Australia's Future Tax System

Retirement Income Strategic Issues Paper

5. Age Pension and superannuation preservation ages

5.1 Recommendations

Responding to increasing longevity by increasing retirement ages would enhance the acceptability, adequacy and sustainability of the retirement income system. Higher retirement ages result in a smaller increase in the number of years spent in retirement, which has two broad effects:

  • a moderation of total pension costs; and
  • an increase in retirement incomes derived from lifetime savings.

The Age Pension age should be increased, initially to age 67 years. A review should be conducted by 2020 to examine the appropriateness of extending the increases. The Age Pension age provides a strong social signal about retirement expectations. Increasing it will signal changing retirement expectations linked to increasing life expectancies. At the same time, the Government should continue to promote workforce participation among older Australians.

The superannuation preservation age should also be increased, to align with the Age Pension age. An increase in the preservation age to 67 years could be phased in from 2024.

An increase in the superannuation preservation age should be coupled with mechanisms to allow early access to superannuation for those above age 60 years who are unable to continue to participate in the workforce due to disability.

5.2 Discussion

Age Pension age

The long term costs of providing the Age Pension to an ever-growing proportion of the population are substantial. Demographic changes, including people living longer, are projected to result in an increasing number and proportion of people who will be eligible to receive the Age Pension in the future. IGR2 found that the ratio of working age to people aged 65 years and older will fall from 5 today to 2.4 by 2047.

There are significant implications for intergenerational equity of people receiving the Age Pension for an ever-growing proportion of their life. Because the Age Pension is paid from general revenue, those in retirement do not fund their own pension payments — their tax payments funded the Age Pensions of previous generations. An Age Pension that continues to provide more years of payment, and at higher rates, places a growing burden on working generations.

In contrast to life expectancy, the male Age Pension age has not changed since its introduction at the federal level in 1909, while the female Age Pension age has only been adjusted to align gradually with that of males.

At its introduction, the role performed by the Age Pension was very different from its role today. In 1909, the average male life expectancy at birth was 55 years. Age Pension age was set 10 years above average male life expectancy at birth and marginally above the average male life expectancy at age 20 years. Improvements in health outcomes for younger people have resulted in significant increases in life expectancy at birth and in the proportion of people who reach Age Pension age (Chart 5.1).

Chart 5.1: Male life expectancy and the Age Pension age

Line Chart: Male life expectancy and the Age Pension age

Source: ABS (2008b).

Until the 1970s, the amount of time that a person aged 65 years could expect to spend on the Age Pension remained fairly constant, at about 12 years. Since 1970, longevity has increased, by about 50 per cent, the length of time that a person aged 65 might expect to spend on the Age Pension.

Increase the Age Pension age to reflect improved longevity

As noted in Section 3, the Panel recommends that the Age Pension age be increased to reflect the greater longevity of future pension recipients.

Many other OECD countries have recognised the need to change the Age Pension age. Iceland, Norway and the United States have already increased the pension age to 67 years and Denmark, Germany and the United Kingdom, are in the process of increasing the pension age to 67 years, or in the case of the United Kingdom, 68 years. Australia has the fourth highest life expectancy in the OECD and an increase to 67 years is reasonable, given an appropriate transition. Some submissions have also called for the Age Pension age to be increased, as have a number of articles.9

People plan for retirement well before reaching retirement age, and the transition must be designed to minimise the impact on these plans. A gradual rate of change assists this and treats people of similar ages more equally.

It is proposed that the current five year difference between eligibility for the Age Pension and the Service Pension remain.

Health outcomes for older Australians

Increasing life expectancy means that individuals will expect to have more years on the Age Pension. However, while individuals might expect to spend at least a portion of their additional life expectancy in good health, due to advances in health technology, a significant portion may be spent with a disability.

A number of studies find that health expectancies (the number of years spent in good health) have increased at a slower rate than life expectancy, indicating that the increase in the period that the average person could be expected to participate in the workforce would have grown at a slower rate than the growth in life expectancy. The Panel's recommended increase in the Age Pension age is consistent with these findings, as it only increases the Age Pension age by 2 years, compared to a 10 year increase in life expectancy since 1970.

Align the superannuation preservation age with the Age Pension age

When existing changes are fully phased in, superannuation preservation restrictions will prevent access to superannuation savings until age 60 years. However, the gap between the superannuation preservation age and the Age Pension age means individuals can use their superannuation savings before they reach Age Pension age, such that, on average, approximately a third of superannuation savings are being drawn down before age 65 years.

Allowing these savings to finance early retirement detracts from the sustainability of the system in two ways — by increasing the length of retirement and reducing the amount of savings available to fund retirement. Only compulsory savings that are carried through to retirement take pressure off pension expenditures, through the pension means test. Arrangements that encourage shorter working lives also reduce participation rates and place a greater tax burden on those who work. They are also inconsistent with the need to consider ways to reduce the risk of people outliving their savings due to increasing life expectancies.

