Opening Address at Eriksen Conference 2010
'Investment and Superannuation Issues in Tough and Uncertain Times'
Tuesday, 14 September 2010
Good morning and thank you for inviting me here to address this conference.
It is a pleasure to be able to address you today on a subject in which I, as Minister of Revenue, have a huge interest.
Your conference is focused on investment and savings which are at the heart of the Government's economic agenda.
The overall emphasis of our policies is on promoting greater productivity and accumulation of capital so New Zealanders, including those who are retiring, can enjoy a secure and prosperous future.
You have particularly asked me to comment on KiwiSaver; issues with the scheme and potential improvements we could make.
In addressing KiwiSaver, it is important to place it in the wider context of the Government's approach to savings and investment, how tax fits into that, New Zealand Superannuation and the issues being considered by the newly launched Savings Working Group.
Savings and investment in New Zealand
The reality is that our recent savings and investment track record has not been great - we have spent more than we have earned, and when we, as individuals, have invested, we have tended to invest in property.
As you would be aware, the Government is concerned by these trends and has taken steps to address them.
The 2010 Budget contained substantive tax measures that improve the incentives for efficient savings and investment.
The Government has also established a framework designed to further improve national investment, and has recently formed the Savings Working Group to explore ways to improve our savings performance.
This framework is designed to provide a solid basis for sustained and productive growth in the economy over the long-term.
As people interested in the health of the retirement system, you will well appreciate the need to think about the long-run impact of policies.
The simple reality is that there are no quick fixes here.
However, our retirement savings situation is not all bleak.
Certainly it has improved markedly since the advent of KiwiSaver.
You may remember that the tax rules on savings that previously applied operated very unevenly.
Managed funds were taxed at a flat 33% thereby overtaxing lower income investors on a 19.5% tax rate.
This created a significant tax disincentive for lower income earners to save.
In addition, investment in some countries was favoured over investment in others.
New tax rules for savings came into force during 2007.
These rules consist of the new portfolio investment entity (PIE) rules for managed funds and the fair dividend rate (FDR) rules for offshore portfolio share investments.
The new rules addressed the long standing problems with the taxation of managed funds.
In particular, they have created a much more level playing field between those who invest through managed funds and those that invest directly.
The new rules also address the problem of investors in managed funds having their investment income taxed at a higher rate than their marginal tax rate.
Under the new rules, lower income savers investing in entities that elect to become PIEs are taxed at their correct tax rate - 12.5% or 21%.
The tax rate on investment income of higher income savers in PIEs is currently capped at 30%.
This will drop to 28% on 1 October.
These changes were deliberately made to ensure the viability of KiwiSaver as a government-subsidised private sector retirement savings scheme.
Removing the previous tax disadvantages of saving through managed funds was very important to achieve the purpose of encouraging people to save through KiwiSaver.
The arrival of KiwiSaver has changed the landscape of retirement savings and managed funds for the better.
Its success has exceeded government expectations.
Late last month, membership reached 1.5 million - a third higher than a year earlier.
Interest has been so strong that at the end of its first year, there were a net 716,000 enrolments.
The original forecast for that period was for 276,000.
KiwiSaver has proved to be very attractive to New Zealanders.
It is clear that KiwiSaver has been a very successful policy.
Three years after its introduction, enrolment growth continues to be strong.
The fact is that New Zealanders continue to enrol at a rate of about 30,000 per month, and this has essentially been maintained over the last two years - putting the lie to political criticism that the Government's changes to KiwiSaver in 2009 "gutted" the scheme.
So why am I telling you this?
These statistics bear out my view that there are no real issues with KiwiSaver.
And at a time when fiscal prudence is called for, I cannot justify putting further incentives into the scheme when plainly it is working absolutely fine as it is.
I am always ready to hear suggestions, but the old adage, 'if it ain't broke, don't fix it' certainly comes to mind here.
Having said that, though, I make the point that KiwiSaver is a major government programme, and any such programme can always benefit from improvements in the way it is delivered.
We continue to refine the administration and legislation for KiwiSaver to improve certainty and efficiency for savers and providers.
For example, legislation has just been enacted which clarifies the rules around enrolling under 18s.
Of course, KiwiSaver is just one aspect of the Government's retirement policies.
New Zealand Superannuation is another.
My party was a signatory to the 1993 cross-party Accord on Retirement Income Policies.
It was my view then that a universal, adequate, government-funded retirement scheme as delivered by New Zealand Superannuation needs to be the foundation of our retirement provision.
I am still of that view today.
New Zealand fares well against its OECD counterparts on measures of old age poverty.
New Zealand Superannuation provides people with a safety net.
It is a solid foundation on which further supplements such as KiwiSaver can be added to provide further financial security.
The universal aspect of New Zealand Superannuation means that it does not provide the disincentives for retirees to work and save that are associated with means- and income-tested overseas schemes.
With our ageing population this becomes increasingly important.
One way of keeping the ratio of workers to beneficiaries manageable is to increase the length of peoples' working lives.
The effective lifting of a statutory retirement age in the mid 1990s has effectively achieved that.
An advantage of New Zealand Superannuation is that it enables people to maintain participation in the workforce in their own way and on their own terms.
This may be part-time employment and so on.
Such on-going workforce participation is often what people want and has benefits other than financial.
It keeps them socially engaged and active.
Along with improving the environment for savings, we want an economy that promotes wise investment at a public and private level.
In this regard, the Government has agreed on six policy drivers aimed at lifting New Zealand's long-run growth rate and reducing the vulnerability of the economy to external shocks.
