Deeming rates cutting pensioner incomes by a third
By keeping deeming rates at levels set in 2015 despite a series of cuts to official interest rates, the government is forcing pensioners to erode more of their capital and move onto the full pension sooner, says a major SMSF firm.
SuperConcepts executive manager of SMSF technical and strategic solutions Philip La Greca said the recent cuts to the official interest rate has put the spotlight on deeming rates and how it impacts income for pensioners.
Mr La Greca explained that the deeming rates, which are currently set at 1.75 per cent and 3.25 per cent, are the notional earning rates the government assumes you should earn on your investments and is used in calculating a pensioner’s entitlement under the social security incomes test.
“This amount of deemed income can be higher or lower than the actual income earned on the investments, but particularly for older pensioners who are concerned about volatility and capital erosion and invest in conservative products like cash and term deposits, the gap has widened significantly,” Mr La Greca said.
“The impact is stark if your investments earn 1 per cent but you are deemed at 3 per cent, then the missing $2 on every $100 dollars of your investments can reduce you pension entitlement by up to $1 per fortnight. To replace this without changing your investments will result in the need to expend some of the capital.”
Deeming rates have not be changed since March 2015, Mr La Greca said, despite the fact there have been five interest rate cuts since then.
When deeming rates were set in 2015, the official cash rate was 2.25 per cent. They are now down to just 1 per cent following the latest cut in July, he noted.
By not cutting the deeming rate, this means that anyone who is income-tested for the pension will be paid a lower pension and cannot compensate for this unless their portfolio is adjusted.
“If you’re drawing a retirement wage from social security and superannuation, you’ll be forced to get this shortfall from capital that is meant to generate your income,” he said.
“As the gap widens between deeming rate and official interest rates, the population will find itself either increasingly reliant on fully funded government pension for their living wage or increasingly reliant on consuming capital with the hope it doesn’t run out while [they] still need a living wage.”
This deeming rate gap therefore accelerates the longevity risk of people outliving their capital as we continue to live longer, he noted.
Mr La Greca also pointed out that the deeming rate is only left untouched when interest rates are going down.
“In fact, you could suggest the government is adopting the same behaviour they find fault with borrowers when interest rates move,” he said.
“We believe the deeming rate should be linked to the official interest rates to avoid a gap widening that makes pensioners poorer and pushes them to rely on the government sooner by burning their capital.”