Could tax-free KiwiSaver be the key to doubling your retirement savings? We unpack ACT's proposal to remove tax on KiwiSaver investment earnings, how it could dramatically increase retirement balances, and what it might mean for the future of New Zealand Superannuation.
What Would Tax-Free KiwiSaver Actually Mean?
ACT has proposed removing tax on investment earnings within KiwiSaver, a change that could significantly increase how much New Zealanders accumulate for retirement.
But tax-free KiwiSaver doesn’t mean contributions would suddenly become exempt from income tax.
Currently, KiwiSaver contributions are made from income that has already been subject to tax, while investment earnings within KiwiSaver funds are also taxed. For many New Zealanders, those investment earnings are taxed at a prescribed investor rate (PIR) of 28%.
Under ACT’s proposal, contributions would continue to come from taxed income, but investment earnings within KiwiSaver would no longer be taxed.
The policy also includes several other proposed changes:
- Removing the Government Contribution: The annual contribution of approximately $260 would be removed for members currently receiving it.
- Keeping KiwiSaver voluntary: Rather than making KiwiSaver compulsory, ACT would encourage participation through more favourable tax treatment.
- Increasing retirement savings: Removing tax on investment earnings would allow more of those returns to remain invested and compound over time.
ACT estimates the policy would cost approximately $2.4 billion over four years, with the amount of forgone tax revenue expected to increase as KiwiSaver balances grow.
The question is whether the long-term benefits of larger retirement savings could outweigh that cost.
Could Tax-Free KiwiSaver Really Double Your Retirement Savings?
The biggest potential advantage of tax-free KiwiSaver comes down to compound returns.
When investment earnings remain invested, they can generate additional returns of their own. Over several decades, even a relatively small difference in annual returns can produce a substantial difference in the final balance.
To demonstrate the potential impact, consider a hypothetical 30-year-old with the following financial circumstances:
- Annual salary: $100,000
- Current KiwiSaver balance: $20,000
- Retirement age: 65
- Investment timeframe: 35 years
- Contributions: Employer and employee contributions starting at 3.5% each and gradually increasing to 6% each
- Assumed annual investment return: 10% before tax
The example assumes no salary increases and compares an annual return of 10% without tax against an effective return of 7% after allowing for tax.
The Difference Over 35 Years
KiwiSaver balance at age 65 with investment returns taxed: $1.56 million
KiwiSaver balance at age 65 with tax-free investment returns: $3.17 million
Total difference: $1.61 million
Under these assumptions, removing tax on investment earnings could result in a KiwiSaver balance more than twice as large by retirement.
What’s particularly interesting is that the total contributions over those 35 years amount to approximately $350,000. The majority of the final balance comes from investment returns and the compounding effect over time.
Of course, these figures are hypothetical. They assume someone remains invested in a high-growth fund throughout their working life and consistently achieves the assumed returns.
In reality, many investors may choose to reduce their investment risk as they approach retirement, which could affect their returns and final balance.
Nevertheless, the example highlights just how significant the long-term impact of investment earnings tax could be.
What Could This Mean for Your Financial Decisions Today?
A larger KiwiSaver balance wouldn’t just change how much money someone has when they retire. It could also influence the financial decisions they make throughout their working life.
Consider a couple who both achieve the retirement balances outlined above.
Under the taxed scenario, they could collectively retire with approximately $3 million in KiwiSaver.
Under the tax-free scenario, that figure could increase to more than $6 million, excluding their home or any other investments.
Having greater confidence in their retirement savings could change how they approach paying off their mortgage, investing outside KiwiSaver and spending money throughout their working years.
For example, someone who expects to have sufficient retirement savings may feel less pressure to aggressively pay down debt or accumulate additional investments at the expense of enjoying their income today.
It also raises an interesting question about whether making additional KiwiSaver contributions could become more attractive than other investment options.
Currently, employer contributions are a major incentive for employees to participate in KiwiSaver. Removing tax on investment earnings would introduce another potential advantage, particularly when comparing additional KiwiSaver contributions against mortgage repayments or investing elsewhere.
However, having a substantial retirement balance is only one part of the equation. When that money becomes available is equally important.
Could Tax-Free KiwiSaver Change the Future of NZ Super?
New Zealand’s ageing population presents a significant challenge for the long-term affordability of NZ Superannuation.
In the 1970s, there were approximately seven working New Zealanders for every retiree. By 2050, that ratio is projected to fall to around two workers per retiree.
With fewer workers supporting a growing retired population, the cost of NZ Superannuation is expected to become increasingly difficult to manage.
The annual cost of NZ Superannuation was identified as approximately $24 billion, with that figure expected to increase as more New Zealanders reach retirement.
One argument in favour of tax-free KiwiSaver is that larger personal retirement savings could eventually reduce people’s reliance on Government support.
If more New Zealanders retire with substantial KiwiSaver balances, there may be opportunities to reconsider how retirement income is funded in the future.
However, the financial implications aren’t straightforward.
While removing tax on KiwiSaver investment earnings would reduce Government revenue, any potential savings from changes to NZ Superannuation would take decades to materialise.
There would also need to be careful consideration of people approaching retirement who haven’t had enough time to benefit from decades of tax-free investment growth.
A gradual approach would be particularly important to ensure people have sufficient time to plan for any changes to their retirement income.
