The ‘Own Home’ Pension Exemption Is Standing in the Way of Downsizing

Sometimes government payments can come with some contradictory conditions that seem to go against everything the tax, income and benefits system should stand for.

One that is becoming more perverse with every passing day is the exclusion of the family home when calculating the level of age pension payment somebody is entitled to.

To give an example, if someone with a highly priced family home but little else sells it to buy a less expensive and more appropriate downsizing property, they are highly likely to lose their entitlement to the entire age pension.

At the other end of the scale, somebody who has a couple of million dollars in savings when they retire can quite legally put that money into buying a bigger and better house and later qualify for a full age pension.

As Brendan Coates, housing and economic security program director at the Grattan Institute has put it, the current system means retirees “can be in Potts Point or Toorak with a $5 million house and receive the same pension that a person in a $500,000 unit in Bendigo or Bathurst is receiving”.

“People are just responding to the incentives in the system, which are perverse and encourage them to do things to maximise their age pension entitlement,” Mr Coates recently told the Australian Financial Review.

“They’re not doing anything wrong, but it’s clear the system needs to change.”

Need for Change Increasing

Indeed, the acceleration of house prices against income over the past couple of decades has made the exemption of the family house in deciding the level of age pension something of a double-edged sword.

Lower income earners will find it increasingly difficult to retire owning a home and even middle-income earners are increasingly likely to retire with substantial mortgage debt.

At the same time, those with substantial wealth can easily still qualify for a pension just by sinking their money into valuable real estate – deliberately becoming asset rich and income poor, if you like.

They don’t even need to consider a reverse mortgage to keep the government pension cash flowing.

While this action might leave a bigger inheritance for the family, it can also result in a less than optimal lifestyle for the retired person who may be short on income when adding in the costs of maintaining a large and sometimes wildly inappropriate property.

Bureaucrats are Already Aware of this Growing Loophole

The inequity is no secret either, with a freedom of information request showing that the Department of Social Services alerted the Albanese Government to the problem after it won the election.

While the recommendations were not revealed, the incoming ministerial brief made a particular note of the generosity of pensions in helping retirees build additional wealth for inheritances rather than merely paying for retirement.

Cross Subsidy from Poor to Rich

The DSS brief said the system meant “low and middle-income taxpayers are subsidising the retirement incomes of seniors with significant wealth in addition to their homes”.

It noted that under the assets test a partial age pension “continues to be payable to couples with income of almost $100,000 a year or assets of almost $1.05 million, in addition to their principal home of unlimited value”.

“Age pensioners generally maintain or grow their assets in the last five years prior to death,” it said.

“By contrast, a single job seeker without children who has more than $11,500 in liquid assets must wait 13 weeks before any income support becomes payable.”

Alternatives Do Exist

While government policy might or might not change over time, there are at least some alternatives to the “owning an old, high maintenance house in a great area” method to maximise government pension payments.

While there is no doubt that downsizing that produces a lot of excess cash will have the effect of diminishing or extinguishing eligibility for the age pension, using that cash in the right way can replace the lost pension payments.

For a start, the downsizer provision of up to $300,000 for a single person and $600,000 for a married couple can be used to beef up super accounts and use that to help to replace pension income.

Super Can Be a Great Tool to Boost Income

Also, using the bring forward provisions within super can help to swell the superannuation coffers by up to $360,000 by combining three years of payments.

In both cases there are some conditions that must be met so make sure to research these thoroughly or consult a financial planner before acting.

However, the end result could be well worth the trouble, with the income that can be drawn more flexible and potentially higher than the forgone age pension payments.

Any extra funds that are invested outside of super may also be essentially free of tax, given the more generous normal tax-free threshold with the added seniors and pensioners tax offset meaning income from this taxed source would need to be quite high before it generated a tax bill or the need for a tax return.

Individuals really shouldn’t need to do the reform work for action-shy governments but in this case there is a way of making downsizing work, even if the exemption of the family home in the age pension assets test does represent a bizarre and growing roadblock.