As the Baby Boomers continue to move into retirement, a national discussion about the economic challenges of our ageing population intensifies. With fewer working Australians for each retiree, momentum is building in government and business circles to more adequately address the issue.
When the Age Pension was introduced in Australia in 1909, average life expectancy for people who made it to retirement was 77. Today, the average 60-year-old can expect to live to 85 or older.1 While our increased longevity is something to celebrate, it is also a symptom of a broader global demographic transition.
Over the past century, developed countries such as Australia have transitioned from high birth and high death rates to low birth and luckily lower death rates. As our wealth increased as a country so did improvements in health, education and longevity. These trends have had a major impact on the dependency ratio of workers to retirees. Back in 1909 there were 15 workers for every retiree; today there are just 4.9 and by 2050 the number will fall to an estimated 2.6 workers for every retiree.2
This poses social and economic challenges, as governments in Australia struggle to fund public pension schemes and rising health and aged care budgets.
Default longevity insurance
Currently the Age Pension fills the role of ‘longevity insurance’ for the majority of Australian retirees – that is, an income until you die, albeit a modest one. Roughly three quarters of today’s retirees are on a full or part pension.3
The Federal Government has taken a number of steps to reduce people’s dependence on the Age Pension, and ease future strain on the Federal Budget, beginning with, but not limited to, the introduction of compulsory superannuation in 1992. By no means guaranteed to cover all of an individual’s retirements needs, particularly given potential changes to the superannuation rules, the Government is also progressively raising the pension age from 65 to 67 years.
But our increased longevity is not just a challenge for government. Individuals who aspire to a comfortable lifestyle in retirement, above the level afforded by the Age Pension, face the real risk of outliving their savings.
At present, the onus is on individuals to accumulate enough retirement savings both in and out of superannuation to fund their chosen lifestyle. The challenge with this approach is that no one knows whether the accumulated savings will last long enough
Income to last a lifetime
Part of the answer could lie in the development of innovative retirement income products such as Deferred Lifetime Annuities (DLAs). The good news is that these are already in the pipeline and could be available during the second half of 2017.
The May 2016 Federal Budget removed regulatory hurdles that have prevented the introduction of DLAs. Importantly, it was proposed that the tax exemption on earnings in the pension phase will be extended to DLAs. DLAs are a special type of annuity you purchase on retirement. Income payments don’t begin until you reach a given age – typically between 80 and 85–and then continue until you die. The longer the deferred period, the higher the income you can expect to receive.
Andrew Boal, Managing Director at Willis Towers Watson and Convenor of the Actuaries Institute Superannuation Practice Committee describes how DLAs could potentially be used this way: “Say you finish work at 65 with $500,000 in retirement savings. You could use $50,000 to buy a lifetime annuity to kick in after 15 or 20 years. You can then talk to your Financial Adviser about what to do with the other $450,000 to fund your lifestyle until your annuity kicks in.”
The appeal of such a strategy is that rather than scrimp and save in the early, active years of retirement, you can budget with certainty knowing that your income needs are covered until you pass away.
Seek information and advice
As the average life expectancy inches longer, tomorrow’s retirees may need to work longer or save more. In the meantime, retirement income products are constantly evolving to help you meet your emerging financial needs. Whatever your age or stage of life, your Financial Adviser can help you identify the most appropriate retirement strategy and products for your situation.
1 The Challenge of Longevity Risk: Making Retirement Income Last a Lifetime, Actuaries Institute Australia, October 2015, actuaries.asn.au/Library/MediaRelease/2015/InternationalPaperfinal261015.pdf
2 ‘A brighter view of dependency ratios’ by Bruce Gregor, 18 April 2013, cuffelinks.com.au/a-brighter-view-of-dependency-ratios/
3 ‘The Golden Years: the economics of increased longevity’, video, ARC Centre of Excellence in Population and Ageing Research, cepar.edu.au