Australia's Future Tax System

Final Report: Detailed Analysis

Chapter F: The transfer system

F7. Funding aged care

F7–2 Current funding and charging arrangements have weaknesses

Overview of the system

A range of government-subsidised aged care services are available through either residential or community care programs. Table F7-1 summarises features of the available programs.

The majority of recipients of aged care services receive relatively low levels of support in the community through the Home and Community Care (HACC) program. This care is funded by both the Australian and State governments, with access to programs governed by providers who follow guidelines established by States.

The other care programs are funded by the Australian government. Access to subsidised aged care services are regulated in two ways:

  • Potential recipients are assessed by Aged Care Assessment Teams (ACATs), who act as gatekeepers to subsidised care. ACATs determine a person's eligibility for a type of care (residential or community, high or low needs, permanent/respite).
  • Subsidised care must be delivered by an approved provider, whose supply is regulated according to needs-based planning arrangements, which limit the number of providers in the following ways:
    • Across the country, 113 aged care places are provided for every 1000 people aged 70 years or over. The total number of places is divided between 44 high-level residential care places, 44 low-level residential care places, 21 low-level community care packages and 4 high-level community care packages.
    • These places are allocated geographically within regions of a State in line with the proportions of elderly in each area. Once an allocation to a particular area is made, it is not generally subject to subsequent review. The ability to become a care provider is tied to a particular area and allocated through a (non-price-based) competitive tender.

Table F7-1: Current aged care programs

  Health and Community Care (HACC) Community Aged Care Packages (CACP) Extended Aged Care at Home (EACH) Extended Aged Care at Home — Dementia (EACH-D) Residential
(Low level care)
(High level care)
Number of recipients 831,500 61,740 160,000
Government funding $1.7 billion(a) $729 million $6.7 billion
Source of government funding Commonwealth (60%) and States (40%) Commonwealth Commonwealth
Total cost per recipient ($) 2,086 15,100 43,630 49,150 39,550 63,300
Private contribution 5 16 5 5 53 26
  1. Excludes additional funds from state and territory governments over the matching requirement (estimated to be $119 million in 2006–07).

Note: These figures overstate the private contribution towards the cost of residential aged care services compared to community care. These private contributions for residential aged care reflect payments toward accommodation and daily living expenses, which are paid for by recipients of community care services.

Source: Department of Health and Ageing (2009a).

Residential aged care

The following sections discuss the funding and charging arrangements for the different services provided in residential aged care.

Personal and health care

In residential aged care, the Aged Care Funding Instrument (ACFI) is used to determine the level of assistance for both personal care and some health care costs. The ACFI divides the type of care a resident requires into three domains and each domain has three funded levels (see Table F7-2). The higher the level a resident is assessed at in each domain, the higher the cost of their care and the larger the payment received by the aged care facility to provide their care. For example, the cost of care for a resident assessed as low on activities of daily living, medium on behavioural supplement and high on complex health care supplement would be $99.01 per day or $36,139 for a year.

Table F7-2: Daily ACFI subsidy rates (at 30 June 2009)

Level Activities of daily living Behavioural Supplement Complex Health Care Supplement
Nil 0 0 0
Low $29.78 $6.81 $13.40
Medium $64.86 $14.11 $38.17
High $89.85 $29.72 $55.12

Source: Department of Health and Ageing (2009b).

This funding arrangement is essentially 'user-directed' funding, as the assistance goes to recipient's choice of provider. However, the benefit of this funding model is limited by the supply restrictions enforced through the needs-based planning ratios, which operate as a second gatekeeper on care (Productivity Commission 2009).

Supply restrictions can lead to high occupancy rates in care facilities and the use of waiting lists for access to care. As noted by the National Health and Hospitals Reform Commission (2009), limited availability of places can lead people to choose the first available place, rather than choosing their preferred facility. When this occurs, providers have little incentive to attract clients by delivering better-quali ty care. The restrictions also act to prevent popular providers expanding their share of the market. While funding through ACFI (with 64 different levels of assistance) provides scope for significant tailoring of assistance to assessed need, recipients are allocated to a care entitlement in either a low-level or high-level facility. The use of these broad categories can affect access to care because providers are able to charge recipients differently for non-care costs depending on these categories, which will be discussed in greater detail below.

