In recent times, there’s been a shift by Australian policy makers to encourage innovation when it comes to retirement income streams. Overall, this move is a recognition of two key facts:
- We’ve done a great job of accumulating wealth for retirement, but
- The system hasn’t really helped Australians use their assets in the best way.
Often, many retirees are more fearful and conservative than they need to be and, as a result, don’t enjoy their retirement as fully as 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.”
Live for today, and 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. And you can even ‘front-end’ income payments, giving you more income to enjoy in the active years of retirement.
Let’s take a look at some of the other benefits of these market-linked lifetime income streams, shown below.
Pooling to spend
Putting a reasonable amount of capital into a market-linked lifetime income product can generate a higher income for you in retirement because it uses the power of ‘pooling’ your money with other investors.
As AMP’s General Manager of Retirement Solutions, Ben Hillier puts it, “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 they provide the benefits of pooling risk and return, but without locking away capital in a life insurance vehicle.
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. It appears that when you know you have a regular income to supplement or replace the age pension, you can afford to enjoy your retirement – both psychologically and financially.
Accessing more age pension
An important part of new regulations is how these products are treated by Social Security. Only 60% of the purchase price of lifetime income streams count under the assets test. For example, if you purchase a lifetime income stream with $500,000 your asset test for age pension eligibility will be discounted to $300,000. And, after age 84, that number drops to 30%. Plus, only 60% of lifetime income counts under the income test. And by deferring the income in retirement or purchasing a lifetime income stream before retirement, the asset-test advantage can be even further enhanced.
Fixed-income versus 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 which gives retirees 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 due to their exposure to growth assets. Of course, the trade-off for that potential extra return is the variability of the income stream.
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 lasts longer – providing higher inheritances for longer.”
Strategies that link ABPs and lifetime income streams are likely to deliver powerful outcomes. The Australian Government Actuary has claimed that 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 their clients.
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)