The Actuaries Institute of Australia argues deferred lifetime annuities should be exempt from the age pension asset test to encourage more retirees to take them up, either as standalone products or as part of a ‘MyRetirement’ solution offered by their super fund.
Since the introduction of compulsory super 25 years ago, the Australian defined contribution retirement system has developed into one of the world’s best. People are now retiring with a meaningful amount of superannuation, but retirees are still either taking a lump sum or using an account-based pension to manage their spending in retirement.
Unfortunately, neither of those approaches is as efficient as it could be. While investment risk and inflation risk are important and need to be considered, the biggest risk retirees face is longevity risk. Retirees are concerned about running out of money before they die, and because they don’t know how long they will live, most live more frugally than necessary
by drawing down their account-based pension at the minimum level.
The Actuaries Institute supports any effort to change the underlying narrative away from a focus on the accumulated lump sum at the time of retirement to providing an income throughout the retirement years. This starts with a communication plan to educate members about how much superannuation they will require in order to meet their spending needs in retirement, including benefit projections provided to all members during the accumulation phase and expressed as an expected amount of income in retirement.
We also need financial products that help retirees manage longevity risk more efficiently. The good news is that, from July 1 this year, the regulatory environment will be much more supportive of product innovation, including for deferred lifetime annuities (DLAs). The one remaining piece of this regulatory puzzle is how DLAs will be treated for the age pension means test. Given the behavioural biases against pooled longevity products, there is a good argument that the means test treatment of DLAs should be mildly attractive to encourage their uptake. For example, given the insurance nature of a DLA, its capital value could be 100 per cent exempt from the assets test.
Transition to retirement
Finally, we need all superannuation funds to have an appropriate framework to help manage the transition of their members into retirement. Amongst other things, a retirement income governance framework should meet the government’s requirements for a comprehensive income product for retirement (CIPR) as outlined in Treasury’s consultation paper released in December 2016. It needs to provide the flexibility to meet the varying needs of different members, generate a broadly constant level of income for life, and provide a level of income above what a retiree would
get from taking the minimum amount permitted from an account-based pension.
It also needs to consider the role pooled longevity protection products can play in giving members the confidence to draw down on their capital throughout retirement, rather than preserving it as a safety net. However, offering longevity protection products does increase the level of complexity and members will take some time to become properly informed about their benefits and risks. In addition, the product landscape is still immature, and the volume of assets in the decumulation phase is relatively low.
If not, why not
There is public interest in ensuring that any changes introduced meet members’ needs in retirement, including by taking
into account their changing eligibility for a part or full age pension as they draw on their assets. A failure could seriously damage consumer confidence, which is why the Actuaries Institute recommends that we adopt a cautious approach to the introduction of the new CIPR (or “MyRetirement”) regime.
It should not be compulsory to offer a particular type of retirement income product until we see how the market develops and how members and their advisers respond. Instead, an ‘if not, why not’ approach could be introduced, in which funds would be required to justify the appropriateness of their retirement income products for their members and, in particular, why longevity protection products have or haven’t been included.
Andrew Boal is chair of the Actuaries Institute’s retirement strategy group. He is also regional head of Australasia at Willis Towers Watson. This column first appeared in the July 2017 print edition of Investment Magazine. To subscribe and have the magazine delivered CLICK HERE. To sign-up for our free regular email newsletters CLICK HERE.