A Little Trust Can Pay A Big Dividend In Super
The Australian superannuation system has many fine qualities, but if you were asked to rate it on the basis of trust - on a score of 1 to 10 - what would you give it?
Trust is a simple but elusive concept to measure.
Are we talking about trust in:
- The government regulatory and policy settings?
- The institutions that manage the more than $2 trillion in assets?
- The financial advisers who support the fund members?
Is trust even important? The super guarantee system is mandatory for Australian workers, who cannot opt out of the 9.5 per cent contribution to super even if they don’t trust the system.
Trust was the theme of recent SMSF Association national conference in Melbourne that brought together more than 1700 industry fund professionals across the accounting, actuarial, legal and advisory disciplines.
The discussion around trust in the super system was framed against the backdrop of a year of significant change in superannuation rules for super fund members including:
- Introduction of the $1.6 million cap on the amount that can be held tax-free in the pension account.
- Lowering of the concessional cap from July 1 2017 to $25,000.
- Lowering of the non-concessional cap to $100,000 a year from July 1, 2017.
For some, such significant changes to the rules undermine member trust and confidence in the system overall – even if the policy motivation is to make the system more sustainable and more equitable over the long-term.
The counter argument is that with a mandatory system, - given there is no choice but to contribute – then the trust factor is not an overriding concern.
Former Labor MP and Minister for Financial Services, Bernie Ripoll, put it bluntly at the SMSF conference. Even after the recent changes to the tax concessions for super contributions, super is still a very generous deal and one that rational people will want to take advantage of.
Let us consider the case of a new entrant into the Australian workforce – a 20-year-old female starting her first full-time job. Assume she earns average weekly wages throughout her working life before retiring at age 65.
With the current 9.5 per cent contribution rate increasing to 12.5 per cent by 2025 and assuming average market returns on her super portfolio when she retires at 65, she will have an account balance (in today’s dollars) of $642,877. That is based on calculations done for Vanguard by independent consulting actuaries Rice Warner.
This figure shows the power of two things – the value of having super contributions of at least 9.5 per cent for your entire working life and the power of compound growth over the long term.
For some, that account balance may seem more than adequate. But remember a 20-year-old female today has a life expectancy of around 81 years, according to the Australian Bureau of Statistics. So super has to last at least 15 years on average.
What would happen if our young worker of today decided to make additional voluntary contributions of 5 per cent of her salary?
With that level of extra contribution there is no risk of running into the contribution cap limits but according to Rice Warner the account balance would jump to $956,167, or almost 50 per cent higher.
Such is the power of compounding returns on the higher contribution level.
Perhaps we could call that the trust dividend.
Robin Bowerman is Head of Market Strategy and Communication, Vanguard Australia. As a renowned market commentator and editor Robin has spent more than two decades writing about all things investment.