Chris Forrest- Senior Partner and Principal Adviser
Sovereign Wealth Partners
Over two articles we will be looking at how prospective and current retirees can have more confidence in having a retirement income stream that will last their lifetimes. Properly planning for retirement provides the confidence to enjoy retirement without underspending for fear of running out, only to leave a large estate at the cost of foregone lifestyle. We will look at what you need to plan properly, the current world of solutions and the new world of solutions coming to market.
Part 1 – Know thyself
A fortunate few have sufficient wealth that they have no worry about the longevity of their capital in retirement.
This is not the position of most.
The most common concern we hear from retirees and prospective retirees is, will my retirement income last?
The concern comes primarily from uncertainty:
- Uncertainty of future returns;
- Uncertainty of future health and associated costs;
- Uncertainty of the potential need to fund care in the home or aged care accommodation (especially for couples); and
- Uncertainty of the need to assist family members.
to name a few.
Alongside this, there is the desire to enjoy retirement as long as good health and fitness prevail.
This might sound a little like “I want it all!” – and fair enough. Who doesn’t?
How might you “have it all”?
There are three main things to consider when considering longevity in retirement:
- Knowing your expenditure – you have your everyday expenses and you should have a good grasp of these. This is your basic annual budget requirements. I can’t stress enough how important it is to have a realistic figure – there’s no ‘right’ figure, there is only your figure. I’ve never met anyone who likes a budget but having a good grasp of your expenses is empowering;
- Large one-off expenses – outline what you might reasonably expect, and when, over time. Large trips, replacement of cars, assisting family members, aged care accommodation and so on.
- What type of estate you wish to leave – do you have an aspiration to leave an estate for your beneficiaries or a philanthropic cause?
Once these factors have been articulated, you’re in a position of power to plan for a worry-free retirement. That doesn’t necessarily mean you will “have it all” but you will know what you are capable of and how best to enjoy it with as much certainty as possible.
Part 2 – The lay of the land
Once you have worked out what lifestyle you want, you’re in a position to plan. That’s not to say it’s all set in stone, things happen, but you are in a position of control from which you can set a reliable trajectory.
Up until now, the retirement investment armoury has consisted of:
- Annuities – Perhaps the oldest tool was a lifetime annuity. You invest a fixed sum to guarantee an income stream indexed to inflation for your lifetime BUT there is no capital left at the end. There have been variations of the annuity product over the years but the one thing they all have in common is the interest rate on them is lousy.
- Account based pensions – formerly known as allocated pensions, they are your lifetime of super savings turned into an income stream. You have control over how the funds are invested, within a certain set of rules, and you must take a minimum pension each year. This minimum is a function of your age and the balance of your pension.
- Savings and investments – in the past, and to a lesser extent now, caps on contributions to super have left people to save and invest as best they can and live off these investments.
Of these, the dominant has been the latter two. As good as the superannuation system is, the downside was highlighted in the Government’s Retirement Income Review released in 2020.
One of the key findings was a behavioural bias of retirees. The intention of the super system is that account-based pensions are utilised, principal and earnings, over the life of a retiree. The outcome, however, is that uncertainty leads retirees to try to spend only the income from their portfolios and try to preserve the capital ‘nest egg’. Uncertainty leads to underspending and not necessarily enjoying retirement at full capacity.
There has been awareness of this for quite some time. In 2016, Treasury called on retirement income providers to develop new retirement investment products to address the lifetime of retirees. Some of these products have been developed and more will come to form part of the new world of retirement investing.
Part 3 – The New World
Account based pensions are truly terrific and will form the core of most, if not all, retirement planning. No solution should be regarded as the sole solution.
The new world of investments will enhance investor opportunities to create more certainty.
But don’t leap in before you understand what you’re in for. There are compromises.
The new world means you will have the option of complementing your account-based pension with investment products which:
- Guarantee you a lifetime pension
- Allow you to choose the return parameters of your investment
- A reliable, growing monthly income stream
There are pros and cons to each of these. Using them requires a change in the way you think about securing your retirement and careful planning is required to using them in tandem.
Our next article, Structuring a Secure Retirement Income, will specifically discuss these solutions and how they may be applied.