Should KiwiSaver Be Accessible Before 65?
If New Zealanders begin accumulating significantly larger KiwiSaver balances, another question becomes increasingly relevant: should they have to wait until 65 to access that money?
For many people, their 50s and early 60s are when they begin thinking seriously about reducing their working hours, travelling or enjoying more financial freedom.
Yet KiwiSaver savings are generally locked away until 65.
This creates an interesting situation where someone could have millions of dollars invested for retirement but limited access to those funds during the years when they might want to use them most.
There are also differences in how long people can realistically remain in the workforce.
Someone who has worked in a physically demanding occupation for 40 years may have a very different ability to continue working compared with someone in an office-based role.
Separating the KiwiSaver withdrawal age from the age of eligibility for NZ Superannuation could provide greater flexibility for people planning their retirement.
However, earlier access would also introduce another risk: spending retirement savings too quickly.
For someone who has spent their entire working life accumulating wealth, suddenly having access to several million dollars could make it difficult to determine how much they can sustainably withdraw each year.
A comprehensive financial plan could become even more important in helping retirees balance enjoying their money with ensuring it lasts throughout retirement.
Could Tax-Free KiwiSaver Create Unintended Consequences?
While removing tax on KiwiSaver investment earnings could encourage greater retirement savings, it could also change how New Zealanders choose to invest and spend their money.
One concern is that KiwiSaver could become an attractive way to shelter investment earnings from tax.
If people can make unlimited contributions and receive tax-free investment returns, they may choose to direct significantly more of their savings into KiwiSaver rather than other investments.
This could have wider implications for the economy.
Although KiwiSaver funds invest in businesses, a substantial proportion of those investments are held overseas. Encouraging higher contributions could therefore mean less money being spent or invested directly within New Zealand.
On the other hand, people who feel more financially secure about their retirement might become more comfortable spending their income throughout their working lives.
These competing effects make it difficult to predict exactly how the policy would influence the economy.
One potential solution would be to introduce limits on the amount people could contribute while receiving tax-free treatment.
For example, regular employee and employer contributions could remain eligible, while additional voluntary contributions above a certain threshold could face different tax treatment.
Self-employed New Zealanders could also benefit from a higher contribution threshold, recognising that they don’t receive the same employer contributions as salaried employees.
This is particularly relevant because self-employed people currently have fewer incentives to lock money away in KiwiSaver.
Introducing a tax advantage could encourage more business owners and self-employed workers to actively save for retirement.
Is Your KiwiSaver Working Hard Enough?
Regardless of whether ACT’s proposal becomes policy, there are still important decisions New Zealanders can make about their KiwiSaver today.
One of the biggest is ensuring they’re invested in a suitable fund with a provider that aligns with their financial goals.
The difference in investment performance between KiwiSaver providers can be substantial.
As highlighted in the episode, some of the strongest-performing growth funds achieved approximately 11% annual returns over the previous five years, while some of the weakest achieved around 2%.
While past performance doesn’t guarantee future returns, the difference demonstrates why actively reviewing your KiwiSaver matters.
Rather than simply accepting the fund or provider you were initially placed with, it’s worth considering:
- Your KiwiSaver provider: Have you compared its long-term performance and fees against other providers?
- Your fund type: Does your investment risk level align with your age, financial circumstances and retirement goals?
- Your contribution rate: Are you contributing an appropriate amount towards your long-term retirement savings?
- Your overall financial strategy: How does KiwiSaver fit alongside your mortgage, other investments and retirement plans?
The most important consideration isn’t necessarily choosing the fund with the highest recent returns. It’s understanding where your money is invested, what you’re paying in fees and whether your current approach supports your long-term goals.
Key Takeaways
- ACT’s tax-free KiwiSaver proposal could significantly increase retirement savings. Removing tax on investment earnings would allow more returns to remain invested and compound over time.
- The difference could be substantial. Under the hypothetical example, a 30-year-old could retire with $3.17 million instead of $1.56 million, assuming the stated contribution rates and investment returns.
- There is a trade-off. The proposal would remove Government Contributions for eligible members and reduce Government tax revenue, with an estimated cost of $2.4 billion over four years.
- Larger KiwiSaver balances could influence retirement planning. Greater financial security later in life could change how people approach mortgage repayments, investing and spending during their working years.
- The future of NZ Superannuation remains an important consideration. An ageing population means New Zealand will need to consider how retirement income is funded over the long term.
- Your KiwiSaver decisions today still matter. Reviewing your provider, fund type, fees and contribution rate can help ensure your retirement savings are aligned with your financial goals.
Next Steps
Want to see how your KiwiSaver stacks up? Use our KiwiSaver Calculator to compare your provider’s performance and fees, or book a free initial consultation with one of our KiwiSaver advisers to review your retirement savings strategy.
If you’d like to watch more, check out this episode below.
For a no obligation discussion to see how we can help you on the path to wealth, please contact us.
Disclaimer:
The information in this article is general information only, is provided free of charge and does not constitute professional advice. We try to keep the information up to date. However, to the fullest extent permitted by law, we disclaim all warranties, express or implied, in relation to this article – including (without limitation) warranties as to accuracy, completeness and fitness for any particular purpose. Please seek independent advice before acting on any information in this article.
