Should retirees be encouraged to draw down on their home equity?

The finding comes in the retirement income review, which was released by Treasurer Josh Frydenberg on Friday (20 November).

The review – undertaken by an independent panel including Mike Callaghan, Carolyn Kay and Dr Deborah Ralston – covers the current state of the system and how it will perform in the future as Australians live longer and the population ages.

It considered the incentives for people to self-fund their retirement, the fiscal sustainability of the system, the role of the three pillars of the retirement income system (the age pension, compulsory superannuation and voluntary savings), and the level of support provided to different cohorts across time.

While the 648-page report found that “the Australian retirement income system is effective, sound and its costs are broadly sustainable”, it did suggest that there was a need to improve understanding of the system so that all Australians can make the most of their assets in retirement.

It also suggested that the system would benefit from a clear objective in order to guide future policy and provide a framework for assessing its performance.

‘Insufficient attention’ given to use of assets

One of the key themes of the report was that “a more optimal retirement income system would involve retirees more effectively drawing on all their assets, including the equity in their home, to fund their standard of living in retirement”.

The panel found that the retirement income system is currently largely focused on the superannuation balances people may need in retirement rather than on their assets and home equity.

It stated: “An area where there is insufficient attention is how the use of a retiree’s assets can significantly influence retirement outcomes.”

Indeed, the report outlined that, in addition to increasing superannuation contributions or other savings, people have a number of options to boost their retirement income, including: “more effectively” drawing on superannuation assets and home equity, as well as achieving better-after-fee returns.

After noting that most retirees die with the bulk of their wealth intact, the panel added: “Few retirees use the equity in their home to support their standard of living in retirement”.

While it outlined that there were various options available to do so (such as reverse mortgages, equity release schemes, home equity loans and downsizing), the review found that “usage is low”, even for the main product available (reverse mortgages).

It found that while there were two government measures available to encourage retirees to access the value of their home to fund their retirement (the Pension Loans Scheme and the downsizer contribution into superannuation), these were also not widely taken up by Australian retirees.

“Use of the Pension Loans Scheme is limited,” the report said, adding that less than 10,000 people had made downsizer contributions between 1 July 2018 and 17 January 2020.

“Using relatively small portions of home equity through the Pension Loans Scheme or similar equity release products can substantially improve retirement incomes for many people,” the panel added.

It also found: “The Pension Loans Scheme is an effective option for accessing equity in the home for both age pensioners and self-funded retirees. The current exemption of the principal residence from the age pension assets test is a disincentive to using the equity in the home to support retirement incomes.”

Retiree renters have higher levels of financial stress

The retirement income review found that the home is “the most important component of voluntary savings and is an important factor influencing retirement outcomes and how people feel about retirement”.

It highlights that around 76 per cent of people over the age of 65 own their own home, which gives them more discretionary income and provides an opportunity for them to draw down on the equity in their home in retirement. 

It explained: “Home owners have lower housing costs and an asset that can be drawn on in retirement. 

“If the decline in home ownership among younger people is sustained into retirement, there will be an increasing number of retirees who rent,” it said.

In fact, the review found that the retirement income system “does not appear to be delivering an appropriate standard of living for many retiree renters”. 

“Owning a home has a positive influence on a person’s standard of living in retirement. Whereas, in retirement, renters have higher levels of financial stress. 

“A significant proportion of retiree households that rent are in income poverty, which is even higher for single retiree renters,” it said.

“Retiree renters have much higher housing expenditure than retirees who own their home. Consequently, renters have lower disposable income after housing costs.”

The review went on to highlight that a key aspect of the retirement income system favouring home owners is due to the fact that the principal residence is excluded from the assets test for the age pension. 

“Regardless of the value of the house, a home owner can receive the same age pension as a renter, all other things being equal,” it explained.

“This suggests that wealthier retirees (in terms of the value of their homes) can receive the same government assistance as those less wealthy (either retirees who rent or home owners with houses of lesser value).”

While the review did not recommend that the system be changed, it did note that the declining trend in home ownership among Australians had “created concerns” that an increasing number of retirees may be renting in future, which it added was “an important factor to consider in terms of whether the retirement income system will be able to continue to deliver adequate retirement outcomes”.

“It may also increasingly bring into question whether home owners and renters are treated equally in the retirement income system,” the report reads, outlining that some stakeholders suggested that if a retiree’s principal residence was part of the age pension assets test, this would help equate the treatment of home owners and renters. 

It concluded: “If the home were included in the assets test, some home owners would no longer be eligible for the age pension. Others would receive less age pension. In response, home owners may be more inclined to access the equity in their home to fund their retirement. 

“To the extent that this takes place, home owners would be self-funding their retirement income to a greater extent than at present. This would be more in line with what is currently the case for retiree renters with a similar level of wealth as home owners.”

The panel also reviewed whether an increase in Commonwealth Rent Assistance could address the difficulties facing lower-income retirees who rent (around 22 per cent of all recipients of Commonwealth Rent Assistance receive the age pension) but it was not found to have a “meaningful impact on reducing income poverty among retiree renters”.

Government to ‘carefully consider’ report observations

Noting the release of the report, Treasurer Josh Frydenberg thanked the panel for its work and said the government would now “carefully consider the observations made in the review together with the findings of related reviews including the Aged Care Royal Commission and remaining recommendations of the Productivity Commission’s report into superannuation”.

He added: “Through its work, the review has established a fact base that will improve understanding of how the retirement income system operates, better informing public policy and the retirement outcomes delivered to Australians.

“Importantly, the review provides confirmation of the policy direction being pursued by the Morrison government with respect to the importance of increasing the efficiency of the superannuation system and lifting home ownership rates – both identified as key drivers of an adequate retirement income,” Mr Frydenberg commented.

He touted the government’s Your Future, Your Super reforms as a means to “simplify and enhance member engagement with their superannuation” and increase the efficiency of the superannuation system.

Mr Frydenberg concluded: “Given the importance of home ownership to the financial security and wellbeing of Australians in retirement, the government will continue to support measures to allow more Australians to buy their first home sooner, including through our First Home Loan Deposit Scheme, First Home Super Saver Scheme and HomeBuilder.”

Senator Jane Hume, the Assistant Minister for Superannuation, Financial Services and Financial Technology, added: “Accessing in very small amounts of equity in your home can allow retirees to amp up their retirement income at a time when it suits them and amp it back down when they have more available money.”

[Related: Government to review Pension Loans Scheme rates]