How is your Retirement Income Strategy coming along?
With the 1 July 2022 deadline for funds to formulate a retirement income strategy approaching, trustees have their heads down trying to better understand their members and consider product offerings and tools to improve their retirement outcomes.
Retirement Income Strategy Objectives
The central focus of the Retirement Income Covenant is a requirement for superannuation fund trustees to prepare, implement and review regularly, a retirement income strategy for the retired members of their fund and for the members approaching retirement.
This strategy must show how the trustee intends to assist ALL their members: those with high balances and low ones; those retired, in Ill-health or ailing, to achieve the objectives listed below.
- Maximising retirement incomes
- Managing risks to the stability and sustainability of retirement income (including longevity risk and investment risk)
- Providing flexible access to savings during retirement, and
- Balancing all of the above!
Some things for trustees to consider
1. Maximising retirement incomes
It is significant that the first objective, “Maximising retirement incomes”, does not refer to any given year or specific period during retirement. Instead, it is a cumulative concept across the whole of retirement. In this context, trustees must now consider that the income needs to apply to the lifetime of the member (and possibly spouse). At present, the most common retirement product used by funds is an Account-Based Pension (ABP). By itself, this is unlikely to meet this objective, as the income from an ABP can significantly reduce over time and potentially run out.
Trustees will need to consider that retirees need to be confident that their retirement income will last as long as they do.
2. Managing Risks
The question of longevity risk is key to developing the basis on which trustees can rely to develop their strategy. Funds without a pension division have very little experience or data related to their members’ longevity. The RIC states, “This should be based on information the fund has on their membership” (as is the case for group insurance). However, the only data relevant for group insurance relates to those who have died while still working, which is not a sound basis for judging the life expectancy for those who reach retirement age. There may be some data on the number and ages of Account-Based Pensioners who have died, but this will no doubt be limited.
In addition, where trustees provide advice, it is most common that they use planning software that uses the Australian Life Tables (ALT) to predict life expectancies. In some cases, planners may add a few years to the estimates ‘to be safe’. A better measure would be to use the ALTs that allow for improvements, like the basis used in the Optimum Pensions Lifespan calculator. Give it a go.
The risks to stability and sustainability are key to developing a sound retirement income strategy. Trustees have had considerable experience developing sustainable investment strategies for the accumulation phase. Given the requirement that the retirement income should last for the life of the member (and possibly a spouse), they will need to pay more attention to the timeframe required to support income for this timeframe. It is worth noting that an approach that reduces risk and income as a person ages may not be the best strategy, especially in the early years of retirement.
3. Providing flexible access to savings during retirement
Any retirement strategy developed by a trustee needs to provide flexibility in several areas and access to savings is an integral part of such a strategy. Most trustees currently offer an ABP with access to savings – that is, until it runs out – which unfortunately may be before a person dies.
For this reason, an ABP can remain part of a retirement income solution, but reliance on this as the only option is flawed as it does not necessarily provide a lifetime income.
4. Balancing it all
It sounds simple but is one of the most challenging aspects for a trustee to determine when developing a retirement income strategy. The needs of individual members are quite varied and trying to create a solution that fits a particular cohort will still need to be flexible. One approach would be to assign members to different cohorts. Still, a smarter approach could be to develop different strategies so that members will be able to select which best fits their circumstances at their time of retirement.
To develop an appropriate retirement income strategy, trustees will need to model the impacts of the various factors on different segments of their membership.
Amongst many unknowns, whether members have a partner, own a home, have additional retirement income or assets, what is known to trustees is their members’ age and account balance.
For this reason, it is essential that modelling allows for the unknown factors and that they are considered when testing different outcomes that demonstrate how income can be maximised whilst balancing it with access to savings.
Optimum Pensions has already developed an actuarial model that would allow superannuation funds to undertake this type of analysis, and we will work with the trustee to help them identify suitable solutions for their members.