Challenger: Retirement is different by Conexus Financial

I N S P I R I N G A DV I C E

Professional PLANNER

04/17

In association with

RETIREMENT IS DIFFERENT A D V I S E R S M U S T B E AWA R E T H AT R I S KS A N D N E E D S C H A N G E D R A M AT I C A L LY W H E N A C L I E N T A P P R OAC H E S R E T I R E M E N T

BUDGETING CAN BE THE KEY TO E N R I C H I N G R E L AT I O N S H I P S

A S T H E WAV E O F B A B Y BOOMERS SWELLS, SO DOES THE NEED FOR G R E AT A D V I C E

THE BIGGEST RISK FAC I N G A U S T R A L I A N RETIREES IS OUTLIVING T H E I R S AV I N G S

Food Bills Peace of mind

Take care of the essentials with an income guaranteed for life.

Challenger Guaranteed Annuity (Liquid Lifetime)

challenger.com.au/lifetimeannuities

It’s natural for clients to worry about running out of their money in retirement. To provide them with peace of mind, focus on the essentials. First, it’s important to work out how much they spend each month on essentials, like food, clothing and bills. Then, calculate their Age Pension entitlement. Finally, cover the gap between the Age Pension and the cost of their essentials with a layer of income guaranteed for life. Challenger’s Liquid Lifetime annuity fits the bill. Find out more today. Visit challenger.com.au/lifetimeannuities This information is provided by Challenger Life Company Limited ABN 44 072 486 938, AFSL 234670. This is general information only and is not intended to be advice. Clients should consider the Challenger Guaranteed Annuity (Liquid Lifetime) product disclosure statement available at www.challenger.com.au before making any investment decision. CH2820-PPMM-1

From the editor

LIVE LONG AND ADJUST

t’s now a problem. The combination of better healthcare, more active lifestyles and leaps and bounds in longevity now present the very real risk of seeing people born today living as long retired as they did in employment. That’s not such a bad thing in and of itself; and cruise ship operators will be thrilled that they’re entering not a golden age, but a silver surfer age of business. But those operators, too, will have some worries about where their inbound wave of customers will get the money for all that bingo. Retirement advice in yesteryear may have been little more than making sure there was enough in the war chest to get someone through a handful of years of fun before being ready to provide the means to transition into a more care-dependent phase

of life. Today, however, it’s a far more complicated matter. Planners and clients alike must think about perhaps 20 years of cruising and caravanning around Australia, and how that’s to be paid for. The foundation here, as with most other areas of advice, is setting realistic goals and determining how to achieve them. It’s about getting a client into the mindset and ready to work within the sort of financial buffers that will allow successful planning of how resources can best be deployed for decades and, increasingly, how some can be handed on to the next generation. This process can be a great way for advisers to build a productive bridge with their clients – and

their clients’ children – that can last for decades. There are numerous strategies available to planners. In this edition, we explore the concept of income layering, where different approaches are blended into a plan that will continue generating income for decades. After all, we need good plans in place, so when the time comes, we can all join the cruising generation.

keith.barrett@conexusfinancial.com.au

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@PPEd A P R I L 201 7 |

The

8th

Annual

SUMMIT

PROFESSIONAL PLANNER

LICENSEE SUMMIT JUNE 5-6, 2017 LILIANFELS, BLUE MOUNTAINS, NSW

Get ready for growth Every licensee business shares one fundamental: the lower the cost of customer acquisition and retention, the better the profit margin. How well do you understand the levers that affect your business? Here’s your chance to find out. The Professional Planner Licensee Summit is a renowned way for licensees to gather and discuss the challenges and opportunities facing their organisations. We’ll give you insights into how to implement and maintain a best-in-class digital advice offering, and explore emerging customer and business models to increase your ROI, so you can accelerate your business’s growth and profitability.

lice n s e e s um mit.co m.au CONTACT Emma Brodie | emma.brodie@conexusfinancial.com.au | 02 9227 5708

Risk

Contents APRIL 2017

F E AT U R E S

06 Retirement is different - treat it that way The increasing complexity of retirement generates many opportunities to provide ongoing advice to retirees. To serve these clients, advisers must be aware that their risks and needs change dramatically when they reach that stage.

