Older workers on age pension face brutal 77 per cent tax rate
The super and pension system is littered with unfair tax rules. Perhaps the biggest is penalising older Australians for working, especially as more of them start retiring with debt.
Alarmingly, sky-high tax rates are not rare. The report, carried out by the fintech group Retirement Essentials, reveals single pensioners earning between $20,000 and $70,000 in employment income routinely face effective marginal tax rates well over 50 per cent, with rates sometimes exceeding 77 per cent.
Put simply, older Australians are penalised for working later in life. That penalty comes in the form of a two-pronged squeeze: higher taxes on the one hand, and a reduced access to the age pension on the other.
Jeremy Duffield, a former managing director at Vanguard and director of Retirement Essentials, puts it this way: “The situation creates a powerful disincentive for older Australians to supplement their retirement income and contribute to the workforce”.
As Duffield explains, the issue has always been a black spot in the tax system, but in recent years, the problem has expanded far beyond earlier expectations as the economic fundamentals of older Australians change beyond recognition.
Twenty years ago, 70 per cent of women and half of all men between 60 and 64 had fully retired. The latest figures (which are already two years old) show the level of retirement activity has fallen to 41 per cent of men and 27 per cent of women.
There are two key factors behind this change.
The first is that there’s a growing number of Australians who want to keep working longer. This is heavily underpinned by changes in the number of women staying in the workforce for longer. The change is also linked with the lift in the pension age to 67. That change came about ahead of the curve because, according to the Australian Bureau of Statistics, the expected retirement age of Australian men only recently climbed to 67, and for women, it is now 65.3.
Second, there’s a growing portion of the population who must keep working for longer. This is a key cohort in the numbers and represents the people those punitive tax rates will pinch hardest. Many of these older Australians who need to work for longer are those who still have mortgages. Over the last two decades, the number of retirees who are renting has doubled. Retiring with a mortgage used to be rare, but today, half of all Australians who are retiring do so with substantial levels of household debt.
But if older Australians within either of these two substantial groups wish to work for longer, why must they be hit with crazy-high tax rates?
An extra sting in the tail is that encountering this level of tax late in life will do very little to help people get anywhere close to that ‘super nirvana’ of the comfortable retirement as defined by the Association of Superannuation Funds of Australia. This calculation is wide open for debate, but AFSA estimates a comfortable retirement requires $75,000 per annum for a couple, or $53,000 for a single person. Only about one third of Australians retiring now can match this number. It’s a figure based on people owning their own home when they retire.
Back in 2023, an Actuaries Institute paper by Andrew Gale and Stephen Huppert argued the three pillars of retirement funding – the age pension, compulsory superannuation, and voluntary savings – should be expanded to better promote additional income sources retirees can draw on. This could include salaries and wages from part-time work, or accessing income from equity in the family home or other property if they can and wish to do so.
“Nobody else is paying these rates,” Duffield says.
“The government has to lower the taper rate (the rate at which pension access is reduced as a person’s wealth or income increases). Older people need an incentive to work. With current arrangements, I struggle to see why some people even bother.”
The interlinked super and pension system is littered with unfair tax rules. For example, unlawful drawdowns from super are also taxed at punitive rates, should you get your numbers wrong.
Also, if you are taking a transition-to-retirement strategy but remain on the books of your old employer, make sure you have indeed met a condition of release, or onerous penalties may be imposed.
But the biggest issue in the system is that older Australians should not be penalised for working longer. This is a perverse disincentive.
Hopefully, fresh awareness of the issue may lead to change. Meanwhile, you might take care to work very carefully within the rules as an older Australian because one small mistake can be costly.
Most important of all, if you start making anything more than $11,800 a year, watch out, because from that point onwards, you are moving towards an absurdly high tax band.
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It’s hard to believe that older Australians struggling with lifelong mortgages and rising inflation can face effective marginal tax rates of more than 70 per cent, but that’s a key finding from work recently sponsored by industry super fund Hesta.