Why Labor’s new super tax will hit millions of younger workers with low superannuation balances

Millions of younger workers with lower super balances will get caught up in a tax plan supposedly meant to target the wealthy. It’s another example of its poor design.

Treasurer Jim Chalmers’ tax grab on the wealthiest Australians inside the super system will end up hitting millions of young workers inside the nation’s biggest industry funds.

Young workers, with modest super balances are set to be swept up in the changes that are targeted at super members with balances in excess of $3m.

About 60 per cent of younger workers default into big funds. And though they will have balances well under $3m they are still going to be hit with the same tax level of tax enjoyed by wealthy older members who have accumulated large sums over a lifetime.

“Ironically, lower balance members could be penalised by a tax that was only supposed to affect the wealthy,” says Chris Brycki, who runs the $1 billion Stockspot group.

Brycki explains this twist on the tax will occur because industry funds pool money with all investors taxed in the same way.

“This is all because it’s too complex for the big funds to calculate tax at an individual level,” Brycki says.

Stockspot CEO Chris Brycki explains the twist in the tax detail.

No wonder the Super Members Council of Australia, the umbrella group for industry funds, has called for the tax to be reviewed warning it would lead to unintended consequences.

Investors, farmers and business owners are already up in arms over Chalmers’ tax which imposes an additional 15 per cent impost on earnings from amounts in super above $3m – taking it to 30 per cent.

But it is only in recent weeks that the reality of a paper gains-based tax gripped public attention. It’s for two reasons, which had little to do with the headline grabbing $3m threshold.

Firstly, Chalmers signalled he had no plan for the re-elected Albanese government to change the tax, which is tagged as Division 296. It will be based on unrealised gains and it will cover earnings on amounts above $3m for every individual.

Secondly, the appointment this week of Larissa Waters as the new leader of the Greens gives urgency to protests concerning the tax. The Greens will likely hold the balance of power in the Senate. For the new government to pass its new super tax legislation it needs the minor party’s support and the Greens say if they support the bill, the threshold must be dropped from $3m to $2m.

Super tax to hit millions

With industry funds the single most powerful political force in super the widening repercussions of the new tax could be crucial to any future changes in legislation.

Brycki points out that big super funds will have more demands upon them to provide money to wealthier investors who wish to exit their funds and avoid the tax.

In turn this will mean the big funds may have to sell assets, including unlisted assets, to fund the obligations in a move that would weaken unit prices for every member of the fund.

Put simply, that means there is no escape on this issue for younger super fund members. If older members move money out, every member in the fund is hit.

If the older member continues to keep large amounts of money inside the fund, the young members will be caught in the crossfire of the new higher tax on wealthy members.

All up, the tax is going to hit a lot more people and funds than anyone might ever have expected. The estimates that the tax will ultimately trap up to 500,000 are now meaningless. The potential tax net is limitless.

In fact, since it not indexed for inflation almost any forecast number can be justified.

As rumours swirl around the implications of the tax, there are reports of investors and advisers already starting to move money out of super into areas where they hope that tax will be lower. However top advisers are telling investors not to take unnecessary action until it is clear how the government will finally deliver on the tax.

Importantly, they warn investors need to see how the new tax will measure up in relation to any other changes the government may make, especially in the area of Capital Gains Tax where there is speculation the government may move to make a change such as cutting the current discount rate in half from 50 per cent to 25 per cent.

Sam Wylie of Windlestone Education group says there is a lot of misunderstanding about this tax and how investors should respond.

Wylie, in common with many other advisers, observes that the new tax reduces the attraction of super but that does not automatically mean there are better tax shelters beyond super for investment money.

He points out that the total effective tax rate an individual is likely to pay will likely be lower than 30 per cent because a large portion in super remains tax-free. Super is taxed at 15 per cent on balances above $2m, with the new tax doubling the rate for investments beyond $3m.

Property investors under threat

There has also been strong protests from key industry groups such as start-up investors who claim the tax will hit them hard. While SMSFs are not significant investors in early stage ventures, certainly anyone with super money invested in a start-up or speculative stock will be at the front-line of the new tax on unrealised gains.

In the worst scenarios, super investors caught in new tax requirements must pay their Division 296 each year from either the super fund or personal funds and perhaps on gains that were never realised, a common pattern in speculative or start-up investing.

Under the new tax there is no compensation for tax paid on gains that were never realised rather they are carried forward in the manner capital gains tax.

But the big issue is property, an illiquid asset for Self Managed Super Fund investors.

It has now become clear that SMSFs with substantial holdings in property have become the sitting ducks of this tax move. SMSFs face a double threat because the tax is most troublesome for holders of illiquid assets. Separately the ability of SMSFs to borrow for property is also under threat. That’s because the Greens have clearly stated they want borrowing in super to be banned as part of the price for supporting the new tax.

Similarly there are concerns that where the tax is imposed on an asset in which the value is recovering but the owner had still made a loss on the initial purchase. The taxing of that money is unfair.

Younger workers subsidising older and richer investors in big super funds, property investors trapped, unrealised gains as the basis for a major tax, no indexing when every other key part of the retirement system is indexed. It’s a dogs breakfast. There is no way this tax should commence on July 1.

James Kirby hosts the twice-weekly Money Puzzle podcast.

Originally published as Why Labor’s new super tax will hit millions of younger workers with low superannuation balances