09 Good retirement starts with a budget A household spending plan should be the cornerstone of happy golden years, but it can also be the key to enriching relationships between advisers and their clients.

12 Income layering As the wave of baby boomers swells, so does the need for great retirement planning advice. Income layering â&#x20AC;&#x201C; creating several layers of income to support a retirement plan â&#x20AC;&#x201C; is one strategy that can provide an ongoing solution.

14 Making retirement income last for life A big risk facing retirees is outliving their savings. A combination of market and sequencing risk, longer lifespans and unsustainable drawdowns could lead to depleted savings that donâ&#x20AC;&#x2122;t cover basic income needs.

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Planning

Retirement

IS DIFFERENT,

treat it that way

THE INCREASING COMPLEXITY OF RETIREMENT AND T H E N AT I O N â&#x20AC;&#x2122;S AG E I N G P O P U L AT I O N G E N E R AT E M A N Y O P P O R T U N I T I E S TO P R O V I D E O N G O I N G A D V I C E TO R E T I R E E S . TO S E R V E T H E S E C L I E N T S , H O W E V E R , A D V I S E R S M U S T B E AWA R E T H AT T H E I R R I S KS A N D N E E D S C H A N G E D R A M AT I C A L LY W H E N T H E Y R E AC H T H AT S TAG E .

WO R D S A S S YAT DAV I D

Retirement is an evolving concept. Its meaning has shifted from the date when a person ceases working and enters a period of leisure, to a period that may last 20-plus years and involve part-time, casual or flexible work, and even a shift into a new role or industry. For some, retirement is an exciting time, while others feel stressed about their financial readiness. The advice opportunities for retirement planning are significant, given that retirees

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will increasingly grapple with legislative changes affecting their retirement savings, managing their increasing retirement assets and putting into place strategies to manage the unique risks affecting their retirement savings. To put the retirement challenge into perspective, itâ&#x20AC;&#x2122;s important to understand some key statistics. Over the next 20 years, post-pension retirement assets will grow significantly, in overall size and as a portion of

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Planning

total superannuation assets, a Deloitte study states. Also, over the next 40 years, the proportion of the population aged over 65 will almost double, meaning that demographic will represent about 1 in 4

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Australians. Life expectancy is increasing, which means Australians are more likely to reach an age where they will have disabilities and require access to aged-care services and advice. The chart (on

page 8) shows the number of healthy remaining years and years with a disability for a 65-year-old. These different phases of retirement need to be considered separately.

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Planning TABLE 1 / Disability years Without disability FEMALES (currently age 65)

9.5

MALES (currently age 65)

8.7

With some disability 6.7

With severe disability 5.8

6.7

3.7

S O U R C E ST R AT E G Y ST E P S

THE U NI Q U E CHA L L E NG E S O F R E TI R E M E NT Retirement has its own set of challenges that are different to the accumulation phase. The key shift is that Australians move from receiving a regular income (such as salary) and investing funds to drawing down funds from a set pool of assets. The primary objective in the accumulation phase is to maximise total returns (given the client’s specific risk profile) and accumulate a defined portfolio balance before retirement. The main goal in retirement is to generate an adequate level of income that keeps pace with inflation for an uncertain period (the client’s life expectancy). The key risks affecting retirees are different to those accumulators face. Accumulators are concerned with volatility and returns that may be inadequate to generate the required growth in their superannuation balance leading to retirement. Retirees, on the other hand, face risks including the following: n Longevity risk: This refers

to the risk that a retiree’s superannuation and other savings could run out prior to their death, leaving them to rely fully on the age pension, which may be insufficient. Longevity risk should

