Super bunch of tasty carrots

By MARK FRYER

Ever so slowly, carrots are returning to the political menu.

Not the vegetable - these carrots are the sort politicians dangle to encourage us to do certain things.

In this case, the certain thing is saving, and the carrot comes in the form of financial incentives to put aside money for retirement.

Savings incentives have been unfashionable lately; for the past 15 years or so, politicians have tended to preach the gospel of "neutrality", arguing that tax rules should neither encourage nor discourage private saving.

But lately, both main political parties have moved away from that hands-off approach.

National said this year that it would reward savers with rebates, and Finance Minister Michael Cullen is steadily moving toward some sort of encouragement for private saving.

In last year's Budget, Cullen said it was time to consider action on lifting private saving.

And in a speech to the Association of Superannuation Funds at the end of last month he argued that - contrary to Treasury's view - New Zealand did have a problem with the level of private saving, and that properly designed tax incentives could encourage saving.

The Budget on Thursday may have more detail on what Cullen has in mind.

In last month's speech, the Finance Minister said he favoured an incentive to reinvigorate work-based savings.

Cullen said only 248,000 workers - 15 per cent of the workforce - belonged to such schemes today, compared with 311,000 workers, or 22.6 per cent, in 1990.

He conceded that the Government was partly responsible for that decline, by closing the Government Super Fund to new members 10 years ago.

No decisions had been made, said Cullen, but a policy was being prepared to make it attractive for employers to offer super schemes.

At present, despite the talk of "neutrality", the tax system can be a hindrance to superannuation schemes.

As Cullen noted, any money an employer pays into such a scheme is taxed at 33 per cent, even if the payments are made on behalf of workers earning less than $38,000 a year, who would pay less tax if they received the money directly as pay.

Super schemes also pay 33 per cent tax on their earnings, even though individual members would, in many cases, pay a much lower tax rate if they invested directly.

There is a tax concession on super contributions for people earning $60,000-plus. Their contributions are taxed at the standard 33 per cent, rather than the 39 per cent that would apply if they received the money as pay.

One way to encourage super schemes would be to extend the same discount to everyone else - taxing their super contributions at 6 per cent less than their individual tax rate. That would cost about $80 million a year, Cullen said.

There were problems with up-front concessions, he said, suggesting another approach - allowing funds to pay no tax on their earnings, as long as those funds registered for a system that would make their payouts taxable.

Under that approach, savers' investments would grow more quickly than they do now, but they would have to pay tax on the payout when they retire, as opposed to getting a tax-free payout as they do now.

National has said it would offer savers a tax rebate of between 10c and 20c for every dollar saved.

The party has suggested that would apply to retirement savings of up to $2500 a year, meaning savers would get $250 to $500 a year at most.

Linda McCulloch, head of superannuation strategy for AMP, said employment-based schemes were one of the best ways of saving for retirement.

"Anyone who earns less than $38,000 a year pays more tax on money saved compared to money spent," she said. "You have to ask why anyone would bother saving with this kind of disincentive."

But the politicians' enthusiasm for incentives goes against the weight of expert opinion.

At the end of last year, the Treasury said the best system was the one we already had. Under it, super contributions are taxed, fund earnings are taxed, but payouts are tax free.

Treasury concluded that, even under the most optimistic assumptions, 75 per cent of the money spent on a savings incentive would subsidise savings that would have been made anyway.

It also noted that half the population did not earn enough to make any meaningful retirement savings - incentives or no incentives.

Last year's McLeod tax review also came out against savings incentives, as have a string of other expert reports over the years.

Superannuation analyst Michael Littlewood, who served on a Government task force on retirement savings and was once chairman of the Association of Superannuation Funds, calls Cullen's proposal "a typical, ad hoc, down-home New Zealand response to a squeaking political hinge".

Savings incentives have to be paid for with taxes, he points out. Lower earners end up paying, through their taxes, for the savings of higher earners.

Littlewood says savings schemes in the US have resulted in little, if any, extra saving, despite very generous tax concessions. "So, if a highly tax-favoured treatment in the US produces such a poor return to other taxpayers ... why are we even thinking about this?"

Cullen's idea of allowing funds to choose different tax treatments will only make things more confusing for savers, says Littlewood.

The whole idea of savings incentives, he says, misses the point that really matters; the living standard of future retirees depends on how much the economy grows, and that is what the Government should be concentrating on.

* To contact Personal Finance Editor Mark Fryer, write to: Weekend Business, PO Box 32, Auckland. Phone (09) 373-6400 ext 8833. Fax: (09) 373-6423.

* Email Mark Fryer