To counteract longevity risk superannuation trustees will have to consider basing their retirement income strategies on “risk free” streams, according to a report from the Actuaries Institute, which suggests a combination of annuities with account-based products.
The Actuaries Institute released it’s ‘A Framework to Maximise Retirement Income’ report this week which analysed how trustees will need to navigate the Retirement Income Covenant, particularly when it comes to servicing “middle Australia”, which covered those that aren’t super wealthy but wealthy enough to not rely on the Age Pension.
Deloitte actuarial consulting partner Andrew Boal, co-author of the report, tells Professional Planner using low risk products as the basis of a retirement income plan would “turn everything on its head”.
“Rather than starting with the status quo of an account-based pension, let’s flip it and start with an inflation-linked annuity.”
Inflation-linked annuities are the “risk free” way to fund a retirement, which makes it the perfect foundation, Boal says. From there, it’s then possible to take on some longevity or investment risk if it suits the circumstances.
“At least people can have a decent conversation about why they’re taking on extra risk and what might happen as a result,” he says. “If you start with that approach you have better compensation for retirement.”
Starting with an annuity meant retirees have a guaranteed lifetime income and the combination of an account-based pension could be drawn down more aggressively early on in retirement.
Boal says this gives retirees confidence to spend more of their money early on in their retirement.
“At the moment the minimum drawdown is five per cent. If you have some of your money annuitised people can have the confidence to draw down six to 7.5 per cent in that first decade of retirement.”
However, research from the Melbourne Business School found that annuities are not benefitting from current advice business models and consumers are often intimidated by the complexity of the product.
Middle Australia
At the heart of the conundrum the Actuaries Institute is trying to solve is a cohort described as “middle Australia”, which is defined as those who aren’t wealthy enough to cruise through retirement but aren’t on a low enough income to qualify for the Age Pension.
“For very wealthy people, [retirement] might be easy,” the report stated. “For those on lower incomes, it can also be straightforward – if they are managing on the income provided by the Age Pension. But for many people in between, which we refer to here as middle Australia, the maths to get this right is really difficult.”
The Retirement Income Review final report defined this cohort as earning between 30 per cent and 80 per cent of the income distribution.
In 2020 about 65 per cent of Australians retired with less than $250,000 in super, while about 25 per cent had between $250,000 and $750,000 (although these figures are for individuals).
The report also noted the system is yet to fully mature and the super guarantee only reached nine per cent in 2002.
“Over the next 20 years, these bands ($250,000 to $750,000 in today’s dollars) will reach about 50 per cent of retirees consistent with the Retirement Income Review definition. With around 5.4 million Australians currently aged between 55 and 75, the number of retirees in this cohort is expected to grow significantly over the next 20 years.”
Research from Challenger last December found only 40 per cent of people expect a comfortable retirement.
