Potential knee jerk reactions to allegations of SMSF retirees taking advantage of tax concessions, which favour the rich, ignore the new realities of Australia’s $1.9 trillion superannuation system. Even as low interest rates drive share prices higher and boost funds’ assets, the same factor depresses the likely retirement income those assets can earn.

And, as David Murray’s FSI report argued and today’s Inter Generational Report emphasises, the key element in super is the expected retirement income for members – and possible offsets to burgeoning age pension costs.

Income focus

With interest rates at lifetime lows – and likely to go even lower in the short term – suddenly a $1 million super portfolio no longer represents riches for the fund’s members. A risk-averse SMSF investing $1 million in guaranteed one-year bank term deposits will struggle to earn $30,000.

That’s only about 15% above the poverty line (as calculated by the Melbourne Institute) and about the same as the minimum age pension for each member of a couple. It’s about 13% below what couples need for a “modest” retirement, according to the Association of Superannuation Funds of Australia.

Even if SMSF members look to an assured income via an annuity, Challenger is currently quoting annual payouts for a 65-year-old male, which represent between 3.2% (fully indexed for inflation) to 4.3% (without inflation protection) on their capital. Longer-living women receive slightly less.

In other words, when interest rates are so low, there are no free lunches when it comes to retirement incomes.

Of course, as every second adviser is spruiking, SMSFs can boost income with dividends from higher-risk shares but relentless arithmetic is making this harder for SMSFs. This is because of the combination of low interest rates and the ATO’s minimum pension amounts.

To earn enough to pay the minimums (see ATO table of minimum pensions below) without running down their capital, SMSFs need to run retirement income portfolios with growth-type asset mixes of perhaps 70%-plus in equities.

With a share market, and the domestic property market, showing signs of altitude sickness, investors chasing higher yields risk investing near the top and losing part of their irreplaceable capital. So, while it might seem difficult to convince those howling for tougher rules for millionaire super funds, these are tough times for retirees who aim to be self-funded.

The big shift

They also are changing times. The latest APRA figures show pensions paid out by super funds in 2014 rose from $24.5 billion to $27.7 billion and, at current growth rates, this year will exceed lump sum payouts of $28.7 billion in 2014. The system has crossed the line and is now paying out more in pensions than lump sums – at just the time you don’t want low interest rates.

Those peddling the line about millionaire SMSFs should recall that when fund returns were threatened by falling share prices during the GFC, the government halved the minimum payments to avoid pressuring fund balances. But, then, when the GFC was ending in 2008, bank term deposit rates were around 8%, showing how changed economic circumstances can play havoc with the best-planned retirement income plans.

This emphasises the policy danger of jumping to short-term solutions to solve long-term budgetary problems. The dangers only increase when critics assume, wrongly, that the figure of $32 billion of tax concessions on super is potential budgetary savings. To put it simply, that figure is theoretical and simply can’t be assumed to be available to add to Budget revenue.

Remember, superannuation is a very long-term program, which has only been going for a quarter of a century. It is already straining to meet the retirement needs of the baby boomer bulge. Into the future the government needs to recognise the long-term commitment of fund members, who lock away part of their earnings for retirement, under rules that offer enough incentive to forsake current spending.

The fact that many SMSF members receiving a pension from their fund face the unenviable choice between very low payments, or the risk of losing capital in an increasingly expensive share market, only underlines the looming investment problems for most funds.

In the meantime, for SMSF members who don’t want to take too much risk in the share market, the arithmetic suggests they probably need assets of more like $2 million than $1 million – or a Warren Buffett type investment record, which shoots the lights out.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.