The legislative move to encourage innovation in retirement income streams is a recognition of two key facts. We’ve done a great job of accumulating retirement capital. Yet our system has not helped Australians use these assets optimally.
Many retirees are more fearful and conservative than they need to be and as a result, too many live lives less rich than they could.
“Governments want people to spend in retirement,” says AMP’s Head of Technical Strategy John Perri. “It’s good for the retirees, it’s good for the economy, it closes the loop on the whole mission of our super system. The product innovation the 2017/19 changes was meant to unleash is now coming through – and that should mean a better, more enjoyable retirement for many.”
A better today, a better tomorrow
Chief among these innovations is a new generation of market-linked lifetime income stream products that offer a guaranteed but variable income, for life. Perhaps just as importantly, they can ‘front-end’ income payments so that retirees have more income to enjoy in the active years of retirement.
Let’s look at the other benefits of these market-linked lifetime income streams.
Pooling to spend
Putting a reasonable amount of capital into a market-linked lifetime income product can generate a higher income for the retiree because it uses the power of ‘pooling’.
Like compound returns when accumulating wealth, pooling is like magic in the way it generates value for retirees, allowing for less conservative investment and higher levels of income.
The advantage of the new breed of market-linked lifetime income streams is that they provide the benefits of pooling risk and return without locking away capital in a life insurance vehicle. Advisers can still provide a personalised service and add significant value through ongoing management of the investment strategy within the income stream.
A Michigan University study of over 20,000 US retirees found those with a secure income – for example via a lifetime income stream – enjoyed greater life satisfaction (regardless of different wealth levels)1. Knowing they have a regular income to supplement or replace the age pension, retirees can afford to enjoy their retirement – psychologically as well as financially.
Age pension access
A crucial element of the Innovative Retirement Income Streams regulation is the Social Security treatment of these products. Only 60% of the purchase price of lifetime income streams count as an asset for the assets test. After age 84, that number drops to 30%. Only 60% of lifetime income counts under the income test. And by deferring the income in retirement or purchasing a lifetime income stream pre-retirement, the asset-test advantage can be even further enhanced.
Fixed-income, variable income
Fixed-income annuities have a long history in Australia, while market-linked lifetime income accounts are relatively new. Fixed-income annuities offer predictable lifelong income that means retirees can have vital clarity around their budget. The downside? The income generated can be low, because fixed-income annuities require significant capital reserves and moderately conservative investments.
Market linked solutions offer retirees access to potentially higher income as a result of their exposure to growth assets. The trade-off for that potential extra return is the variability of the income stream. Will retirees accept that variability?
A solution but not the whole solution
Market-linked lifetime income streams aren’t the complete retirement income solution.
“A lifetime income account means you reduce access to some capital and have less flexibility when it comes to estate planning. But it guarantees income until death, can improve age pension eligibility and offers a pathway to higher lifetime income,” says Ben Hillier.
“That dovetails neatly with an account-based pension (ABP), where you get the flexibility of access to your capital and the ability to will any balance to your family or estate. Even better, by opening a lifetime solution pre-retirement, this capital trade-off can be reversed, because the vastly improved Centrelink outcomes mean the account-based pension last longer – providing higher inheritances for longer.”
Strategies that link ABPs and lifetime income streams are likely to deliver powerful synergies, an idea recognised many years ago in the Australian Government Actuary’s submission to the Financial Services Enquiry. It argued a combination of lifetime income streams with account-based products could deliver 14-31% higher incomes than an ABP solution alone”.2 According to Ben Hillier, advisers using a combined ABP/market-linked, lifetime income stream strategy are seeing income increases averaging around 50% for clients.
AMP’s guide to retirement income
This is an edited chapter from Retire with Confidence – AMP’s guide to the new world of retirement income. If you’d like to read more, download the full paper here.
North will be launching a retirement space within Ensombl in the coming weeks providing resources to help you assist your clients and answer your retirement questions.
1. Actuaries develop a framework for maximising retirement income, Jim Hennington and Andrew Boal, Institute of Actuaries, April 2022
2. Financial System Inquiry, Final Report, Australian Treasury, 2014 (Modelling by the Australian Government Actuary for the Inquiry)
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