The preservation age is currently legislated to increase to 60 years by 2024. The preservation age should continue to be adjusted until the preservation age is aligned with the Age Pension age. Thereafter, the preservation age should remain aligned with the Age Pension age.

Early access arrangements

Under existing rules a person can access their superannuation prior to the preservation age on hardship grounds, permanent disablement or by purchasing an income stream for life. These provisions intend to meet the needs of people who are required to retire early. The recommendation in Section 7 will assist the ability of people to purchase a lifetime income stream product.

Other alignment issues

The Panel's final report will explore further some other issues associated with aligning the preservation age with Age Pension age. These include some occupations which have mandatory retirement ages below age 67 years and Service Pensioners who are proposed to continue to be able to access the Service Pension five years prior to Age Pension age.

Cumulative impact on retirement incomes

Increasing the Age Pension and preservation ages would increase projected retirement incomes, as individuals would spend longer accumulating retirement savings and spread those savings over fewer years in retirement. As shown in Chart 5.2, the proposed Age Pension and superannuation preservation ages are projected to increase replacement rates for a person on AWOTE from 63 per cent to 66 per cent.

Chart 5.2: Illustrative projected replacement rates
showing the impact of changes to the Age Pension and preservation ages(a)

Column Chart: Illustrative projected replacement rates showing the impact of changes to the Age Pension and preservation ages

  1. A replacement rate compares an individual's spending power before and after retirement (that is, after tax is paid). For example, a replacement rate of 75 per cent would mean that an individual would be able to spend in a given time period $75 in retirement for each $100 spent before retirement. The base case illustrative replacement rates are projections for a hypothetical single person who works for 35 years and retires in 2035. The illustrative replacement rates are for the Age Pension and superannuation guarantee. At age 65 years they retire and use their superannuation guarantee contributions to purchase a lifetime annuity. The illustrative replacement rates including the Age Pension and preservation age changes are for a hypothetical single person who works for 37 years and retires in 2037. At age 67 years they retire and purchase a lifetime annuity. The replacement rates are deflated by the consumer price index to 2008-09 dollars. Actual outcomes will vary depending on factors such as workforce participation, labour income patterns, investment performance, inflation, longevity and whether an individual accesses their superannuation prior to Age Pension age.
  2. AWOTE is average weekly ordinary time earnings and is around $1,150 per week ($60,000 per year). Around half of workers earn less than three-quarters of AWOTE.

Source: Treasury projections.

The hypothetical individual in the base case in Chart 5.2 is assumed to access their superannuation only after they reach Age Pension age. In practice, many people access their superannuation before Age Pension age. Chart 5.3 compares the illustrative replacement rates of two individuals, each with an identical 37 year working life earning AWOTE. One starts to access their superannuation when aged 60 years, while the other accesses it when aged 67 years. The chart shows that spreading a given amount of superannuation savings over fewer years can significantly increase replacement rates.

Chart 5.3: Illustrative projected replacement rates for a person earning AWOTE
who accesses superannuation at age 67 years, rather than at age 60 years(a)(b)

Column Chart: Illustrative projected replacement rates for a person earning AWOTE who accesses superannuation at age 67 years, rather than at age 60 years

  1. A replacement rate compares an individual's spending power before and after retirement (that is, after tax is paid). For example, a replacement rate of 75 per cent would mean that an individual would be able to spend in a given time period $75 in retirement for each $100 spent before retirement. Both illustrative replacement rates are projections for a hypothetical single person who works for 37 years (i.e. including the Age Pension age changes) and retires in 2037. The illustrative replacement rates are for the Age Pension and superannuation guarantee. In the 'Access super at age 60 years' scenario, they access their superannuation from age 60 years, drawing down in a manner that replicates a lifetime annuity stream. In the 'Access super at age 67 years' scenario, they access their superannuation from age 67 years, purchasing a lifetime annuity. The illustrative replacement rates are deflated by the consumer price index to 2008-09 dollars. Actual outcomes will vary depending on factors such as workforce participation, labour income patterns, investment performance, inflation, longevity and whether an individual accesses their superannuation prior to Age Pension age.
  2. AWOTE is average weekly ordinary time earnings and is around $1,150 per week ($60,000 per year). Around half of workers earn less than three-quarters of AWOTE.

Source: Treasury projections.

Other age limits

There are a number of other age-based restrictions in the superannuation system which will be taken into account as part of the broader review of the tax-transfer system, reflecting their links with the taxation of labour and capital income.

There are a range of age limits that affect contributions. The superannuation guarantee is paid until a person reaches age 70 years. After this age, employers are not obliged to make superannuation guarantee contributions, but individuals can make discretionary contributions until they are aged 75 years, subject to a work test.

The capital gains tax retirement exemption contains an age restriction which is aligned with the preservation age. The concession exempts small business owners from paying capital gains tax when they sell 'active assets' that have been used in their business and immediately roll the proceeds into a superannuation fund. If the taxpayer is aged over 55 years, they have the option of taking the proceeds as cash, instead of rolling them into superannuation.


9 CEDA (2007), Knox (2008).