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encourage clients to adopt a more aggressive investment portfolio, given that growth assets provide greater prospects of producing higher returns than more defensive assets. n Sequencing risk: One factor that influences a client’s standard of living is the performance of financial markets, particularly during the transition into retirement and the early years of retirement. This is known as sequencing risk. Unfavourable market returns can eat away at the client’s retirement savings and reduce their income in retirement. n Drawdown risk: The risk that clients sell down assets in their portfolio that have experienced negative returns, thereby realising the loss. This risk increases if the assets relied on to pay the income are growth assets that have volatile returns over the short term. Unlike longevity risk, this risk encourages clients to have a more defensive component to their retirement portfolio. ADVICE IMPLICATIONS Changes to the retirement landscape will change the way

in which advisers help their clients plan for retirement. Furthermore, clients will demand ongoing and active advice during retirement. There will be a greater focus on tailored strategies to manage the client’s longevity and other retirement risks and the generation of a suitable level of income (split between essential and discretionary income) to provide a more active lifestyle. Portfolio construction may need to be modified and better tailored to the specific client’s situation. Aged-care advice is likely to be one of the major forces shaping the demand and delivery of financial advice over the long term. It is an increasingly important concern for clients and their families and needs to be adequately included at the core of an adviser’s retirement services. The increasing costs and complexity of aged care means that clients will require access to sufficient assets and income to fund the aged-care services needed to maintain their standard of living during their care years. Consequently, advisers will need to adjust their assumptions about the client’s income needs in retirement, which have historically assumed that income needs would decline in the later years. This potential need for more income may exacerbate the retirement risks clients face and heighten their need for ongoing, tailored advice during the different phases of their retirement.

ASSYAT DAVID IS DIRECTOR OF AGED CARE STEPS.

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Advice

GOOD RETIREMENT s tart s wi t h a

BUDGET A HOUSEHOLD SPENDING PLAN SHOULD BE THE C O R N E R S TO N E O F H A P P Y G O L D E N Y E A R S , B U T I T C A N A L S O B E T H E K E Y TO E N R I C H I N G R E L AT I O N S H I P S BETWEEN ADVISERS AND THEIR CLIENTS.

WO R D S A N T H O N Y O ’B R I E N

Retirement is meant to be a time to look forward to. But that’s often not the case. Research has found 26 per cent of Australians feel nervous or hesitant about planning for retirement. One of the chief factors behind that concern is the sheer level of financial uncertainty that retirement can bring. The humble household budget can be a valuable tool to bring certainty to your clients’ lives. Chances are, retirement is the single greatest life stage for bringing clients to your practice door, often with queries along the lines of “How much do I need for a decent retirement?” or “How should I invest my money?” Guiding these clients through the process of budgeting may initially appear unrelated to these questions, but it forms the foundation on

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Advice

which other decisions can be made. We know from the Association of Superannuation Funds of Australia’s data that a comfortable retirement will cost a couple aged 65 almost $60,000 annually. As a guide, when advisers compile a financial plan for retirement living to meet such targets, assumptions must be made on an extensive list of factors, including how investment markets will perform, the client’s likely lifespan, and economic factors such as inflation. This means a roadmap for the future is drafted based on a large grey area. However, one variable that is both predictable and measurable, to a large degree at least, is the living expenses each client will face. By starting the advice process with budgeting, advisers can narrow down the ‘what ifs’ and deliver recommendations that are better tailored to the client’s circumstances. For the client, advice and support on budgeting provides several benefits. To begin with, a budget creates a clear framework for household spending. This is critical for retirees to have good control of their money and eliminates one of the uncertainties of retirement living. This alone helps advisers forge longer-term relationships and increase the likelihood of referrals. STRAT E G I E S TO M A KE BUD G E T I NG E ASY Part of the challenge facing retired clients is that budgeting is not widely practised by

