Jim Hennington is a good actuary and like a good Aussie, he tells it how it is. We all know the Australian Super system is a mature DC pension savings system, much more mature than the UK’s.
In this article, Jim talks about the problems Australia’s having getting the balance right between spending and scrimping in retirement.
Almost a quarter of Autstralians aged 75 to 79 have run out of savings.
Recent research from National Seniors Australia indicates that almost a quarter of seniors aged 75 to 79 have run out of savings and this increases to almost a third for those aged over 80. A typical household has two or three sources of income in retirement including: the Age Pension, income from superannuation and income from non-super investments.
The Age Pension is significantly less than what ASFA deems a ‘modest’ standard of retirement. It covers basic living costs but includes no budget for things like home maintenance, household items, any creature comforts, health insurance, running a car or holidays.
Balancing the scales
For those wanting a lifestyle that’s higher than the Age Pension, a complex balance needs to be met between how much they spend now and preserving some assets for spending later in life. Retirement savings ideally should be managed with great care and vigilance. If you spend too much early in retirement you risk running out later in life and becoming a potential burden on family and loved ones. But if you’re too frugal you may not get to enjoy the retirement you saved hard to secure. The balance needs to be ‘just right’.
The superannuation product typically used by retirees to manage the balance between spending and capital preservation is the Account Based Pension (ABP). With an ABP your superannuation remains invested in the investment option of your choice and you simply draw down on your account balance for income. The level of income you take is subject to a minimum percentage of your balance each year. The minimum is 4% of your balance for people up to age 65 and then steps up at key age bands to peak at 14% for those aged 95 or more.
ABPs, and their predecessor the ‘allocated pension’, were designed around 1992 – with the purpose of providing an income that broadly reflects a CPI linked lifetime pension up to age 80. However, for many retirees their ABP has not and will not deliver anything like a CPI linked income for the whole of their lifetime.
Two major risks of an ABP
Market risk – ABPs carry considerable market risks and if your actual investment returns are less than the amount you are required to draw, then you’re actually spending your capital. If you live to 95, the spending power of the income from the ABP can drop to around one third of what it was at age 66.
Longevity risk – Longevity risk is increasing, and this is a problem. Particularly given that more and more retirees are living well into their 80’s and 90’s now. As an indication, a healthier[1] 65 year old female today has a 50% chance of dying between age 92 and 110. Taking into account that most retired households have a female member, it’s a fair question to ask – has Australia outlived the ABP?
Making sure your retirement income lasts for life
The 2015 Financial Systems Inquiry recommended legislative changes to allow and incentivise new types of retirement income products to solve this critically important problem for all current and future retirees. From 1 July 2019, these products will receive highly advantageous treatment under planned Centrelink means testing rules.
The options a retiree has for retirement income now include:
The Account Based Pension As you can see the product carries significant risk including the risk of capital running low or savings running out.
- A Traditional Lifetime Annuity. For highly risk averse retirees, this product lets you use your super to purchase a guaranteed, fixed annuity income from an insurance company.
- A Real Lifetime Pension. This is an investment linked lifetime income stream that’s guaranteed to last for life but where the payment level is linked to the performance of the professionally-managed investment option you select.
So, for those retirees wanting a lifestyle that’s higher than the Age Pension there is now a range of options available to deliver the level of financial security they need. This can help retirees proactively enjoy their retirement and remove the fear they only have the option of trying to exist on the available funds an ABP provides.
So there you have it
If you want a picture of where the UK is heading . look to Australia, and Jim’s full full article on research of National Seniors Australia which can be found here.
