Retirees are losing up to $1 billion a year in earnings because superannuation funds are failing to pass on fully a tax exemption aimed at maximising post-work incomes.

Those in the workforce have the annual returns of their super funds taxed at 15 per cent while retirees pay no tax on their super earnings, meaning that if a person stays in the same fund when they retire, their annual super returns should rise substantially to reflect the removal of that tax.

Analysis of 20 of the biggest super investment options by the The Weekend Australian reveals that, on average, retired investors in "retail", or for-profit, super funds are seeing their returns rise by less than half the amount expected. Some funds are actually paying members less after they retire, despite them continuing to invest in assets of similar risk. This is costing hundreds of thousands of super fund members between $1000 and $2500 each a year.

The analysis shows industry, or not-for-profit, super funds -which were heavily criticised this week by the Productivity Commission over governance -typically passed on most or all of the tax benefit, but at least one major fund raised some red flags.

The Productivity Commission, in a landmark review of the superannuation industry, this week called for sweeping reforms. It described the system as an "unlucky lottery" for some workers who could find their retirement nest eggs eroded by poor fund performance and criticised the complexity of the system.

Retiree super-tax breaks are considered necessary because they help retirees fund themselves and so are less likely to need the age pension, meaning that the failure by super funds to pass on the tax savings increases the burden on taxpayers and the nation's finances. 

Analysis of data collected from super funds by ratings agency SuperRatings, owned by Lonsec, shows the NAB-owned $2.8bn MLC MKey, Horizon 4 Balanced Portfolio paid average returns over the past five years of 8.54 per cent a year during the accumulation phase, when the member is still in the workforce. 

Retired members in the same fund during the same period earned annual returns of just 8.12 per cent a year: 0.42 percentage points less. The product, both before and after a member's retirement, invests the same proportion of funds in growth assets such as shares (68 per cent) as in defensive assets such as cash (32 per cent). 

Alun Stevens, a senior consultant with actuary company Rice Warner, said that while the super tax was 15 per cent, workers paid anywhere from "6 per cent to 15 per cent" on their super earnings because of other tax deductions such as those resulting from franking credits earned by shares in their super funds. 

That meant the average retiree would not be expected to get the full 15 per cent gain resulting from the super-tax exemption, but all things being equal, they should see their super returns lift to reflect the tax changes. 

"If an investor in the pension phase is in the same portfolio with the same asset construction as the one in the accumulation phase then you should see an increase in the rate of return (at retirement) reflecting exactly the reduction in tax," Mr Stevens said. 

Experts said most super funds in the accumulation phase paid between 10 and 15 per cent tax on earnings each year. Even based on a conservative calculation and assuming all workers paid an average of 10 per cent tax on super, analysis of the Super Ratings data shows investors in the 10 biggest retail options - based on averages over the past five years - should see on retirement their expected returns lift by 0.85 percentage points a year, all things being equal. However, the returns for the 10 biggest retail options lifted by an average of just 0.36 percentage points on retirement, less than half the amount that would be expected. 

The same analysis for industry funds shows account holders should see their super returns rise by 1.06 percentage points when they retire, while they are actually seeing their returns lifting by 0.93 percentage points. 

Depending on the funds they have invested in and the amount of super-tax offsets they enjoyed before retirement, retirees in average retail funds were losing an estimated $1000-$2500 a year. 

Analysing and comparing returns of retail super funds is difficult. The retail sector offers 39,249 super investment options, compared with 688 for the industry fund sector. Even if a fund has the same name in the accumulation phase as it does in the pension phase, it does not mean the investments are identical. 

The Weekend Australians investigation follows a report in The Australian that super companies owned by the big four banks were boosting profits by hundreds of millions of dollars a year by paying super holders invested in the lowest-risk "cash" options returns as low as one-quarter that of market rates. It reveals the ANZ-owned OnePath Corp - OptiMix Balanced option, which holds $901m of super funds in the accumulation phase, and the ANZ-owned OnePath OneAns AP - OptiMix Balanced option, which holds $39m of super funds owned by retirees, each invest in 70 per cent "growth" assets and 30 per cent "defensive" assets.

However, investors in the accumulation phase have been paid 6.46 per cent a year on average over the past five years, while those in the pension phase have been paid 6.04 per cent. 
An ANZ spokesman said those products, despite their size, were closed to new customers. "These products do very different things and have many different features, services and benefits as well as fee structures," he said. 

When The Weekend Australian asked NAB about its $2.8bn MLC MKey, Horizon 4 Balanced Portfolio, a spokeswoman said it was closed to new customers. 
"To compare our closed fund, with an open industry super fund product is not a true comparison of performance and misleading," she said. 

She said a "more accurate representation of our performance" would be the MLC MasterKey Pension Fundamentals -Horizon 5 - Growth Portfolio, which returned 10.70 per cent over five years. However, searches show that fund holds 82 per cent of its investments in "growth" products, compared with 68 per cent for the MLC MKey, Horizon 4 Balanced Portfolio, meaning it would be expected to deliver significantly higher returns.