Earlier this week, thousands of aged care workers went on strike in two states in a stand for better pay and working conditions.

Demands for pay rises for aged care workers – who earn an average of $23.76 per hour – have risen during the current election debate.

Labor, if elected, has promised to make a submission to the Fair Work Commission (the body responsible for setting Australia's minimum wage) to back pay rises based on increased skills.

The Morrison government on the other hand has said it will let the commission decide, and has not mentioned anything about making any additional submissions. 

Whichever government wins in the upcoming Federal election will face a considerable challenge: developing a sustainable aged care funding model.

“The Labor policy would address some of the issues and appears more willing to rectify the issues of neglect in the aged care sector, including the staffing issues and improving the pay of aged care workers,” explained Michael Sherris, Professor in the School of Risk and Actuarial Studies at UNSW Business School.

“The Aged Care Royal Commission highlighted the issue with staffing and conditions but the current government, although adopting many of the commission recommendations, did not accept those that would have brought more funding into the aged care system,” he said.

See more: At the heart of the broken model for funding aged care is broken trust. Here's how to fix it

While the Fair Work Commission has recently decided to require two hours of work as a minimum (rather than the current one hour) to try and cover costs such as travel costs, this is unlikely to improve care, said Prof. Sherris.

“What is needed is higher pay and more workforce planning to ensure minimum needs in residential care,” he said.

But where will all of this extra funding come from?

Prof. Sherris recently outlined his considerations for a more sustainable aged care future at the 29th Colloquium on Pensions and Retirement Research, co-hosted by the Centre of Excellence in Population Ageing Research (CEPAR) and the School of Risk & Actuarial Studies.

“Obviously, we're all familiar with the sustainability issues... We expect aged care costs to increase just as the population ages,” he said. “Even in the current climate, we have constraints on the financing of aged care from the government.”

Michael Sherris

“What is needed is higher pay and more workforce planning to ensure minimum needs in residential care,” says UNSW Business School's Michael Sherris. Photo: Supplied

The aged care funding shortfall

Research has shown that Australia spends around 1.2 per cent of GDP on aged care, well below the OECD average of around 1.5 per cent, and much lower than some European countries.

What are Australia's funding models in aged care? There are three types of funding models available: the Commonwealth Home Support Programme (CHSP), Home Support Packages (HSP), and Private Funding. The Australian government-funded aged care services include in-home care, residential care in aged care homes, and short-term care such as respite care. 

But within all of these models, there is a myriad of systemic issues, that were uncovered in the Final Report of the Royal Commission into Aged Care Quality and Safety (2021).  

Australia's aged care funding model

The Commission compiled exhaustive evidence of systematic failures in the aged care system, identifying inadequate government funding, undervalued and precarious employment arrangements, and the conflicted incentives of private for-profit providers in causing a crisis in care.

The report showed at least one in three people accessing residential aged care and home care services have experienced substandard care, often due to overworked providers. In addition, the data revealed 50 per cent of the aged care facilities have inadequate health professional staffing levels.

The final report recommended comprehensive reform of the aged care system, one that would:

  1. Develop a new aged care Act using a rights-based approach

  2. Enhance aged care governance, including new independent oversight

  3. Ensure care is safe and of high quality

  4. Finance an entitlement to high-quality care based on need

The report outlined the need for additional funding in the short term and long term to provide an adequate level of aged care quality for older Australians.

So where exactly will this funding come from? 

Sustainable financing of aged care requires a balance between government tax-based financing, individual contributions during working life through an aged care levy, co-payments for aged care costs for those receiving aged care, and means-testing for these co-payments, said Prof. Sherris.

But importantly, he said there also needs to be a role for private market insurance and financing to supplement government-financed aged care support.

The government is currently in its first year of a five-year-long $18.8 billion aged care reform program – which includes the new Australian National Aged Care Classification (AN-ACC) to replace the Aged Care Funding Instrument (ACFI) from 1 October 2022 – there is also scope to fundamentally change the way aged care services are acquired and provided.

So whichever government takes the reigns, there is a chance to fundamentally change the future for millions of Australians, hopefully for the better. With this in mind, here is what Prof. Sherris is proposing.

Seven considerations for a sustainable aged care funding model

1. An integrated insurance-based model. First, an integrated insurance-based model – for the assessment of, and payments made to, fund home care needs – while recognising the importance of different mixed means of care support (the mix between home care and residential care).

2. Means testing for co-payments. Equitable and sustainable means-testing for co-payments while receiving aged care integrated with the age pension should also play an important role in Australia's future aged care funding models. Currently, asset tests are inconsistent and too confusing for the age pension and the aged care system, said Prof. Sherris.

3. A lifetime cap to limit moral hazard. Co-payments and incentives to limit moral hazard (or the incentive for individuals to seek higher amounts of care than they actually need) with a lifetime cap. Means-tested co-payments also increase the individual funding available to support improved aged care, increase the equity in funding and limit moral hazard. Lifetime caps, at higher levels than currently, limit the impact of catastrophic care costs when individuals contribute through co-payments, explained Prof. Sherris.

4. Integrated aged care financing. Integrated aged care financing with retirement income and health financing should also be present. Currently, retirement products like account-based pensions are projected to run out before a person even reaches the point when they need aged care.

“There are products such as life care annuities that can be designed to better capture the risks in retirement income products, including additional funding when you need home care,” explained Prof. Sherris.

5. Balancing intergenerational equity. There is also a need for balancing intergenerational equity with government PAYG financing from consolidated revenue, contributions from individuals during their working lives, and means-tested co-payments from individuals for care costs.

Sustainability of funding requires a balance between contributions from either PAYG taxes or individual contributions from an Aged Care levy during working life and any means-tested co-payments, to recognize intergenerational equity, explained Prof. Sherris.

6. Actuarially based funding with regular actuarial reviews. This would mean having a regular actuarial assessment of long-term costs and sustainability of funding provides an assessment of risks and alternative financing for the aged care system.  

7. Private insurance. Finally, Prof. Sherris said there should be an option for private market insurance and financing mechanisms for individual co-payments and aged care costs, including living accommodation during residential care.

See more: Ageing in place: home is where our heart and health is

“There is a potentially large and undeveloped opportunity to allow individuals to provide additional funding and certainty for their aged care risks through innovations in private market products,” said Prof. Sherris.

However, he acknowledged that these products would only be sold to those hitting retirement who meet "healthy underwriting standards".

"The payment triggers often differ a little bit from the way the aged care system works… and obviously, these are not going to be for individuals who are not in good health and not wealthy enough to afford the premiums,” explained Prof. Sherris.

That is why a well-financed and sustainable government aged care scheme is critical for the majority of Australians. Products that provide cost-effective solutions – an area that Prof. Sherris is researching – could include innovations like mutual risk-sharing pools, life care annuities, and government-provided products, which build on the existing Home Equity Access Scheme.

Such products (already provided in other countries) would improve Australia's retirement financing system, concluded Prof. Sherris.

Michael Sherris is a CEPAR Chief Investigator, Director of Industry Engagement, and a part-time Professor of Actuarial Studies at UNSW Business School. His research sits at the intersection of actuarial science and financial economics and has attracted several international and Australian best paper awards.