicly funded independent body to assess the superannuation system’s performance and report on superannuation policy changes

A number of submissions suggest establishing an independent authority for retirement incomes. The authority would publish data, conduct research and analysis relevant to retirement incomes policy, and assess policy changes or proposals over the long term. Some stakeholders go further and propose that such a body should be responsible for developing policy.

However, the Inquiry has concerns about the appropriate accountability mechanisms for such an agency. It is difficult to set a mandate and target for an independent body due to the complex trade-offs between stakeholder interests and policy objectives. The Inquiry has not seen strong evidence that an independent body would significantly improve policy outcomes. Establishing and operating a new authority would involve costs to Government.

Conclusion

Defining the objectives of the superannuation system is necessary to build an efficient superannuation system. The Inquiry recommends greater reporting by Government on how policy proposals better fulfil the objectives of the system over the long term. Stating the objectives would also help to align community expectations and industry initiatives with policy settings.

The Inquiry recommends that the Tax White Paper consider the objectives of the superannuation system when evaluating superannuation tax policy proposals.

Implementation considerations

A first step towards obtaining broad political agreement to superannuation system objectives could be to establish a joint parliamentary inquiry to consider the proposed objectives and make a recommendation to Parliament. Parliament could enshrine the objectives in the preamble to a major piece of superannuation legislation or in another instrument or charter. However, stating the objectives of the superannuation system in legislation is only intended to guide the policy-making process and is not intended to provide a platform for courts to reinterpret the law.


8 As discussed in the Interim Report, the three pillars comprise the Age Pension, mandatory SG contributions and voluntary savings, both inside and outside superannuation. The mandatory superannuation pillar ensures a minimum level of retirement savings by employees and the voluntary savings pillar enables individuals to tailor additional savings to achieve their individual goals. Commonwealth of Australia 2014, Financial System Inquiry Interim Report, Canberra, page 2-97.

9 Association of Superannuation Funds of Australia 2014, Second round submission to the Financial System Inquiry, page 6.

10 Actuaries Institute 2014, First round submission to the Financial System Inquiry, attachment, page 4.

11 Actuaries Institute 2014, First round submission to the Financial System Inquiry, page 4.

12 Australian Institute of Superannuation Trustees 2014, Second round submission to the Financial System Inquiry, attachment, page 5.

13 Merton, R 2008, The Future of Retirement Planning, CFA Institute: Research Foundation Publications, vol. 2008, no. 1, page 11.