Veritas propter investigationem [Truth through research]
TitleAre Defined Contribution Pension Plans Fit For Purpose In Retirement? (2014)
AuthorsJeremy Cooper
InstitutionSeattle University Law Review
TopicsDefined Contribution schemes
 Pension design principles
 Risk and investment issues
 Longevity products
 Saving issues
Date Published2014
Date posted on PR09 Dec 2014
Cooper, J, (2014). Are Defined Contribution Pension Plans Fit For Purpose In Retirement? (2014) Seattle University Law Review,

PensionReforms’ summary and comments

Australia has a complex retirement income (and retirement saving) environment that, in brief, has:

(a) At Tier 1, a relatively generous PAYG state pension, payable from age 65 but that will increase to age 67 between 2017 and 2023.  The pension is both income- and asset-tested.

(b) At Tier 2, a compulsory, pre-funded, Defined Contribution (DC) scheme that is tax-subsidised and delivers tax-free lump sums from the ‘preservation age’ (currently age 55 but increasing to age 60 by 2024).  Employers must contribute 9.5% of pay, rising to 12% by 2025.

(c) At Tier 3, generous tax-subsidies for formal retirement saving schemes.  As well, there is everything else a person may do to enhance their retirement wealth (home or business ownership; financial assets).


The report examines the reasons for the global shift from Defined Benefit (DB) to DC schemes.  It suggests that “Compulsory DC super [at Tier 2] is an effective piece of public policy because it forces people to save.  But it is a blunt tool that does not adequately meet the retirement needs of a majority of plan contributors.”


Focussing just on delivering a lump sum at retirement is only part of the story – attention should also be paid to “…the income stream necessary to meet the needs of retirees during a potentially long period of active, passive, and frail retirement.”


During the accumulation period, the ‘adequacy’ risk rests with the saver, along with the investment and inflation risks.  That is the nature of a DC scheme.  After retirement, we can add the longevity risk – the possibility either of running out of money or of leaving an unintended bequest.  And all these risks are imposed “…on individual contributors regardless of the level of expertise contributors possess in financial matters.”


The report suggests that the trustees of retirement saving schemes need to get involved to help “…get members focused on the real game: targeting a replacement rate of income and a guaranteed floor of inflation-adjusted income in retirement.”


The report says that trustees need “…a properly integrated retirement income solution that hedges those three key risks [inflation, uncertain outcomes and longevity]”.


There seems to be a need for further intervention by the state in all this.  The options include “…partial reintermediation of DC plans via the use of life company balance sheets, annuity outcome targeting, and system-wide guarantees…”


All these “…could improve the outcomes of DC super for the benefit of future generations of retirees.”


PensionReforms thinks that the report’s recommendations travel down a path that starts with compelling people to do something that they might prefer not to do (save 9.5% of pay today).  Whether this is actually a good idea requires a separation between the different objectives of the State, employers and citizens.  Savers may prefer more certainty both during the accumulation and decumulation phase but how much would they be prepared to pay for that?  Employers might also be happy to pass that risk on to employees but taxpayers should not want to assume that risk without recompense.


On the other hand, the State should want to alleviate or even eliminate poverty in old age.  Achieving that does not need help from other parties (except, of course, taxpayers); the State has sufficient coercive powers to ensure its objectives are met and measured.  But, having met those, the State could well ask why it needed to be involved at all with private saving and consumption issues, other than in its supervisory and regulatory roles.


In that context, employers (or other groups) could offer DB arrangements but PensionReforms thinks that might not happen without significant tax subsidies, the social objectives for which seem unclear.


Once a country compels its citizens to behave in a particular way (in this case forced retirement saving at Tier 2), ever-increasing rules to limit ‘antisocial’ avoidance; to manage the taxpayers’ stake in those savings (the concessions) and to prevent citizens seemingly acting against their own ‘best’ interests become inevitable.


PensionReforms thinks a simpler pension life should be the first objective of public policy.  “[P]artial reintermediation of DC plans via the use of life company balance sheets, annuity outcome targeting, and system-wide guarantees” sounds too complicated. (File size 347 KB; 22pp) 709