The means tested fees paid to providers reduce the government subsidy, which ensures that providers receive the same payment for each recipient to whom they provide care. The resident's fee is equal to 41.67 per cent of their income in excess of $20,376, a figure set equal to a full rate single Age Pension (including supplement) plus the income-free area of the income test. The maximum fee a resident can be charged can not be greater than the cost of their care, as determined by the ACFI, or greater than $21,674, set as 150 per cent of the annual single basic Age Pension (see Table F7-3). The effect of care fees is considered below in combination with other means tested fees in residential aged care.

Table F7-3: Funding of health and personal care in a residential aged care facility (annual)

  Income Care cost Resident fee Government subsidy Provider revenue
Full pensioner $19,000 $36,139 0 $36,139 $36,139
Part pensioner $40,000 $36,139 $8,177 $27,962 $36,139
Self-funded retiree $60,000 $36,139 $16,510 $19,629 $36,139

Source: Department of Health and Ageing (2009c) and Treasury calculations.

Assistance with every day living costs

Residential aged care provides people with food and other living costs, such as laundry. These services can be provided at a standard quality or a higher 'extra service' level.

All residents who receive standard service pay a fee equivalent to 84 per cent of the single Aged Pension, currently equal to $36.94 per day or $13,483 per year. This fee is notionally allocated to the funding of activities of daily living.

'Extra service' can include a range of additional services such as better food or pay TV, hairdressing, newspaper delivery or a larger room (interacting with accommodation, which is discussed below). Providers must be approved to provide a place offering extra services, and the number of extra service places in a region is capped to ensure that residential care remains available to people who cannot afford the additional charges.

Providers may charge an additional 'extra service daily amount' for providing these services. As well as cost recovery, the use of extra service fees affects other aspects of aged care funding and charging. Regulations reduce a provider's residential care subsidy by 25 per cent of the extra service fees they charge clients. A further regulatory implication is that if a high-care resident uses extra services their provider can charge them differently (often more) for their accommodation than they could otherwise. These funding arrangements give both suppliers and users a disincentive for the use of extra service places.


Residents can be charged for the accommodation they receive through either a charge or a bond. Charges are used for residents entering high-care facilities, unless they chose to receive 'extra service' which allows providers to charge them bonds. Providers can ask all low-care residents to pay a bond.

The level of an accommodation charge is determined by residents' asset levels. No charge is paid for residents whose assets are below $36,000, with the charge increasing to a maximum of $26.88 per day at an asset level of $91,910.40. The Australian government provides an 'accommodation supplement' in respect of residents who do not pay the full charge. This is an effective accommodation subsidy for those residents, which ensures providers receive the same payment for accommodation irrespective of recipient means. Access to an accommodation subsidy of some form is appropriate in aged care, as outside the system older people who face high housing costs are eligible for Rent Assistance on top of their pension.

Residents entering low-care or high-care 'extra service' places can be asked to pay an accommodation bond whose value is agreed between the resident and the provider. The only limit on the size of the bond is that it must not leave the resident with less than $36,000 in assets. Providers retain any earnings on the bond for as long as the resident uses their service. In addition, for or up to a maximum of five years providers can retain 10 per cent of the bond each year, with the amount capped at $3,588 per annum (for bonds over $35,880).

Table F7-4: Funding of accommodation services in residential aged care

  Assets Charge Government
Bond income Provider revenue
Provider revenue
Full pensioner 0 0 $9,811 na $9,811 na
Full pensioner $80,000(a) $7,195 $2,616 $6,388 $9,811 $6,388
Part pensioner $200,000(b) $9,143 $668 $14,088 $9,811 $14,088
Self funded retiree $400,000(c) $9,811 0 $24,588 $9,811 $24,588
  1. Pays a bond of $40,000.
  2. Pays a bond of $150,000.
  3. Pays a bond of $300,000.
  4. Only if resident pays a charge not a bond. The provider revenue from the bond assumes a return of 7 per cent.

Source: Department of Health and Ageing (2009c) and Treasury calculations.

The design of a bond is more like a tax, limited by people's capacity to pay, rather than a user charge, which would be limited by the costs of their accommodation. As noted by the Productivity Commission (2009), supply restrictions result in providers gaining monopoly pricing power in local regions. Bonds are the only aspect of the market where providers have pricing flexibility and the amount they receive does not offset other government subsidies. This has led to substantial growth in bonds providers can charge, with the average accommodation bond agreed with new residents rising from $58,400 in 1997–98 to $212,958 in 2007–08. Where bonds exceed around $90,000, they result in people paying more for their accommodation than those levied with a charge.

