Is a secure income stream achievable?
While there are many headlines promising to help you to ‘retire rich’, most Retirement Essentials members have different expectations.
The majority tell us that ‘rich’ isn’t a believable goal. They simply wish to maintain a secure income stream that maximises their income and allows them to continue to live their current lifestyle.
The security comes from knowing that they are managing their super and savings in a way that allows them to comfortably cover their bills for the rest of their days.
This challenge can, of course, keep some retirees awake at night. Today we discuss three main ways you can establish income for life so that you reduce your money concerns and start enjoying life without ongoing financial stress.
The most common misconception about achieving an income for life is that you will run out of money if you live for a long time. This cannot happen in Australia as there is a social welfare safety net, the Age Pension. Whilst it is not universal (it is subject to income and assets thresholds and residency requirements), it is widely available. So there is a guaranteed income for life available to the majority of Australians, regardless of work history, education or any other distinction.
By the time all Australians enter their 80s, about 80 percent will access this income for life and be paid a full or part Age Pension. This income is government guaranteed and comes with a Pension Concession Card that adds an extra $3000 or so in benefits per year.
A small group of retirees enjoy a Defined Benefit Pension (DBP). Largely phased out in the 1990s, these pension plans were typically offered to public servants at commonwealth and state level as well as those working for local governments. They are generally closed to new members. Those who do have one often receive a guaranteed income, for life, based on calculations related to work history and final salary. All risk is held by the former employer or the fund engaged to manage the pension.
If you missed out on a DBP and are not yet eligible for an Age Pension, you are no doubt aware that when you reach preservation age you can establish an Account Based Pension (ABP) which is an income stream allowing you to drawdown your superannuation. One reason that many people fret about the capacity of their super savings to support them in retirement is that most ABPs have funds invested in market-linked products. What does this mean? It means that when the financial markets go up, your savings are higher and when they slump (as they did at the beginning of the Covid pandemic), your savings are lower. It can be difficult to take a ‘long’ view when it feels that your ability to draw an income is dependent upon forces totally outside your control.
For this reason some people are prepared to pay a fee to purchase an income stream which is not affected by financial market volatility. The most common form of such income streams is an annuity. Some annuities are fixed term, others provide guaranteed income for life. Here’s an explanation of how they work.
Annuities are a form of pension which you purchase from a provider (usually an insurance company) for either a fixed term or a lifetime term. The main annuity providers in Australia are insurance companies.
Many retirees might purchase an annuity to supplement or ‘top-up’ their Age Pension income. They may also combine all three types of pension, by:
- qualifying for an Age Pension
- activating superannuation drawdown using an Account Based Pension and
- purchasing an annuity as a third form of income which has a guaranteed amount and duration.
As the names suggest, a fixed-term annuity is one purchased for an agreed period of time. A lifetime annuity lasts as long as you do. Clearly a lifetime annuity prices in unexpectedly lengthy longevity and is thus more expensive to purchase than a fixed term annuity. But as some retirees will be greatly comforted at the thought of receiving a fixed amount of income for as long as they live, they may view this higher price as a reasonable trade-off for the peace of mind.
Purchasing an annuity
In order to purchase an annuity using funds from your super, you must have reached preservation age. You can purchase as an individual or a couple. If you purchase as a couple there may be tax advantages by income splitting. If one half of the couple dies, a ‘reversionary benefit’ will allow the surviving partner to continue to receive regular income.
Payments from an annuity
You are able to nominate the amount you wish to receive and the period of time. You can index this amount to inflation and grade it (start higher or lower and adjust amount over time). Payments can be monthly, quarterly, half yearly or annually.
But payments must also respect rules of superannuation , including your minimum annual withdrawal limits – which have been adjusted in financial years 2019-20, 2020-21 and 2021-22, 2022-2023 to take the effect of the pandemic into account. The Australian Tax Office has very detailed information on these rules here.
As always there are Centrelink ramifications for annuities which will need to be taken into account before committing to this form of income stream.
In any discussion of creating income for life, it is important to also mention the role of cash investments. It is very common for retirees to hold large cash balances. This is because the money feels more tangible – if they need to , they can head down to the local bank branch and withdraw as much as they like. But whilst this may provide a strong degree of reassurance, overinvesting in cash also has significant drawbacks. In particular, with current interest rates at nearly zero, this money simply doesn’t earn much at all. If it was invested in other ways (bonds, shares, managed funds, Exchange Traded Funds or property trusts) it might earn more. The decision on how much of your savings to hold in cash, and whether there are better ways of utilising these savings needs careful consideration. Another way of using cash could be to pay down a mortgage. Yet another might be to purchase a different form of income stream. The goal, of course, is to get the mix right for your needs in a way that your income is for life and covers all your needs.
If you would like to reconsider your exposure to cash, or feel that your investment strategies might need a review and reset, or want to talk about your income needs over your retirement , why not make an appointment with one of our specialised retirement income advisers who can help you do the sums.
This article is provided by Retirement Essentials Representative Number: 001260855. We are an authorised representative of SuperEd Pty Ltd ABN 88 118 480 907 AFSL #468859. This information is not intended as financial product advice, legal advice or taxation advice. It does not take into account your personal situation, goals or needs and you should assess your own financial situation, consider if the information is suitable for you and ensure you read the relevant Product Disclosure Statement (PDS) if you choose to make any changes to your financial situation. It is always advisable to consult a financial adviser before making financial decisions.