The long game
Financial advisers, super funds and politicians are all looking for a solution to the increasing longevity of Australians
There’s a simple reason why retirement strategies are becoming increasingly important – we’re living a lot longer than we used to.
There is also a simple reason why retirement income products are in the spotlight – the first batch of superannuants are entering the retirement phase. There is no previous generation preceding them to effectively benchmark the success of the superannuation system.
Human lifespan, as opposed to life expectancy (a purely statistical construct) is on the rise across the globe. While these extra years are an opportunity for those who are able to live them well, funding them poses significant challenges.
In his annual letter to CEOs this year, BlackRock chairman and chief executive Larry Fink touched on the issue of retirement and how he believes companies can take a leadership role.
“For much of the twentieth century it was an element of the social compact in many countries that employers had a responsibility to help workers navigate retirement,” Mr Fink says.
“In some countries, particularly the United States, the shift to defined contribution plans changed the structure of that responsibility, leaving too many workers unprepared. And nearly all countries are confronting greater longevity and how to pay for it.
“This lack of preparedness for retirement is fuelling enormous anxiety and fear, undermining productivity in the workplace and amplifying populism in the political sphere.”
In response, Mr Fink believes companies must embrace a greater responsibility to help workers navigate retirement, lending their expertise and capacity for innovation to solve what he describes as an “immense global challenge”.
“In doing so, companies will create not just a more stable and engaged workforce, but also a more economically secure population in the places where they operate.
Focus on retirement globally.”
In Australia, older people make up a considerable proportion of the population. Data from the Australian Institute of Health and Welfare shows that, in 2017, there were 3.8 million Australians aged 65 and over (comprising 15 per cent of the total population). To put this into perspective, there were 319,000 (5 per cent) in 1927 and 1.3 million (9 per cent) in 1977.
The number and proportion of older Australians is expected to continue to grow. By 2057, it is projected there will be 8.8 million older people in Australia (22 per cent of the population). By 2097, 12.8 million people (25 per cent) will be aged 65 and over.
Unlike America, Australia has a superannuation system. While this compulsory regime designed to fund our retirement has only been in existence for 25 years, it is already under tremendous pressure to evolve. The Australian retirement industry is undergoing significant changes, brought about by inquiries such as the banking royal commission and reports from the Productivity Commission.
It’s safe to say that far more effort has been spent on wealth accumulation, rather than the drawdown phase of actual retirement, which requires a steady income stream. However, this appears to be changing as demographics demand a greater rethink of retirement strategies, with a focus on income products that match the increasing longevity of our aging population.
Politics, policy and the retirement problem
In response to the financial system inquiry, the government agreed to support the development of more efficient retirement income products. In the Financial System Inquiry, these products were labelled comprehensive income products for retirement, or CIPRs.
Over the last few years the government has been working in consultation with the broader retirement industry to build a framework for CIPRs. As a result of these discussions, the government announced two stages of the Retirement Income Framework in the 2018-19 budget: a retirement income covenant, and the development of standardised, simplified disclosure for retirement income products.
The government released its ‘Retirement Income Covenant Position Paper’ in May 2018, which contained six proposals for ensuring that super funds consider the retirement income needs and preferences of their members. The government argued that the retirement phase of the superannuation system is currently underdeveloped and needs to be better aligned with the overall objective of the superannuation system of providing income in retirement to substitute or supplement the age pension.
However, the controversial Productivity Commission report into Australia’s superannuation industry, released in January of this year, took issue with the government’s plans. It recommended a reassessment of the benefits, costs and design of the retirement income covenant .
“The Productivity Commission’s report recommended a delay in introducing the retirement income covenant. It expressed concerns that the covenant may nudge members into products ill-suited to their longer-term needs,” says Morningstar analyst Chanaka Gunasekera.
“The commission is concerned that this requirement would force superfunds without capacity to create such a product to acquire it from a third party, such as Challenger.
“The commission is concerned there is currently few choices in the market for these products.”
More innovation required
The policies that have been put forward to date are effectively in response to changes in demographics. But while Australians are living longer and this needs to be addressed, the superannuation system has also been maturing, which means that people are retiring with more money.
