Retirement: Mark Story Enjoying a great lifestyle
Most retirees, worried about running out of money, are unnecessarily frugal with their super. But if they loosen the purse strings a little they can enjoy a much better lifestyle without sliding into poverty.
The super system may have done a sterling job in making members aware of the all-important accumulation stage – building a retirement nest egg – but when it comes to cleverly using savings in retirement, it’s a different ballgame. There’s no shortage of data to suggest that most retirees – with typical super balances of between $100,000 and $500,000, and often above – don’t enjoy the fruits of their retirement savings the way they should.
Recent research also dispels the popular notion that most retirees can’t afford to spend more. Clearly, after a lifetime of being perennial savers suddenly becoming net spenders is a challenge for most retirees. Unsurprisingly, it is longevity risk that typically stops them from maximising the pleasures they can afford to enjoy in retirement. Longevity risk is the concern that retirees will outlive their money and that unforeseen one-off expenses – such as a blowout under the user-pays aged care system – also need to be provided for.
What’s disturbing is research by actuarial firm Milliman that highlights how committed retirees are to living frugally, regardless of what they can truly afford to spend. For example, whether they are picking up a partial age pension or are self-funded, Milliman data suggests that a sizeable proportion of retirees spend less than the age pension, which is based on a fortnightly rate of $834.40 for a single retiree and comes in under the poverty line of $433 a week.
Kids reap the benefits
Longevity risk aside, a recent CSIRO study suggests many retirees prefer to live on meagre rations to preserve a capital pool that can be passed onto loved ones, and passing it on they are. Research by superannuation advisory firm Rice Warner estimated that in 2015 a whopping $8.5 billion was bequeathed by Australians who died before using their superannuation savings.
As a result of these concerns, CSIRO findings conclude that an unnecessarily tight-fisted approach to living means most retirees actually die with sizeable super balances largely intact. Based on research by government actuaries, an overly frugal approach to spending in retirement sees most retirees, regardless of their balance, die with around a third of their super untouched.
Ironically, some government data suggests that in the past five years of their lives, many pensioners either maintain or actually increase their asset value. Much of this is attributed to changes in spending behaviour, which drops off significantly after 75. Also contributing to this outcome are the buffers to cover significant one-off out-of-pocket expenses that retirees assiduously create by living frugally but are never used.
Admittedly, keeping tabs on spending in retirement makes perfect sense. But Andrew Reeson, a behavioural economist with the CSIRO, encourages retirees not to behave as if they’re on the bones of their backsides, when undeniably they’re not. He argues that needless frugality and/or a desire to leave a legacy for the kids isn’t what the super system was designed to deliver, and as such should be discouraged if it prevents them from living better.
Reeson says it’s hardly surprising that over 85% of Australians favour some form of account-based pension as their preferred income stream over annuities, given that the latter are typically regarded as more complex and inflexible post-retirement products. But despite their popularity, he suspects too few retirees fully understand the machinations of account-based pensions.
For example, CSIRO research reveals that an alarming number of account-based pensions stick to minimum drawdown rates mandated by the government. Reeson suspects many retirees mistakenly use minimum drawdowns (5% for those aged between 65 and 74, up to 14% for the 95-plus) as a default proxy on how much they should spend.
Unlikely to run out
According to government actuarial data, retirees who stick to minimal drawdown rates bear no risk of completely running out of money. However, Andrew Zbik, senior financial planner with Omniwealth, points out that by increasing minimum drawdown rates a little they end up making a significant difference to their spending capability.
While many people can afford to increase their drawdown rates from 5% to 7% without significantly impacting how long their super will last, Zbik says it’s important to map out the impact over time. Given that the purpose of super is to draw it down, Zbik says retirees need to accept that eating into some capital isn’t necessarily a bad thing.
He says retirees who spend slightly more than the minimum drawdown rates are still unlikely to run out of super until well into their 80s. Australian Government Actuary (AGA) calculations show the massive impact (subject to investment returns) of applying to retirement income purposes the 31% of super that typically is left in a retiree’s account at death.
As a case in point, based on a super balance of $400,000 with drawdowns commencing at age 65, there’s huge scope for retirees to majorly improve their living standards by drawing down marginally more without significantly impacting how long their super will last. Admittedly, retirees do increase the risk of outliving their savings but Reeson says that this happens only when they’ve already outlived their life expectancy (see table at right).
For example, AGA figures show that by running their account-based pension down over the period of life expectancy (22 years for a 65-yearold male) by $27,000 (drawdown rate 6.75% on $400,000), instead of at the minimum drawdown rate of $19,200, this retiree can enjoy a 40% better living standard.
The trade-off for significantly boosting their living standard is a 40% risk of running out of money, should this retiree live beyond his life expectancy of 87 years. However, given that the age pension is there as a safety net and increases as super balances go down, Reeson says running out of super beyond age 75, when spending significantly drops off, is something most retirees shouldn’t be overly fearful about.
Changing retiree behaviour
Based on his insights into retiree behaviour, what’s patently clear to Kurt Ohlsen, a senior financial planner with Profile Financial Services, is the difficulty that many clients have in spending their savings. There’s no guarantee, he says, that boosting super balances will necessarily result in retirees living better-quality lives if they simply refuse to spend them.
“I often encourage clients to spend more rather than simply die wealthy and that means providing greater guidance on what they spend versus what they can afford to spend. But we recognise that many who’ve always lived modest lives almost find it physically painful to spend more.”
It’s virtually impossible for advisers to change a retirees’ spending mindset without getting much better insights into their behaviour, says
Ohlsen. He often encourages them to do something more meaningful with excess capital than simply leaving it to beneficiaries when they die.
Intergenerational wealth transfer can be more effective and enjoyable if done while retirees are still alive, says Ohlsen. For example, it could help pay down debt, get adult children into a family home a lot sooner or boost their super balances while avoiding any super left to adult children from potentially being taxed.
Ohlsen often suggests clients who want to spend more time with their kids and grandchildren do it through travel. For example, he recently encouraged clients to take their grandchildren to Disneyland, and it proved to be the best money they’d ever spent. “Whatever retirees decide to do with their money it should be based on quality information and advice, which is why modelling various outcomes is always useful,” he says. “Remember, you’re entitled to run out of money, as long as you do it in an informed manner.”
Leaving an early legacy
Given how detrimental gifting cash to adult kids now or leaving it to them as a legacy when they die can be to retirement planning, Zbik urges retirees to consider these arrangements with family members as early as possible. One alternative to leaving a sizeable legacy to the kids is to potentially consider going guarantor for them on a home loan. “Everything being equal, this won’t cost them anything and it could help adult children get into the property market years earlier,” he says.
Zbik says that for who have under $400,000 in super and are likely to be living frugally, there are still strategies to supplement their income and/or boost their super over time. Remaining in the workforce until at least their preservation age and making top-ups into super ensures retirees don’t place pressure on their nest egg unnecessarily early. “But if you’re already retired, remember singles and couples can earn $172 and $304 respectively per fortnight before the age pension reduces.”
Another way to help manage longevity risk, regardless of how much or little is in super, is by releasing needed equity through a reverse mortgage or by downsizing the family home. Since July 1, 2018 each spouse (subject to eligibility requirements) can make a downsizer contribution to super of up to $300,000.
Given that there are no tax advantages, Reeson also suggests those who reach preservation age with less than $100,000 in super consider withdrawing it, thereby avoiding disproportionately high fees.
The couple took their grandchildren to Disneyland, and it proved to be the best money they’d ever spent