Government Pensions “Down Under” Innovations from Australia

1. Government Pensions “Down Under”Innovations from Australia INTERNATIONAL SEMINAR PENSION SCHEMES FOR CIVIL SERVANTS AND PENSION FUNDS Itamaraty Palace, Ministry of Foreign Affairs, Esplanada dos Ministérios, Brasília, Brazil, 01-02 October 2003 David LindemanConsultant to OECD

2. Antipodean Uniqueness • Australian pension system is not quite like any other. • National “old age” benefit is (sort of) “means-tested” • In addition, since 1992 there is a “superannuation guarantee” • Superannuation is another (antique) word for retirement benefit • Guarantee in this context is really a mandate on employers to make contributions to a funded retirement scheme at least as much as the “guarantee” (or else pay tax surcharge, plus interest)

3. National “old age” benefit • Significant threshold below which assets (not including house) are not considered. Separate lower threshold for homeowners. • Pensions and earnings are subject to either income test or assets test, whichever produces lower pension. Income is imputed from certain financial assets at a stipulated rate. • “Claw back” rate has been reduced to (now) 40 percent, above an income threshold. All financial assets deemed to produce an income stream. • Beginning to resemble a pure “citizens’ pensions” as in next door New Zealand. • Not surprisingly, superannuation is most always taken as lump sum.

4. Superannuation Guarantee • Started in 1992 in context labor negotiations, but now has become a key part of retirement policy • Applies to public sector employers as well as private sector • As of 2002, mandated rate is 9 percent. There is no guaranteed return – pure DC risk, unless employer chooses to offer DB plan instead. • Many employers offer more generous pensions, including DB pensions • DB sector in Australia is declining, however, as in US and elsewhere • Monitored by two different financial regulatory agencies and by the tax office • Very complex and unique taxation rules • Some DB or DC annuity payout at upper income levels and government, but most households take lump sums.

5. Commonwealth Government Retirement Scheme • Applies to Commonwealth government workers (i.e., federal, national level). • Public Sector Superannuation (PSS) Scheme, which is applicable to workers hired after July 1, 1990. • Managed by Commonwealth Superannuation Administration (ComSuper) which manages pre-PSS scheme and military pension schemes • Assets are managed through various investment managers • Along with other “supers” active involvement in corporate governance. • Innovative combination of defined benefit and defined contribution concepts. • Similar to hybrid DB-DC “cash balance” plans in the US • Similar to how most “notional defined contribution” or NDC plans work in operation – that is, really hybrid and not literally DC • Similar to “severance pay” schemes in many countries • Advertised by ComSuper as a defined benefit plan

6. PSS Design • Ongoing employee and employer contributions with credited rates of return, but generally irrelevant to final benefit. • Exception: credited rates of return are applied to worker contributions rolled in from previous jobs. • The higher a worker’s contribution rate, the greater his or her eventual lump sum benefit • Formula for lump sum benefit has three elements • Final average salary or FAS (last three years), • Worker’s contribution rate for each year, • Employer “multiple” that corresponds to a given contribution rate • Frontloaded to give more weight to the first 10 years – first 10 years always treated as if 5 % contribution rate • May be taken as lump sum (three installments), an indexed annuity, a preserved amount, or in some combination.

7. Example • Actual accrual • 5 years at 10% (5 x 0.31)= 1.55 • 7 years at 8% (7 x 0.27)= 1.89 • Total after 12 years= 3.44 x FAS • Benefit accrual test over total period of service to determine maximum benefit • 10 years at 5% (10 x .21)= 2.10 • 2 years at 10% (2 x .31)= 0.62 • Total after 12 years= 2.72 x FAS • The actual Benefit Multiple (3.44) exceeds the maximum allowable multiple (2.72) by 0.72. The employee component of this excess is 0.36, that is, half the difference (0.72 ÷ 2 = 0.36). • To obtain the Benefit Multiple to be used in this example, add the excess employee component (0.36) to the maximum benefit (2.72), and the resulting 3.08 is the Benefit Multiple allowed. • 3.08 x FAS of 60,000 A$ = 180,480 lump sum

8. Contribution rate and corresponding multiple* *but first 10 years always weighted as if 5 percent contribution rate

9. Other public worker schemes in Australia • Also, new military scheme since 1991 that is a combination of an -- • employer defined benefit • defined contribution based on enlisted person’s own contributions that can vary from (at least) 5 percent to 10 percent • preservation requirements through age 55 • (compare to new TSP option for US military) • Australian states (e.g., New South Wales) and local governments have own schemes for their workers that generally exceed the “superannuation guarantee.” • separate schemes for universities • In general, a trend at all levels of government -- • from only or mostly traditional defined benefit before 1980 • to mixed DB and DC systems from 1980 to mid-90s • to purely DC systems or “hybrid” systems like PSS at Commonwealth level • (same trend in US but less pronounced)