The key to a happy retirement

By Patrick Clarke, General Manager Retirement Solutions, Generation Life
 

With Australia being a world leader of retirement savings systems, one could assume that our ageing population would be prepared to face the next chapter of their lives. Yet, as the Retirement Income Review has shown, much of Australia’s growing retiree population is inadequately prepared for their post-work chapter. With data indicating that by 2066, Australia’s population will have around one in five (21%) aged 65 and over¹, it is imperative that we empower the Baby Boomer generation to retire with confidence.

What is the problem?

Australia is among the top 3 countries with the highest life expectancies in the world².

People want to have a full and happy retirement, but given the cost of living and high life expectancies, it is no wonder that two-thirds of Australians feel they don’t have enough retirement savings to last a lifetime³. As a result, the industry continues to see a long-standing trend of retirees who hold an account-based pension withdrawing at or near the minimum amount they are allowed. This is driven by a fear of running out of funds too early and having to rely on income from only the Age Pension.

In effect, many Australians arrive at retirement with significant funds and assets but could benefit from more reassurances about when they should dip into their hard-earned savings and how to do this effectively. This often leads to underspending and, sadly, regret in their later years that they didn’t spend more when they were in more active stages of retirement.

So, what is the solution?

We know that when people feel financially safe they can feel secure and can enjoy the other aspects of their life with peace of mind. With the right advice from a financial planner, retirees can utilise multiple retirement income sources to navigate and maximise retirement spending with confidence. As such, there’s an opportunity to provide long-term financial advice and strategies to support the transition into retirement. 

Enter the new era of lifetime annuity.

An investment-linked lifetime annuity is a new breed of retirement income stream where annual income is linked to the investment performance of an investor’s chosen investment option(s). This can provide retirees with more flexibility and more choice in their investments. Ultimately, it ensures that they have a regular income that has the potential to grow over the course of their retirement.

Research⁴ has shown that incorporating a lifetime income solution into retirement can create a positive psychological impact. They are proven to transition retirees from fear to confidence, leaving them safe in the knowledge that they can spend, and achieve their dream golden years.

So despite the multiple benefits to a person’s retirement outcomes, why aren’t many people considering lifetime annuities?

Before 2017, lifetime annuities were a fixed income product. This usually meant the starting incomes for annuities were partly influenced by interest rate markets, so when interest rates were low, so too were people’s incomes.

However, when new legislation was introduced in 2017, lifetime annuity providers were granted freedoms to innovate and adapt their offerings. Regulation enabled annuities to be linked to investments and a new era of the lifetime annuity emerged. These products can now deliver flexibility, versatility, greater returns, and therefore long-term financial security for those in retirement. 

Yet people understandably can still be hesitant. There’s no doubt that making an investment in a lifetime annuity is a big step. It is natural for people to focus on the perceived downsides as opposed to the upsides. This is called “loss aversion”.

It’s well documented that loss aversion drives investors to disproportionately focus on the potential for short-term losses. As a result, it’s leading retirees to invest less in solutions like lifetime annuities, where capital is converted to lifelong income, and miss out on higher long-term returns⁵.

Pleasingly, the potential for loss has been addressed by the manufacturers of lifetime annuities and the regulators over the last 10 years.

What are the advantages of a lifetime annuity?

Estate planning: One of the biggest fears we often hear people have about investing in a lifetime annuity is that their dependents won’t receive anything if the policy owner passes away early. That used to be a possibility, but lifetime income solutions now offer death benefits to those eligible as part of the solution design. This aims to return the difference between what’s been invested and what’s been paid as income when the policy owner passes away.

Security: A lifetime annuity that is offered by an APRA regulated life insurance company is also a very secure investment. The chances of a life insurer defaulting on an annuity payment are very low given the regulatory frameworks of life insurers and reinsurers.

Flexibility: Historically, when an investment was made in a traditional lifetime annuity, people lost the opportunity to influence the investment outcome. Since 2021, a number of investment-linked lifetime annuities now offer the flexibility to change the investment outcome by switching between investment options to respond to changing market conditions or attitudes to risk of the policy owner. This era of annuities also offers the opportunity to be exposed to growth assets, not just invest in a fixed income product, allowing investors to adapt as desired.

How do we help retirees overcome the fear?

Education plays a pivotal role in reshaping perceptions, not only about investment-linked lifetime annuities but about other facets of retirement planning. A confident retirement is far more than simply managing assets; it's about crafting a fulfilling life through confident decumulation.

Retirement is an emotional journey – far more than it is a financial one.  Financial advisers have the power to demystify this retirement transition and help retirees unlock the potential of an investment-linked lifetime annuity.

Retirees have worked hard all their lives to save. Now, it’s our responsibility to empower them to feel confident that they can spend.

1 Older Australians, Australia Institute of Health and Welfare, 2023 - https://www.aihw.gov.au/reports/older-people/older-australians/contents/demographic-profile

2  ABS (Australian Bureau of Statistics) 2023. Life expectancy, Australia – https://www.abs.gov.au/statistics/people/population/life-expectancy/latest-release

3 Australian Retirement Trust Research Run by YouGov, 2022 – https://www.australianretirementtrust.com.au/superannuation/how-much-super-should-i-have

4 Investments and Wealth Monitor; ‘Understanding Underspending in Retirement: The Decumulation Paradox Reexamined’, Todd Taylor, FSA, and Kelli Faust, FSA, MAAA, Nov 2023, https://publications.investmentsandwealth.org/iwmonitor/november_december_2023/MobilePagedArticle.action?articleId=1940614#articleId1940614

5 Benartzi, S., & Thaler, R. H. (1995). Myopic Loss Aversion and the Equity Premium Puzzle. The Quarterly Journal of Economics, 110(1), 73–92. https://doi.org/10.2307/2118511