Pensions and asset deeming: the real reform needed

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Most of the 530,000 income support recipients who will be hit by proposed changes to asset deeming in the federal budget will be those with a moderate amount of assets. Those at the top end of town will be left largely unscathed.

For the age pension in particular, deeming is a very important — though little understood — aspect of Australia’s income support system. Deeming essentially assumes (deems) a set rate of return on pensioners’ financial assets. This deemed income is then means-tested along with other forms of income, thereby reducing pension entitlements.

Under the current regime, the first $48,000 of a single age pensioner’s assets are deemed to earn a return of 2%, while assets beyond this are deemed to earn 3.5%. The government proposes moving the threshold down from $48,000 to $30,000.

The deemed return is considerably lower than the returns pensioners would receive on investments in financial markets. Deeming therefore reduces the impact of the income means test, raising pension payments and widening pension eligibility beyond what it would be if the actual income that were earned were means-tested.

And deeming has another effect. As the threshold to move from the full pension to the part pension under the income test is only $4610 per year for single pensioners, deeming moves single pensioners who are not homeowners onto a part pension if they have more than $140,000 in assets. If that pensioner earns other income, this threshold reduces further.

The figures below illustrate how the assets test operates with, and without, asset deeming for single and couple pensioners who do not own their home and who have no other source of income or assessable assets. The graphs present annual pension entitlements (vertical axis) by assets subject to deeming (bottom horizontal axis), with the income these assets are deemed to have earned (upper horizontal axis).

In the absence of other types of income or non-deemable assets, deeming only really impacts the entitlements of single non-homeowners with deemable assets of between $139,400 and $518,700. Those with less than $139,400 will always receive the full pension, while for those with assets above $518,700 it is the assets test that limits entitlement. The new rules will slightly widen the deeming net such that single pensioners with assets of between $131,700 and $525,000 will have their pension reduced, if only slightly. For couples, the net will be widened to between 232,300 and 596,300.

While homeowners are also subject to deeming, its impact is felt over a smaller range of deemable assets.

So while 530,000 income support recipients will see a reduction in their payment from September 2017, this is little more than 10% of those on a payment that is subject to deeming. As far as single non-homeowners are concerned, those with low levels of assets will not experience any reduction in payment and only those with very large amounts of wealth that put their deemed incomes near the income test limit of $48,584 will lose pension eligibility altogether.

Single pensioners who are impacted will see a modest fall in pension payments of $135 a year regardless of whether they own their home, and for couples this will be $222 a year.

However, this does little to improve the targeting of the pension, as those with the most assets are subject to the assets test and therefore remain untouched by these changes. With 80% of people of retirement age eligible for the pension, this is a much bigger problem.

Nor does this address the unrealistically low deemed returns. A better response would be to align deemed income more closely with actual returns. This would also increase the impact deeming has on those with substantial assets.

Given these flaws, it is unsurprising that the budget savings from this change will be a modest $32.7 million over the forward estimates. This is a very small amount given that at June 2012 there were just under 5 million Australians on a payment with a means test subject to deeming and that projected spending on these payments will be on the way to a $100 billion a year when the reforms are introduced.

Serious age pension reform should consider a broader package aimed at fixing the inequities in the system. Two areas of focus should be the different treatment of homeowners and non-homeowners, and the generosity of the means tests — where substantial government funds are used to prop up the living standards of those who are able look after themselves. Considerable political courage will be required to bring about any meaningful pension reform.