Elayne Grace
Superannuation funds will soon get more ‘hands on’ with helping members convert their super into retirement income once the new Retirement Income Covenant (RIC) takes effect, according to a paper issued today by the Actuaries Institute.
The paper, from senior actuaries Jim Hennington and Andrew Boal, is designed to help the superannuation industry to navigate the Covenant, which puts the onus on super funds to develop a strategy for members who are retired or close to retirement.
In their Dialogue Paper[1], A Framework to Maximise Retirement Income, the authors have developed a framework to help meet what they see as a gap in clarity for superannuation trustees.
Difficulties arise for fund members in the group they call middle Australia – retirees who want a lifestyle more than that provided by the Age Pension, with extra spending during the healthier years of early retirement, but who do not want their super and investment income to run out before they die.
“When you retire, your salary or wage stops. From that point on, you need to fund your lifestyle using your own savings plus any Age Pension income that you might become entitled to,” said Hennington.
“For very wealthy people, this might be easy. 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.”
“Applying this over what could be a 30-year time frame in retirement is complicated and requires new thinking. Trustees will have to be more hands-on and not leave the lifespan risk issues to members,” he said.
The paper outlines metrics that can be used by trustees to determine period of retirement end date, safe retirement income, expected retirement income and retirement income risk. It shows how drawdown strategies based on the period of retirement ending at a fixed age do not maximise members’ retirement incomes.
“This starts to raise the question: How can superannuation funds measure retirement income when we do not know how long that income needs to last?”
Under changes to superannuation legislation enacted in February 2022, trustees must put in place a retirement income strategy and publish a summary by 1 July 2022.
The strategy must outline how they will help members who are retired or nearing retirement, balancing three main objectives:
- maximise their expected retirement income
- manage expected risks to the sustainability and stability of their expected retirement income, and
- have flexible access to expected funds during retirement.
Hennington said “the RIC puts the onus on the super fund to help members balance their risk versus having higher expected income. Many retirees may be willing to take some investment risk and/or longevity risk to increase their retirement income.”
The paper argues that trustees could use a CPI-indexed lifetime income stream product (annuity), similar to UK pension fund projections, as a benchmark for risk versus reward decisions. These products represent a ‘safe’ option available for members to convert super into income that lasts for life.1 The pooling of longevity risk that occurs with lifetime income streams and annuities, can enable a higher than otherwise annual income to be delivered for each member for their lifetime.
The Government’s earlier Financial System Inquiry and Retirement Income Review observed retirees can combine new types of products to generate up to 30% more income. For example, an investment-linked lifetime income stream could simultaneously:
- deliver higher expected income, and
- do this without any increase in the risk of outliving their savings.
When a superannuation trustee decides how much risk ‘middle Australia’ members can be exposed to in retirement, they should consider the impact of those risks and, in particular, understand how much downside would cause a detrimental effect on the retiree’s standard of living.
Elayne Grace, Actuaries Institute Chief Executive, said: “having a robust and effective retirement income system is crucial for the wellbeing of all Australians.”
“The passage of changes to super legislation, to give effect to the retirement income covenant, was a significant milestone in providing retirees with a reliable, secure and adequate income, with the aim of enabling retirees to live with dignity in retirement.”
“Actuaries play a hugely significant role in providing guidance on models to deliver this outcome,” Ms Grace said.
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