“When you have more money, you are exposed to greater investment risks and other risks of altering the standard of living in retirement,” says Andrew Boal, chair of the Actuaries Institute’s retirement strategy group. “We now need products to cope with all of these changes.”
Mr Boal is also a director and fellow of the Association Superannuation Funds of Australia (ASFA), a group that recently urged the government to pass critical legislation that has been holding up the innovation of retirement income products. That legislation will determine the age pension means test.
“Age pension eligibility and the amount of age pension that is paid both initially and over time are critical inputs into retirement financial decision making,” it said. “While a variety of approaches are possible, ASFA considers that the new means testing rules have arrived at an appropriate trade-off between simplicity and neutrality in application to different types of retirement income products,” the association said.
In its submission to the Senate Economics Legislation Committee review of the government legislation underpinning the new retirement income products regime, ASFA argued that the current means testing rules are unclear in regard to their application to a range of innovative products. Certain existing and potential new product types appear to fall outside the scope of current means test rules.
ASFA says changes contained in the legislation are prospective and won’t lead to any adverse outcomes for people currently receiving payments from annuities and similar financial products. Moreover, to delay the passage of the legislation during the next parliamentary sitting would likely result in a pushback of the start date for the new means test rules.
“The proposed changes to the age pension means test for longevity products, like annuities, are important because without those changes there will be no innovation in the longevity space,” Mr Boal says.
One of the products that Mr Boal would personally like to see is a deferred lifetime annuity.
“Essentially you could buy the annuity somewhere between 65 and 75. The income doesn’t start to be paid until you are between 85 or 90. That makes it a lot more capital efficient. At the moment, when you turn 65 and retire, your life expectancy is about 20 years for a man and 22 years for a woman. Once you get out to about 85 or 90, you want that income protection,” he says.
“It is a far more efficient use of capital for retirement income purposes. But these products currently don’t work under the existing means test.
“We really need these rules in place so that insurance companies and their advisers can work on bringing new products to market later this year.
“Challenger has provided term annuities. They also provide lifetime annuities. But they have not been taken up in large numbers. There needs to be greater innovation.”
What’s currently available
Challenger has been a key player in the retirement space, with its flagship annuity products renowned as some of the few offerings of their kind available in the Australian market.
Angela Murphy, the group’s chief executive of distribution, product and marketing, says the retirement industry has been very focused on accumulation. This is not surprising, however; superannuation is still a relatively new concept and those retiring with super balances don’t have a generation to follow as an example of what works best.
“When superannuation was set up in Australia, it was very focused on people being able to save for their retirement. That part is working very well,” she says.
“It has really only been recently that retirees have started to retire with super balances. That timing, that shift, is really what’s driving the focus now on what happens in retirement. It is fair to say that retirement income strategies are nascent.”
While some may think that Challenger enjoys its position as one of the few providers of retirement income products, the group would benefit from more competition.
Ms Murphy says that the lack of annuity providers actually makes prospective customers sceptical of the product; more offerings from a greater number of providers would give them greater assurance, she said.
One of the most anticipated new products expected to hit the market this year is the result of a partnership between a life insurer and a fixed-income giant.
Back in May 2018, just days after the release of the federal budget, Allianz announced plans to deliver retirement income solutions to Australians with its subsidiary Pimco through a new business called Allianz Retire+ Powered by Pimco.
Innovation comes in many forms and doesn’t necessarily mean new products need to be launched.
“A lot of the innovation at Challenger has occurred within our existing product range,” Ms Murphy says.
“A number of customer and even advisers have a view of annuities that is fixed in the past. When we have conducted research, we have found that these groups often believe that with an annuity product you put your money into it and it generates a guaranteed income, but they think there are no death benefits. They believe that the retiree would therefore be unable to leave anything to their estate or dependents.
“A lot of the innovation that has happened within Challenger has been around responding to customer concerns and what we can offer around death benefits and withdrawals.”
The role of advisers
If the government believes CIPRs are the solution to funding Australians in retirement, then where do financial advisers fit in?
This is an important question to consider for an industry that is facing significant pressure to upskill and meet the needs of its older, longer living clients.
But last year the message coming out of the Treasury department was clear: advice is not necessary for CIPR products.
