Developing retirement solutions is the next big challenge facing the superannuation industry. The Position Paper for the Retirement Income Covenant (RIC) is open for consultation, with the RIC on track to take effect from 1 July 2022. The intent of the Covenant is to “codify the requirements and obligations of superannuation trustees to improve retirement outcomes for individuals”. It will require funds to develop retirement income strategies.
The RIC is principles-based with little prescription around what products and solutions should look like. However, trustees need to assist members balance three retirement income objectives:
- Maximise retirement income
- Manage risks to stability and sustainability of income
- Have some flexibility to access savings in retirement
The RIC is one component that will shape the retirement choice architecture. This article summarises our research exploring what can be done to ensure that all retirees find their way to a suitable retirement solution, allowing for considerable variation in the willingness and capacity to engage with financial decisions. The full paper is available here.
Will some retirees be left behind?
The government has indicated that it wants informed choice as the foundation of the retirement system. This contrasts with accumulation where defaults play an important role. MySuper, whether used passively or actively, makes up nearly 60 per cent of assets. The Your Future, Your Super measures will have a mixed impact on engagement. Performance letters and the ATO’s YourSuper comparison tool will likely increase engagement. But stapling could reduce engagement, and encourage the concept of a ‘default service provider’.
Individuals may select a retirement strategy for themselves in different ways. They might access information and decision support tools such as interactive financial calculators, which could be made available by their fund or other providers (perhaps ASIC MoneySmart). Or they could take guidance from financial advisers. Eventually, digital advice might play a more substantial role.
We are worried that a purely choice-based architecture may not work well for all retirees. Thrusting members into an environment where they need to choose for themselves after they retire gives rise to a number of issues. Here, the willingness and capacity of members to engage with financial decisions is an important concern. Research finds that most individuals have relatively low financial literacy. They can also be subject to various behavioural influences that may lead to sub-optimal decisions. This includes difficulties in processing information, anchoring on obvious choices, myopia and cognitive decline with age – just to name a few.
The difficulty of exercising choice in retirement is only compounded by the complexity of the problem. Managing finances in retirement requires deciding where to invest and how much to draw over a few decades; while accounting for other assets and income sources such as the Age Pension. Market returns are uncertain; and people don’t know how long they will live. The difficulty will be further exacerbated by a likely proliferation of available retirement products.
The hurdles to effective self-choice might be overcome if people were willing to seek professional financial advice. Unfortunately, this is not likely to provide a solution for the masses. A full Statement of Advice reportedly costs $3,000 to $4,000: a price that many retirees are not willing to pay. Further, the financial planning community is constrained in providing advice at scale. Personal advice is time-consuming, and adviser numbers have fallen sharply post the Royal Commission.
Protecting retirees who struggle with choice
We think that adding two mechanisms would improve outcomes for some retirees:
- Giving retiring members the option to request that their super fund selects a retirement solution on their behalf. We call this ‘fund-guided choice’. The selection could be framed as the recommendation of a retirement solution that the member can decide to accept or not. Alternatively, the member could request their fund to assign them to a solution. We strongly suspect that many retirees might welcome the opportunity to ask their fund to make a selection for them, which would be closer to what happens prior to retirement while still retaining choice.
- Establishing a means of addressing members who don’t make a choice, perhaps because they are heavily disengaged. At a minimum, the fund might continue to attempt engagement. It might also be helpful for funds to have the scope to assign members to a default retirement option under certain conditions, potentially with the ability to opt-out.
A retirement choice architecture that looks after all retirees
A broader choice framework might operate through funds asking retiring members to make a simple election as characterised in the figure below. The election of option A or B invokes fund-guided choice, which might be followed by an invitation to furnish additional information to assist the fund to select a suitable solution. The menu of options might be supported by the provision of general and product information and various decision tools. When members don’t make a choice, option A might apply as a default.
Choices that might be put to a retiring member by their fund
|Please choose one of the following options:|
|A. Please assign me to a retirement solution||○|
|B. Recommend a retirement solution to me||○|
|C. I want to choose a retirement solution for myself||○|
|D. Please refer me to a financial planner||○|
Note: A prior step would establish the balance that the member wishes to transfer into a retirement solution with their fund
The framework we suggest could be achieved through placing obligations on fund trustees to engage with members at retirement to establish their preferred mode for choosing a suitable retirement solution, and then giving effect to their choice. These obligations might be included in the Retirement Income Covenant, alongside the requirement to develop retirement income strategies. Doing so should ensure not only that funds develop retirement solutions, but also that retirees can engage with the selection of a suitable solution in the way they feel most comfortable.
David Bell is executive director of the Conexus Institute and Geoff Warren is an associate professor at Australian National University.