Over the past 25 years – the last two in particular – I have examined closely, and in some cases worked directly with, a range of defined contribution pension systems around the world. This includes key aspects of their design and operation, particularly in the UK, Hong Kong, Switzerland, Chile, Ireland, Greece (no finalised systems) and Colombia. The analysis includes key benchmarking against a range of countries. Australia is always included.
The Australian strengths are clear and include compulsory, defined contributions; diversified arms-length investment; independent trustee governance; firm prudential oversight; independent dispute tribunal; compensation in the event of theft and fraud and others.
However, on any analysis our system is the most complex compulsory defined contribution system in the world, mainly because of the number of electable options and decision-making choices that can or should be made by an individual.
And I am not referring here to the fund or investment decision or the tax overlay, which receive considerable attention in public policy debate.
Complexity adds to cost
Ideally a system should be simple to understand, so simple that an individual can effectively make decisions themselves, to the extent permitted in a compulsory system. Simplicity matters because complexity is cost and cost reduces a member’s return particularly in a defined contribution system.
The costs and various system-wide fee analyses have been highlighted from time to time, for example, in the recent Grattan Institute Report (although they make some good points, I disagree with parts of their analysis and policy suggestions) and the Cooper Review (which I established as a Minister).
The critical question is what drives this cost? Valid reasons include the lack of a centralised administration hub, the number of funds (related to this is a lack of scale in some cases), the number of investment options, the conflicted fees or commission related to advice and product selling and others.
One key aspect of the Australian system that receives little critical attention is the considerable number and range of electable options and decisions available to the individual. The range of electable options is not available in any other compulsory system.
Examples of our highly complex system
Our super funds include, in addition to the availability of fund and investment selection, such complexities as:
- insurance – TPD (Total and Permanent Disability)
- insurance – salary continuance and unemployment insurance
- consolidation – rolling together multiple accounts
- estate provisions
- early access in a range of defined circumstances.
Furthermore, we have made the area of contributions complicated with:
- salary sacrifice – concessional
- other after tax contributions – non-concessional
- co contributions for low income earners
- splitting of contributions
- children accounts
- transition to retirement at age 55
- spouse contributions
Some other countries may have a few of these options but nowhere near this range of complexity. The newest defined contribution systems in the UK and New Zealand do not have insurance or estate provisions or most of the above.
Australia also has further complexity in the post-retirement space. In addition to allowing lump sum withdrawals (as other defined contribution systems do), there is also a means-tested government pension. No other advanced economy with such an extensive defined contribution system has this provision.
Are we maximising retirement incomes?
This complexity drives up cost in two main areas – administration and advice (or selling depending on your perspective). This is on top of the additional complexity and cost arising as a result of individual fund and investment selection.
It further leads to a fundamental question in a compulsory defined contribution system that is supposed to be for retirement. Is all of this necessary to maximise the retirement income of the individual?
A critical analysis and debate should consider some of the following in an attempt to reduce the complexity:
- Insurance in super. If contributions are inadequate, why is insurance – particularly disablement and salary continuance – appropriate in super? It diverts resources from retirement income.
- Estate requirements. Why the need for a parallel and separate system to deal with an individual’s super property in the event of death?
- Transition to retirement at the age of 55? The pension age is 65 going to 70!
Australia has the most complex defined contribution system in the world, both pre- and post-retirement.
Other countries have undertaken a more careful analysis and considered debate. Certainly, the Australian experience as an early mover has been very helpful to other countries in realising, at least in some areas, what not to do. The main point is to avoid complexity to the extent possible and keep it simple.
Nick Sherry was a member of the Australian Senate from 1990 to 2012, Chair/Deputy of the Senate Superannuation Committee (overseeing the Super Guarantee and SIS Legislation), the first Minister for Superannuation and Corporate Law (responsible for ASIC and the superannuation divisions of APRA and the ATO), Assistant Treasurer and many other roles. He now consults to financial providers, governments and international organisations around the world.