- a better regulatory environment for business
- a better, smarter public sector
- support for science, innovation and trade
- a focus on higher skills for our labour force
- productive infrastructure investment, and
- a fair and efficient tax system
There is a strong focus here on investment for the future.
While increasing levels of investment should in general lift our long-run growth rate, it is the quality of investment that matters most.
As a government, we are putting investment in:
- the public sector
- science, innovation and trade
- skills, and
Many of us will recall the days when New Zealand invested heavily but poorly.
We invested in car manufacturing plants that produced sub-standard cars at inflated costs.
And of course we invested heavily in the "Think Big" projects of the Muldoon era.
The level of investment in the economy results from a partnership between the Government and the private sector.
Obviously the Government will undertake most of the investment required for a better, smarter public sector and for education and infrastructure.
This investment needs to be of high quality.
These government investments are needed to build a better base to support the private sector investment that is crucial for our long-run economic prospects.
As Minister of Revenue, I have a particular interest in the role of the tax system in promoting the Government's agenda.
For investment by the private sector, the tax system has a significant impact.
Investment is a positive thing, but where New Zealanders are making investments, we want investment decisions to be driven by the quality, and not just the tax advantages that may derive from them.
A fair and efficient tax system creates the right incentives for quality private sector investment.
Therefore we have resisted the temptation to reintroduce tax incentives - a path that has proven inefficient and ineffective in the past.
We have continued to emphasise a broad based, low rate system that does not distort market incentives.
These themes were well illustrated in the 2010 Budget.
Much of the last Budget arose from the work of the Tax Working Group.
The group comprised leading tax professionals, academics and business and labour representatives, assisted by IRD and the Treasury officials.
The Tax Working Group took much of last year to prepare a comprehensive report that emphasised the need for coherence and integrity in the tax system, recommended lowering tax rates and emphasised the need for a more efficient balancing of effective tax rates across sectors.
In particular, it noted that a low effective rate of tax appeared to be contributing to New Zealand's over-investment in property.
The Budget responded positively to these recommendations.
It introduced measures designed to boost savings, investment and productivity, while maintaining the integrity of the tax system.
The Budget was perhaps the most comprehensive shake-up of the tax system in 20 years and introduced a number of significant changes, including:
- lower tax rates for individuals and businesses. The lower rates encourage individuals to work, invest and save, increasing wealth and productivity.
- a rise in the GST rate. The rate increase funded the income tax decreases so that they were implemented in a fiscally responsible manner and helped to tilt the incentives for New Zealanders away from consumption and toward savings. The shift away from income tax and towards GST will ensure that ordinary New Zealanders see an increase in their take-home pay and will encourage them to save for retirement.
- changes to the taxation of investment property. The changes removed biases which favoured such investment at the expense of other more productive uses.
- A lower capped tax rate for PIEs that encourages savings.
All of these changes improve long-run growth and productivity and yield a better fiscal basis in order to provide a more secure environment to sustain future obligations of government, for example in the area of pensions.
The Budget measures also significantly improved the integrity and fairness of the tax system by removing the tax advantage that could be gained by sheltering income in trusts.
The top tax rate for individuals is now the same as the trust tax rate.
Of course our work does not end with the delivery of a Budget and Budget implementation work continues.
Moreover the government is moving to examine other major policy areas.
Savings Working Group
Over the longer term, part of the Government's economic strategy is to move away from unsustainable reliance on credit.
Until we address that, our economy will continue to be vulnerable.
The Government is concerned that New Zealand places too high a reliance on foreign capital to fund investment and consumption - a reliance that makes New Zealand more vulnerable to foreign shocks. For example:
- New Zealand has run a current account deficit every year since 1973. National investment has continuously exceeded savings, with the difference funded by offshore borrowing.
- There is an increasing net debt to the world. Looking across government, households and business, it has almost doubled since 2000.
One only needs to look at the problems in Europe today to see the risks that can arise when there are imbalances of these sorts.
It is important however not to be too alarmist about these numbers.
We start out with an internationally low ratio of government debt to GNP, meaning that there is no concern about our ability to fund its obligations.
And borrowing from abroad is a good thing if it funds investments that earn more than the cost of that borrowing.
(An important reason is that it is necessary to avoid tax incentives that encourage unprofitable investments.)
Nevertheless, it is prudent to ask: can we do better?
The Savings Work Group launched last month will look at these issues.
The Group's scope will include:
- The role of government savings as part of New Zealand's overall savings picture, including long-term savings/debt targets and the interaction of government and private savings.
- The impact of the tax system on the level and composition of national savings and investment decisions.
- The role of KiwiSaver in improving national savings.
The examination of the tax system will be far-ranging, including such fundamental questions of whether the tax system should be indexed for inflation or whether a dual income system, also known as the Nordic system should be introduced.
A Nordic tax system levies a lower tax rate on capital investment relative to income from labour, (including entrepreneurial labour).
These and other options will be examined according to standard tax policy criteria of:
- Impact on government revenues
- Fairness and
It must also be recognised that international evidence has shown that taxation alone does not have a significant impact on the level of savings, although it can certainly have an impact of how savings are made and where they are invested.
The Group will recommend policy options in January next year.
Savings and capital formation are essential parts of any economy and we need to create a favourable economic environment for that.
It is my firm view that the Government is rolling up its sleeves and tackling this as best it can.
I believe that the work we are doing now is going to pay off for New Zealanders in saving and investing for a better future.
Thank you very much.