A new rule-of-thumb which allows members to quickly estimate their guaranteed income in post-retirement has prompted them to save more, Andrew Barnett, general manager, retirement solutions, MLC has said.
The rule takes a members’ account balance, divides it by 10, and then divides the answer by two (five per cent) to give the guaranteed income per annum if the member was to retire on that balance. For example, a $200,000 account balance gives a guaranteed income per annum of $10,000.
“We’ve seen instances where if you put a projected income on their annual statement, and it looks like the ten-two rule, that prompts them to contribute more,” Barnett said.
According to MLC research 51 per cent of the population in the accumulation phase is expecting to outlive their savings.
“There’s an approach here in Australia, but also globally, where we try and simplify planning,” said Barnett. “We talk about average life expectancy and we talk about average market returns being 8 per cent, and then we extrapolate out and have a rainbow approach, and in general those plans work out. But when you account for market risks or longevity risks you can come up with very different results, so it’s important to consider risk in retirement and not just these averages.”
The rule has also been effective at exposing the wealth illusion – where people think they have a very large lump sum, but when the maths is done it comes out with generally less than they were expecting. For example, someone with a $750,000 account balance at retirement will have a guaranteed income per annum of $37,500.
The creation of the rule has drawn on research by Professor Michael Drew, Griffith University, who has examined the pattern of returns of a 30 year investment over a century. He calculated the baseline of sustainable withdrawal rate to be around four per cent but cautioned in his 2014 report ‘How Safe are Safe Withdrawal Rate in Retirement? An Australian Perspective’ that this is not a silver bullet.
Additional research conducted by MLC revealed only 16 per cent of the respondents would not consider taking out an annuity (giving the guaranteed income of 5 per cent) but the vast majority, 70 per cent, could not name a particular annuity provider demonstrating a significant knowledge gap, according to Barnett. Australians already have a variety of assets and income streams to support themselves in retirement.
“Credit Suisse reports we have the highest median net worth in the world, but 64 per cent of it is in property, so to some extent funding retirement will involve crystallising some of that asset,” Barnett said.
Currently the ten-two rule is primarily being passed down through financial planner, who, according to Barnett, are an effective channel to engage with members and increase financial literacy. He is supportive of the FSI recommendation to have a projected income stream, based on projections similar to the ten-two rule, on annual superannuation statements, but feels it needs be adopted across the industry.
“The ten-two rule a simple tool, but it promotes people to think about the dimensions of the risk,” he said.
