Is Super always the best option?

Transcription

1 Is Super always the best option? Aaron Bruhn, Ruchen Han, Tim Higgins NOTE: This is work is preliminary and the contents and results may change in future drafts Australian National University This presentation has been prepared for the Actuaries Institute 2015 Actuaries Summit. The Institute Council wishes it to be understood that opinions put forward herein are not necessarily those of the Institute and the Council is not responsible for those opinions.

2 Assumptions we make About people s financial wellbeing. The current system in Australia seems (?) to imply a belief that: Savings behaviours of those in the accumulation phase wouldn t be good without compulsion But at older ages, a more free-market approach is desirable (or not addressed yet)

3 The aim of compulsion in the accumulation phase - Retirement savings increase? - Net wealth increase? - Are these the same thing? - Or is one a subset of the other? - Compulsion has an opportunity cost. - one alternative use of SG is reducing debt (Asher, Xenophon)

4 How significant is the opportunity cost? This is NOT about accessing super for first home-buyers But this is about redirecting superannuation to the mortgage What happens if we divert SG to mortgage repayments?

5 Method Option 1: Current arrangements. SG of 9.5% paid into superannuation; mortgage repaid in regular installments from net income Option 2: SG used to increase repayments and pay off mortgage quickly; reinvested into superannuation after mortgage is repaid SG taxable at income tax rates when used towards mortgage; concessional tax otherwise (up to cap)

6 Method: Comparing apples with apples Assume retirement and access to superannuation at age 60 Same disposable income throughout working life until retirement. After mortgage is repaid, salary that was used for repayments now used to make superannuation contributions

7 Method: Superannuation contributions Contributions can be concessional or nonconcessional $30,000 superannuation cap; assume increases with AWE Assume concessional contributions maximised before non-concessional contributions are made

8 Outputs Compare wealth in 2015 dollars at age 60 under both options (superannuation balance minus outstanding mortgage) Ignore other sources of wealth including age pension Also: Difference in income tax and superannuation tax revenue Difference in loan interest paid

9 What should we expect? Consequences for the individual Reduced term of mortgage Large savings from lower accrued loan interest No growth in superannuation balance while mortgage is being repaid High contributions and superannuation balance growth after mortgage repaid Will savings from lower accrued interest and extra contributions made after the mortgage is repaid offset reduction in contributions while mortgage is being repaid? Depends on the gap between mortgage rates and superannuation returns, salary, age, mortgage term, and mortgage size

10 Example Age = 25 Starting gross salary = $52,584 Home loan = $300,000 Term = 30 years Super return = 5.1% pa; mortgage rate = 7.6% pa (20-year historic rates) Quarterly repayment = $6,237 Time Option 1 (current arrangements) Option 2 (use SG to repay home loan) 1 st quarter (age 25) Quarterly salary = $13,146 Income tax = $2,422 SG Contribution pre-tax = $1,249 Mortgage repayment = $6,237 Disposable income = 13,146-2,422-6,237 = $4,487 Quarterly salary = $13,146 + $1,249 = $14,395 Income tax = $2,853 SG Contribution = $0 Additional repayment = $818 Disposable income = 13, ,249-2,853-6, = $4,487

11 Time Option 1 (current arrangements) Option 2 72 nd quarter (age 42) Quarterly salary = $37,387 Income tax = $8,283 SG Contribution pre-tax = $3,552 Mortgage repayment = $6,237 Disposable income = 37,387 8,283 6,237 = $22,867 Quarterly salary (pre-salary sacrifice) = $37,387 Additional Superannuation Contribution = $9,522 Quarterly salary (post-salary sacrifice) = $37,387 - $9,522 = $27,865 Income tax = $4,998 SG Contribution pre-tax = $3,552 Mortgage repayment = $0 Disposable income = 37,387 9,522 4,998 = $22,867

12 Time Option 1 (current arrangements) Option st quarter (age 55) Quarterly salary = $60,686 Income tax = $13,022 SG Contribution pre-tax = $5,765 Mortgage repayment = $0 Disposable income = 60,686 13,022 = $47,664 Quarterly salary = $60,686 Income tax = $13,022 SG Contribution pre-tax = $5,765 Mortgage repayment = $0 Disposable income = 60,686 13,022 = $47,664 Age 60 Mortgage balance = $0 Superannuation balance (nominal) = $843,002 Superannuation balance (real) = $353,031 Mortgage balance = $0 Superannuation balance (nominal) = $1,074,105 Superannuation balance (real) = $449,811

13 Example Current arrangements. Grossed up income (including SG)

14 Example Option 2. Grossed up income (including SG)

15 Example Option 1 and 2 compared. Grossed up income (including SG)

16 Example

17 Ok so now more realistically Stochastic returns and mortgage rates 20 years of quarterly superannuation balanced returns and mortgage rates Simulate using block bootstrap: Preserves correlation between returns and mortgage rates Preserves autocorrelation over time Block lengths between 1-60 quarters produce consistent results 1,000 simulations for each income percentile

18 Income assumptions

19 Results: Impact on superannuation balance at retirement by income (2015 dollars) Age 25, $300k mortgage, 30 year term

20 Results: Difference in wealth by income (2015 dollars) Age 25, $300k mortgage, 30 year term

21 Impact on superannuation balance at retirement by income (2015 dollars) Age 25, $300k mortgage, 30 year term

22 Difference in loan interest paid Median reduction in interest charged and paid: $127,000 (Upper and lower deciles: $120,000 and $135,000)

23 Implications to income tax and super tax revenue by income (2015 dollars) Not considered yet but important: LOWER AGE PENSION OUTLAYS! Age 25, $300k mortgage, 30 year term

24 Excluding the GFC Age 25, $300k mortgage, 30 year term

25 Difference in wealth by size of mortgage Age 25, Median income, 30 year term

26 Difference in wealth by age, mortgage size and term Median income earner

27 Effect of super returns and mortgage interest rates Age 25, $300k mortgage, 30 year term

28 If super contribution tax concessions are removed? (2015 dollars) Age 25, Median income earner, $300k mortgage, 30 year term

29 Summary $100k increase in wealth (in 2015 dollars) from $350k to $450k for average income earner if SG diverted to mortgage Probability of increase in wealth is close to100% if we assume distribution of 20-year historic superannuation balanced returns and mortgage rates continue into future Reduction in loan interest of over $120k Reduction in tax revenue of less than $15k, and future reductions in age pension outlays due to higher wealth Consequence of current SG rules is greater profit for mortgage providers at expense of retiree wealth

30 Should the system be changed? NZ, Singapore, China, Malaysia allow some withdrawal or redirection of retirement savings to home loans Our preliminary modelling suggests it is extremely welfare enhancing for individuals at low cost to Government. If the purpose of super is to increase our wealth and financial independence at retirement, then shouldn t the rules change if it means substantially better financial outcomes for retirees? Some barriers to policy change Impact on housing market Would the SG be paid on the mortgage or spent on discretionary purchases? Change can further damage confidence in super system Resistance from mortgage lenders Could enforceable scheme conditions be designed to make this viable? We both have big mortgages. Please help