This is a defining year for the superannuation industry. This year, Australia’s retirement system could begin to step up to a higher level and deliver better retirement outcomes. This opportunity comes through the Government’s continued support for the development of post-retirement solutions which focus on income, risk management and flexibility, known as CIPR (Comprehensive Income Product for Retirement – see CIPRs are coming and that’s exciting for more background).
Treasury has just released a wide-ranging consultation paper on CIPRs. One of the more pragmatic suggestions is to use the name ‘MyRetirement’ rather than ‘CIPR’.
This is your chance to contribute to an important development. If Australia gets it right, then we can really advance our retirement system from being accumulation-focused to one that effectively delivers good retirement incomes. If we don’t, we could end up with a clunky retirement system providing highly variable outcomes to individuals dependent on which fund they are in, a system full of legacy issues which prove extremely difficult to unwind, effectively fastening our system into a lacklustre gridlock.
If we get it right, our retirement system can be one of the best in the world, not permanently middle-of-the-field.
If you, your firm, your industry body or your research department at university have insights or views to share, then you should make a submission. Put aside any feelings of change-fatigue or submission-fatigue and rise to the occasion, as there is a lot at stake.
From my initial read these are some important areas:
1. Should MyRetirement be integrated effectively with the Age Pension?
The proposed objective of superannuation set in the Superannuation (Objective) Bill 2016 is ‘to provide income in retirement to substitute or supplement the Age Pension’. In contrast much of the modelling set out in the CIPR Consultation Paper does not seem to account for the Age Pension. Perhaps this is for simplification purposes given the means testing that accompanies the Age Pension. The ‘supplement’ component of the objective suggests ignoring the Age pension will be inefficient and result in a large welfare cost. Put simply, a CIPR designed to provide a consistent income ignoring the interaction with the Age Pension would provide an inconsistent net income in practice.
2. Do people place a value on their residual account benefit?
One of the motivations of CIPR has been the observation that people deny themselves an appropriately high level of retirement income because they do not use mortality pooling products (such as life annuities) and, because they are risk averse, they spend down their savings too conservatively. There have been suggestions that retirement income levels could be 15% – 30% higher if retirement income products were better designed. This type of outcome analysis doesn’t place any value on the residual benefit at death. I understand that people do not want to outlive their savings but I challenge the view that any residual benefit has no value. This is a critical issue which requires considered debate.
There is a lot of research which identifies that people do place a value on a bequest. Further, our system is built around the individual, not the household (something which itself creates large inefficiencies hence welfare cost – a previous submission we made to Treasury suggested the objective of super should be household, not individual focused).
Consider the case of a couple household with one primary income earner. If this person were to pass away first (half the time would be a sensible initial guess) then the residual benefit would fund the retirement outcome for the surviving partner. This issue comes through clearly when we talk to our fund members. Finally the residual benefit acts as reserve funds to meet unexpected expenses such as aged care, health care and family related expenses. To put no value on the residual benefit in the design of a CIPR, in sports parlance, is a huge call.
3. How will annuity pricing work in a CIPR environment?
Annuities have historically been a direct transaction between an individual and a life company, typically facilitated by a financial planner. Historically there has existed a bias whereby people who elect to purchase annuities on average live longer than the broader population. To protect themselves against this ‘self-selection’ risk, life companies may apply some loadings when pricing annuity contracts.
If super funds chose to direct members into life annuities through their CIPRs, then much of this self-selection issue will disappear. Maybe annuities embedded in CIPRs could be priced cheaper than life annuities purchased directly. If this were the case then it puts financial planners in a tricky situation – should they just recommend their clients to a well-designed CIPR?
There are many interesting issues around how life companies, super funds and financial advisors would interact in a CIPR world.
4. CIPR portability – will we be left with a collection of retirees left stranded?
Treasury’s consultation paper rightfully raises discussion around CIPR portability. This is potentially a big issue as a simple example will illustrate. Consider a person, who at retirement, moves into their super fund’s CIPR (CIPR1). CIPR1 contains 50% exposure to a life annuity and 50% to an account-based pension. For some reason the retiree is not happy with their CIPR provider and would like to switch to the CIPR of another fund (CIPR2), which we assume has the same product mix, but perhaps a different annuity provider. If the life annuity cannot be exited (at a good price) then what does the retiree do? They could transfer their remaining 50% exit proceeds into CIPR2 but their effective exposure is now 75% to life annuities and 25% to an account-based pension, a mix of products that neither super fund thought best when they designed their CIPRs. There is the possibility of CIPR exiles who can’t really transfer to another CIPR.
These are just some of many issues which require careful consideration. A concern, opinion or a critique counts for next to nought if you didn’t share it at the time when submissions were requested. Written submissions are due by 28 April 2017.
David Bell is Chief Investment Officer at Mine Wealth + Wellbeing. He is working towards a PhD at University of New South Wales.