Speaking at the FSC Summit 2018, Department of Treasury division head for retirement income policy Robert Jeremenko said comprehensive income products for retirement (CIPRs) should be designed so clients won’t need advice to use them.
“The government wants to establish this in a way that the offer of a CIPR would not be financial advice, so that means we need to look at what the definition of intra-fund advice is going forward to accommodate that,” he said. “In and of itself, the offer of a CIPR is not financial advice.”
Critically, Mr Jeremenko said government would not be mandating that clients seek advice prior to their decision to take up a CIPR.
“The whole idea is to make sure [that they provide] the right amount of guidance to members and retirees such that they may not need to take financial advice; they can choose to but we don’t want to mandate financial advice within the taking up of a CIPR.”
In response, Rice Warner warned of a number of potential problems with the structure and implementation of the proposed CIPRs framework.
“We are supportive of increased member engagement to assist members to better understand how they can meet their financial goals in retirement, however, we are concerned that the paper states that trustees could provide this guidance without financial advice,” the company said.
Rice Warner said this kind of guidance should legally fall under the AFSL regime and consideration of a member’s personal circumstances should be dealt with by the member, not the fund.
Part of the problem could be the perception held by many Australians that financial advice is reserved for the wealthy.
According to research from Investment Trends, the number of Australians who actively use a financial planner for advice has been trending down. Over three million people used an adviser in 2009. Today that number has fallen significantly to 1.9 million.
“That means the average planner has about 109 active clients at the moment,” Investment Trends research director Recep Peker says.
The research found that the biggest barrier to seeking advice in Australia is a perception among consumers that they don’t have enough wealth to justify the cost.
“One of the biggest problems we’ve had for a while is that full financial advice is very expensive,” says Andrew Boal of the Actuaries Institute.
“Making it more accessible for people with lower amounts of wealth is something we have been trying to achieve with things like scaled advice and single-issue advice. If someone owns their own home, has superannuation and let’s say $10,000 worth of shares or even no shares; people in that situation are basically the same. They don’t need a $4,000 full advice plan. They just need to know what [to] do,” he says.
Plenty of work has been done by advisers and superannuation groups, which together have developed calculators that model retirement options. Mr Boal sees these initiatives continuing to improve and offset the expense of a full financial advice option for lower and middle-income retirees.
“I can see members of super funds going onto these calculators in their 50s and reviewing them every few years. They will then all see an adviser to double check that they are on the right track. It might cost them $300, rather than $3,000. I still think people will need to speak to someone before they press the button.”
Education and adviser attitudes
Education and professional development will become part of an adviser’s obligations as new retirement income products come onto the market.
However, the advice industry remains fragmented to a certain degree with some still fighting a war between ‘independent’ and aligned advice. Two camps have also emerged over the proposed FASEA education reforms, divided on whether these initiatives should be imposed on the industry.
Regardless of which side you’re on, most would agree that a unified industry works more efficiently and can be of better use to its customers than one distracted by in-fighting and short-sightedness.
It is also important that the customer’s choice be respected with regard to whom they ask for help.
In its 2018 Global Retirement Reality Report: Australia Snapshot, State Street Global Advisors asked 9,451 working Australians from a broad spectrum of age groups where they will look for help in deciding what to do regarding their retirement.
Over half (52 per cent) of respondents said they would consult their super fund. Just over 40 per cent said they would see an independent financial adviser, 38 per cent would visit their accountant and 25 per cent would turn to family and friends.
“The perception in parts of our industry is that a war needs to be fought between independent financial advisers and profit-for member superannuation funds,” the report’s authors noted.
“But we don’t see the need for a war – we just see the need for advice in whatever form it takes. We are seeing an almost equal willingness to seek advice from superannuation funds and from independent financial advisers; both have important roles to play. And the closer to retirement people get, the more they gravitate to both financial advisers and superannuation funds.”
If the advice industry wants to become the preferred options for retirees, however, then a focus on aptitude, ethics, experience and education are vital.
“There are some advisers out there who are better educated than others about longevity risk and how these longevity protection products work,” Mr Boal says.
“I think we need to raise the standards across the whole sector to ensure everybody is equipped to give advice in this area.
“A lot of advisers have been focused on wealth creation rather than retirement income strategies. We now have to see that shift.”
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