This difference is inequitable. It leads to substantial difference in the accommodation payments based on care need. In addition, bonds mean that high-wealth clients are more financially lucrative to providers than low-wealth clients, even though the service they are provided with is the same. This provides an incentive for providers to 'cherry pick' their clients according to wealth, which was suggested by Ergas (2008) to be a reason why wait times were higher for low-income recipients.

Total effect of means testing

The total effect of means testing on aged care residents who pay an accommodation charge is set out in Chart F7-1.

Chart F7-1: Total effect of means testing

Chart F7-1: Total effect of means testing

Note: Disposable income includes private income plus pension less tax. Private income is assumed to be derived from assets earning a 5 per cent rate of return.

Source: Department of Health and Ageing (2009c) and Treasury calculations.

Means tested charges for the costs of care should be set so they do not harm income adequacy in retirement and are consistent with pension means testing. As the Age Pension is designed to ensure access to an adequate basic standard of living that does not include significant personal care costs, these costs should generally not be levied on recipients of a full Age Pension. Following the approach in the income support system, means testing should not be designed to force the drawdown of assets, but instead target the income from assets. The charge should also take into account the effective tax rate already applied to private income through the pension means test and income taxes, with the total effective marginal tax rate being less than 100 per cent of income. These features are necessary to provide an incentive for people not to draw down their assets excessively to avoid means testing. These combined parameters — starting means testing from a level of income adequate to cover other expenses, ensuring the total taper on private means does not remove all incentive to maintain savings, and limiting the charge to the cost of care — should allow means testing to target assistance tightly. This ensures that users with sufficient means are able to reduce the funding pressure on the wider community through higher taxes.

The current approach to means testing appears inconsistent with this approach in two ways. For a reasonable estimate of the earning capacity of assets, the rate at which the accommodation supplement is withdrawn creates effective marginal tax rates in excess of 100 per cent on asset earnings. For example, if the assets subject to the test ($55,910) earned a 5 per cent rate of return, they would generate only around $2,800 of income, compared to the $9,784 annual charge. As such, this test results in depletion of asset values.

higher income ranges, however, the total effective marginal tax rate can fall. Further, the cap on means testing charges for personal care provides a benefit to wealthy recipients of aged care, as it takes effect from incomes of around $72,000. This results in taxpayer funding for the costs of care that, given the income levels of the recipients, are a personal responsibility. A more consistent approach to means testing would be to target a consistent effective marginal tax rate until these costs are covered.

Community aged care

Community aged care services provide personal care services and some assistance with standard living costs, such as provision of food. Access to community aged care is governed through a combination of State-managed assessment and the ACAT assessment teams for Australian government programs. Recipients are allocated to their providers, who determine the level of care based on their assessment of the recipients' needs. The funding a provider receives for their care is not tightly matched by recipients' care needs and is governed by a different mechanism than used in residential care. The approach to means testing also varies between these services, and compared to residential aged care.

Funding care levels

The Home and Community Care (HACC) program funds a range of personal care, health care and assistance with standard living costs set out in Box F7-1. Eligibility for HACC is determined by service providers in each State, with care funding delivered to providers through block grants. Most HACC clients (97 per cent) receive, on average, services worth about $1,200 per year (in 2007–08 prices), although this includes non-care services. About 3 per cent of HACC clients receive services worth more than $16,000 per year (Department of Health and Ageing 2008). Expenditure on these clients accounts for about 30 per cent of all HACC expenditure.

Three community aged care programs are funded entirely by the Australian government: the Community Aged Care Program (CACP) and the Extended Aged Care at Home (EACH) program and the EACH — Dementia (EACH-D) program. CACP does not fund health care services but does include personal care. EACH and EACH-D both fund specialist nursing care as well as personal care. The cost of a CACP package is $15,100 per person, $43,630 for an EACH package and $49,150 for an EACH-D package.

Box F7-1: Services provided through community care

The services provided through a Home and Community Care (HACC) package vary by State. For example, in Victoria, services include personal care, respite home care, property maintenance, nursing, allied health, delivered meals and planned group activities.

A Community Aged Care Program (CACP) package includes personal care, such as bathing and dressing, and domestic assistance, such as housework and shopping, as well as help in participating in social activities. Examples of services may include:

  • meal preparation;
  • laundry;
  • assistance with continence management;
  • transport;
  • personal care;
  • social support;
  • home help;
  • gardening; and
  • temporary in-home respite care.

