Changes announced in the 2018 Federal Budget take us a step forward in ensuring the superannuation system achieves what it was set up to do: provide greater security of income for people in retirement while reducing the burden on taxpayers of supporting retirees.
The Budget promised a new retirement income framework which aims to boost living standards for retirees and expand the options available to them by requiring super fund trustees to offer new comprehensive income products.
A framework is needed because our defined contribution system asks individuals to manage financial risks beyond their capability. Despite the complexity involved, Australians have proved reluctant to pay for advice, a prospect that only looks unlikely to diminish given revelations at the Royal Commission.
Help needed when employment income ceases
The irony is retirees have never needed more help managing the heightened risks they face without the security of employment income. These include unfavourable investment returns close to or in retirement (sequencing risk), outliving their savings (longevity risk), loss of purchasing power (inflation risk) and unexpected health and aged care needs (event risk).
Managing these risks involves complicated trade-offs that are highly specific to each member’s circumstances and preferences. Yet most are ill-equipped to do this. And the system is focussed on the accumulation of assets with little support during the drawdown phase.
Compulsory super and default funds were designed to overcome behavioural and other barriers that prevented people from saving. But those biases do not suddenly self-correct when people reach retirement age. After all, having been in default vehicles throughout their working lives, why would people suddenly be able to switch on and navigate even more complex variables?
The answer is to develop our contributions-based system so that it delivers outcomes akin to a defined benefits framework designed around individual needs. At a minimum, a mass-customised solution will take account of each member’s age, gender, health status and debt, while providing couples the option of a reversionary benefit. To ensure income stability over retirement, the solution also should take into account pension entitlements.
Given limited access to financial advice, trustees will need improved products and a scalable process to guide or nudge members towards better retirement outcomes. To ensure members’ interests are served, super funds will have to make major investments in governance, people, systems and technology, including decision support systems.
It’s arguable that our intensely regulated industry, conceived via government mandate, lacks the required level of innovation, entrepreneurialism and vision to meet the needs of the bulge of baby boomers now entering retirement. So, again, there is a role for the government to facilitate market development by setting the rules of the game.
The Budget is a step in this direction
The Budget means superannuation fund trustees will be required to consider the retirement income needs of their members and develop a strategy to help members achieve their retirement income objectives.
Alongside the requirement to offer comprehensive income products, the government also announced new means testing rules that remove important impediments to development of new income stream products to better manage longevity and sequencing risk. Not only are such solutions needed for disengaged super fund members, they may also provide an escape route for SMSF trustees looking for a set-and-forget secure income stream that kicks in during their advanced years.
For the nation, these changes represent a substantial, long-term investment in making our market work more effectively, making our retirement income system more sustainable and making the lives of millions of Australians better.
The CSRI Leadership Forum on 31 May 2018 will bring together leaders in public policy, industry and academia for detailed discussions about what these changes mean and how to take them forward.
Patricia Pascuzzo is Founder and Executive Director of the Committee for Sustainable Retirement Incomes (CSRI), an independent, non-partisan and non-profit think tank which is holding its leadership forum in Canberra on 30-31 May 2018 https://csri.org.au/events/2018-leadership-forum/