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Australian households. An ME Bank survey found 60 per cent of households don’t consistently set a budget, and fewer than half stick to one. An ad hoc approach to spending may be fine for younger Australians earning a regular wage or salary (and with many more years ahead of doing so). But for retirees trying to navigate a retirement that could span 20 or even 30 years on a fixed pool of capital, budgeting is essential. The question is, how can advisers encourage their clients to budget in retirement? A starting point can be to break down the process into bite-size chunks. For instance, categorise household spending into annual, monthly or weekly amounts. This can overcome client perceptions that budgets are restrictive, or difficult, or that the whole process is simply overwhelming. It’s human nature to underestimate our spending, and it’s almost certain your retired clients will be unclear on how much they spend, especially

on day-to-day or low-value purchases. But it all adds up. So, it can be worth encouraging clients to record their daily spending for a fixed period of, say, a fortnight or month. A spending diary that sits atop the fridge or is stored in the car can help clients become more in tune with their spending habits. Or, for clients preferring a digital approach, the government’s free TrackmySPEND app is useful. Part of supporting retired clients learning to live within a budget involves deciding the physical form a budget should take. A whole spectrum of options is available, including apps, spreadsheets, software or just a simple sheet of paper. Every client will have a preference, so spend time deciding the option that works best for the individual. OP P ORTUN ITIES TO FOSTER A DEEP ER R ELATION SH IP As mentioned earlier, from a client-engagement perspective, budgeting

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Advice

AN ME BANK SURVEY FOUND 60 PER CENT OF HOUSEHOLDS DON’T CONSISTENTLY SET A BUDGET, AND FEWER THAN HALF STICK TO ONE provides plenty of opportunities for advisers to add value and foster a deeper relationship. The beginning of a client’s journey with budgeting offers touch points for advisers to contact clients. It’s unlikely, for example, that a budget will work perfectly for the first few months; however, with regular review, an adviser can help keep clients from straying too far from the track. Advisers also offer the advantage of objectivity, and in reviewing clients’ spending habits, may be able to identify emotionally driven choices, which can be a speed bump on the road to achieving healthy money management.

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ESTABLISH A RE ALISTIC SPE NDING ALLOWANC E With a budget firmly bedded down, it is far easier to establish a realistic spending allowance. The same ME study discussed earlier found only 1 in 3 Australians have a personal spending allowance, yet it can be instrumental in retirement. Overspending at retirement stage can be a fiscal disaster. Yet at the same time, clients need to be able to enjoy the fruits of their working life. Unfortunately, many retirees do lead unnecessarily frugal lifestyles. Behavioural research by the CSIRO found superannuants who invest in an account-based

pension rarely move beyond the minimum allowable drawdown. Only one in four withdraw more than twice the minimum. Assuming reasonably healthy investment returns, the study concluded that many of these retirees will pass away with substantial amounts of their nest egg still intact. The CSIRO’s findings further highlight the valuable role budgeting plays in allowing advisers to determine the annual drawdowns suitable for each client. Retirees are understandably often concerned about outliving their investments, but armed with a budget, advisers can suggest a more accurate approach to drawdowns of super, or any other asset, rather than using ad hoc estimates. In this way, your clients can live the retirement dream within their own fiscal limits, free from worries about exhausting their capital at an early stage. That’s what good advice for retirees is all about.

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Income layering

WO R D S P E T E R C LO U T

Research from a 2015 survey conducted by State Street Global Advisors “shows that 69 per cent of Baby Boomers expect their standard of living to improve as they move into retirement and a further 24 per cent expect their lifestyle to be the same.” For the growing number of self-funded retirees in Australia, the greatest challenge will be how to use their wealth to create income streams to meet long-term needs and achieve the comfortable retirement they so desire. There are many techniques we can use to help a client determine their required income in retirement. A percentage of pre-retirement income can be used as a guide, and the use of a budgeting tool to identify living costs and including essential and discretionary items or a review of bank accounts to identify regular and annual expenses. We can look to tools such as the ASFA Retirement Standard benchmark. The report presents

contemporary budget standards for largely self-funded retirees. The standards can serve as a starting point at the fact find stage to determine the annual budget required to meet their standard of living in the post-work years. The Australian Government Actuary released the Australian Life Tables 2010-2012 in December 2014. The Life Tables are updated every five years, with the next update due for release in 2019. The results show that more Australians are living longer lives. A longer life requires greater certainty from income streams and access to capital at differing stages. A key consideration for an adviser is to guarantee as much income as possible, relative to a client’s needs, while locking up as little capital or assets as possible. The implementation of an income layering strategy is one technique an adviser might consider for those self-funded retirees that want guarantees as well as flexibility in their retirement plan. The term income layering strategy refers to creating several layers of income to support