An Extended Aged Care at Home (EACH) package provides a range of assistance, including nursing input, and services such as:

  • care by an allied health professional such as a physiotherapist or podiatrist;
  • personal care;
  • domestic assistance;
  • in-home respite;
  • transport;
  • social support;
  • home help; and
  • assistance with continence management.

An EACH — Dementia (EACH-D) package includes:

  • linkages to services to meet the specific needs of recipients with dementia;
  • care by an allied health professional such as a physiotherapist or podiatrist;
  • personal care;
  • home help; and
  • assistance with continence management.

Source: Victorian Department of Health Services (2009); Department of Health and Ageing (2009).

Eligibility for the three levels of Commonwealth-funded community aged care is determined by ACATs. Based on their entitlement, recipients are allocated to a provider, who receives the funding for the care. Providers receive an amount per client based on the average care cost in the relevant broad category of community care — CACP, EACH and EACH-D — rather than the individual's specific needs. Providers supply care across recipients with differential needs so that their average level of servicing equates to what they are paid by government.

This funding for community care can constrain care and choice by recipients in several ways. Recipients are allocated to specific providers in a given region that hold the contract to provide the care to which they are entitled. This reduces the competitive pressure on providers to deliver high standards of care and means recipients may have to leave trusted providers when moving to a higher level of care. In addition, providers receive care based on an average level of assistance, rather than an individual's particular need, which can lead to recipients 'falling through the gaps' of care levels, as noted by NHHRC (2009). The restrictions on the numbers of Australian government care packages can limit the choice of recipients. In addition, many recipients would be eligible for a higher level of care subsidy if they moved into residential aged care.

Fee setting

Though underpinned by broad national program guidelines, fee policies for HACC services vary across States. The Department of Health and Ageing (2008) noted that the fees are generally lower than in Australian government packaged care programs. For example, in both Victoria and Western Australia, there is no distinction between the charge levied on full- and part-pensioners. Fees can be set such that they are discounted for multiple use. Further, some living expenses, such as meals, are provided below user cost. However, as HACC is often provided by small providers with assistance occurring on an infrequent basis, some variation in fee-setting policy is expected, given the compliance cost of undertaking more comprehensive means tests.

In Australian government aged care programs, fees for full Age Pension recipients cannot exceed 17.5 per cent of income. While some services provided through CAC-P packages can include living costs for which it would be appropriate to user-charge, the flat 17.5 per cent payment is unlikely to reflect these. Where this amount is for personal care, it reduces the income adequacy for full-rate pensioner. This is most likely to occur for recipients of EACH or EACH-Dementia, as the majority of this care reflects personal care.

Clients with income above the full rate pensioner income can be charged up to 50 per cent of this income (see Table F7-5). This amount is uncapped by the costs of care and does not offset the government subsidy. Providers therefore have an incentive to 'cherry pick' wealthier clients, which undermines the equity of the system. Further, if recipients pay more than the cost of their care, they are effectively cross-subsidising the care of less wealthy recipients. Ensuring that people with limited means can access care would be more appropriately financed through broad-based taxes, rather than through an effective tax on care users. For recipients facing a means tested payment, the effective marginal tax rate is slightly higher than what is expected from residential aged care recipients.

Table F7-5: Funding of Commonwealth community aged care programs (annual)

  Income Av care cost Resident fee Government subsidy Provider revenue
Full pensioner $19,000 15,100 $3,325 $12,684 $16,009
Part pensioner $40,000 15,100 $13,378 $12,684 $26,062
Self-funded retiree $60,000 15,100 $23,378 $12,684 $36,062
Full pensioner $19,000 $43,630 $3,325 $41,449 $44,774
Part pensioner $40,000 $43,630 $13,378 $41,449 $54,827
Self-funded retiree $60,000 $43,630 $23,378 $41,449 $64,827

Source: Department of Health and Ageing (2009a) and Treasury calculations.


The current aged care system is complex, and the funding arrangements have several poorly performing features that affect the wellbeing of older people at a vulnerable time in their lives.

Means testing of charges is not applied consistently. The difference in charging for accommodation in low-level and high-level residential care appears particularly inequitable. The difference in the provision of assistance across aged care in residential and community settings limits the choice of recipients. Where funding sourced from wealthier recipients cross-subsidises the care of others, as occurs in community aged care, providers have poor incentives to deliver care efficiently and less well-off recipients' access to care can be harmed.