The early release of superannuation: the financial consequences

16 August 2020

Jim Bonham https://SaveOurSuper.org.au

Early release of superannuation

Limited early release of superannuation has been a part of the government’s support to people suffering financial stress caused by the COVID-19 pandemic.  This has been welcomed by some but strongly opposed by others because it is seen as a corruption of compulsory saving and disruptive to super funds. 

The financial implications

This paper takes a quantitative look at the financial implications of a $10k early release, for three hypothetical individuals who are broadly representative of a cross-section of society: Sam, Pat and Jo who are 47, 37 and 27 years old.  Each will retire at age 67, at which point they will convert their superannuation to an allocated pension, drawing only the minimum amounts until death at age 87.  Assumptions about investment returns etc are discussed at the end of this paper. 

Five direct financial consequences of early release

For the individual:

a) Lower allocated pension for the individual throughout retirement
b) Possibly increased age pension for the individual
c) Reduced value at end of life

For the government:

d) Reduced superannuation earnings tax receipts
e) Age pension costs certainly higher because some people will be affected by point b)

It is a straightforward calculation to put numbers against points a), c) and d).  The age pension is more complex, especially in the long term (see https://saveoursuper.org.au/retiree-time-bombs) but some cases are easy to calculate.

So, if an individual retires with very few financial assets, they will receive a full pension throughout retirement, and any reduction in their assets caused by the early withdrawal will have no compensating effect on their age pension.

Similarly, someone with substantial assets or income in retirement, will receive no age pension at any stage of retirement: so, again, no effect on their age pension.

In between these low- and high-asset cases, the age pension is controlled by the asset test, which increases the age pension by 7.8% of any decrease in asset value. 

The worst case for the government happens if the age pensioner is in this intermediate zone throughout retirement.  This occurs if, at retirement, the retiree’s assets are equal to or below the upper asset test threshold (beyond which no age pension is payable), and the income test has not taken control of their age pension by the end of their life.

Unfortunately for Commonwealth budgets, a substantial proportion of the population is likely to end up in this position, or close to it, with an asset-test-controlled age pension through much of retirement.

Table 1 shows the consequences of the $10K early release for Sam, Pat, and Jo, assuming they receive an asset-test-controlled age pension through retirement.

In every case, the lifetime allocated pension income, in 2020 dollars, is reduced by more than $10k, and the end-of-life value is also substantially reduced.  These figures depend only on superannuation investment returns and the timing of retirement.

End-of-life value of superannuation

It is important to account for the end-of-life value of superannuation. Although end-of-life value of superannuation is obviously not part of the individual’s income, it provides a financial buffer – available for use if required – and in many cases it will flow directly to the individual’s surviving partner to become his or her income.  If the individual lives beyond the 87 years assumed in this paper, much of it will be consumed as income anyway.

For the individual – the best case

Even in the best case, from the individual’s point of view (the worst from the government’s) the increase in asset-test-controlled lifetime age pension is insufficient to compensate for the reduction in lifetime allocated pension plus end-of-life value.

For the government – the worst case

In the worst case for the government its total cost, in 2020 dollars, is two to three times the value of the initial $10k early release.  The government’s net cash flows are equivalent to taking out a loan to make a direct grant of $10,000 to Sam, Pat and Jo and paying it off over the rest of their lives.  The effective interest rates are ridiculously high (6.2% for Sam; 6.3% for Pat; 6.4% for Jo) and the government could obtain finance far more cheaply than doing it this way.

A serious ethical question

Additionally, there is a serious ethical question when the government invites people in financial distress to finance their own support in this way.  That is especially true for those with few resources who will get no age pension boost in retirement to help compensate their loss of assets.

It would have been better in both ethical and financial terms for the government simply to have made a direct grant to those in need.

Technical notes

Investment returns of 6.25% after fees and tax, and 6.65% after fees, are assumed for accumulation and pension phases, respectively.  These are calculated from the current default values in ASIC’s superannuation calculator (7.5% gross return, 7% earnings tax, 0.85% fees; see https://moneysmart.gov.au/how-super-works/superannuation-calculator), except that a small administration fee is ignored.  ASIC’s default 4% figure for inflation is also assumed.  It encompasses both CPI growth and improvement in living standards, and this value is taken for the rate of wages growth.

About the author

Jim Bonham (BSc (Sydney), PhD (Qld), Dip Corp Mgt, FRACI) is a retired scientist (physical chemistry). His career spanned 7 years as an academic followed by 25 years in the pulp and paper industry, where he managed scientific research and the development of new products and processes. He has been retired for 14 years and has run an SMSF for 17 years. He will not be affected by the early release of superannuation.

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