a retirement plan. There are numerous income sources available in retirement. These include employment, allocated pensions, annuities, defined benefit plans and the age pension. For this article, we will look at allocated pensions, annuities and the age pension. The goal is to give the retiree confidence to spend retirement capital on discretionary leisure items, while meeting everyday needs through their lifetime. It also serves as a level of comfort that if things go wrong or unplanned events should occur, they have sufficient capital to meet these costs sufficiently. It is an adviser’s role to help the client create their desired level of retirement income in a tax effective, multi-layer income stream strategy that enhances government benefits to support preservation of capital during their lifetime. The current maximum age pension entitlement for singles is $22,805 pa, and $34,382 pa for couples. These amounts mirror the AFSA September quarter 2016 figures for a modest lifestyle of $23,996 per annum for a single and $34,560 per annum for a couple.

Applying

layers outcomes to achieve

A S T H E WAV E O F B A B Y B O O M E R S S W E L L S , S O D O E S T H E N E E D F O R G R E AT R E T I R E M E N T P L A N N I N G A D V I C E .

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Income layering

These amounts are indexed to CPI and adjusted every six months. This innovative retirement product has been designed to minimise market, inflation and longevity risk for our clients. An annuity is a product that guarantees a fixed level of income for a fixed term, or lifetime. Income can be increased in line with CPI. There are benefits that this product can provide to clients in the age pension space. A declining asset value for asset test purposes may provide increased entitlements over time, while the capital of the annuity value is preserved or maintains a residual capital value at the fixed term or at a 15-year guarantee date. This type of income stream could be structured to be payable throughout the clientâ&#x20AC;&#x2122;s lifetime, increase with cost of living, and provide a second level of income to support the age pension. An allocated pension is another form of retirement product available to people who built up their retirement assets through super. The flexibility of access to capital and asset allocation ensures that the retiree has options to build/ preserve wealth by taking on more risk albeit being able to access capital at any stage. A possible strategy for advisers and their clients is to use an allocated pension as a third source of regular income as well as source of capital for discretionary wants such as cars, holidays, lump sums and as a back up for emergencies or unplanned expenses. A N E XA M P L E A retiree couple (mid 60s), which owns their home, has just implemented an income layering strategy (see table right).

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The client maintains $200,000 in cash assets outside of super in term deposits and online saving accounts (income re-invested for illustration purposes). We note that the annuity has a 15-year guarantee ensuring the client has an option to access 90 per cent of the capital ($180,000) in year 15. They plan to spend $200,000 in the next five years on holidays and renovating their home thus reducing their asset base from $700,000 to $500,000 in that time. They are also happy to draw a high percentage 11 per cent from their allocated pensions in their early retirement years. As their assets reduce, and over time the annuity value (for age pension purposes) reduces, they know that the age pension entitlement will increase and this drawdown can be adjusted. The client is confident that implementing this strategy that their retirement income can never be lower than $44,382 per annum (indexed) based on current age pension rates and guaranteed income from the annuity. As the need for retirement planning advice soars, advisers using strategies such as income layering to help clients achieve their needs will be in increasing demand. The skill of guaranteeing as much income as possible, while using as little capital as possible will evolve and ensure the standard of living for retiring Australians is improved or at least maintained into the future.

PETER CLOUT IS PRINCIPAL AND SENIOR ADVISER AT FAMILY WEALTH ADVISORY SYLVANIA

Layer 3

Allocated Pensions ($310,000)

$1,350 per fortnight ($35,100 pa)

Layer 2

Lifetime Annuity ($200,000)

$833.33 per month ($10,000 pa)

Layer 1

Age Pension

$200 per fortnight ($5,200 pa)

TOTAL

$50,300 per annum

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