Friday was the deadline for submissions to the Government’s Discussion Paper on a new phase in the evolution of the superannuation system – the Comprehensive Income Products for Retirement (CIPR) framework. The extended deadline reflected the importance the government attaches to the issue.
While the industry has had great success in the pre-retirement phase over the past 25 years, the increasing number of members reaching retirement age, coupled with increasing life expectancies, means funds need to turn towards the development of retirement products to meet the needs of an increasing portion of their members.
The proposed CPIR regime was born from a recommendation of the 2014 Financial System Inquiry – so it has had a long gestation period. We support the objective of CIPRs but have some important considerations to raise.
Income, risk management and flexibility
Pre-retirement superannuation is relatively straightforward – at least in terms of identifying what the target is! Generally members are looking to maximise savings at retirement whilst taking into account how comfortable they are with investment risk (ups and downs) along the way. In retirement the story changes – different retirees have different needs from their superannuation: to pay off debt, to live on through retirement, to leave something to their children. These needs are likely to change during retirement and few would be able to predict what their needs in retirement will be, even when they are in retired.
The proposed design of CIPRs is based on three proposed principles: a regular income, risk management and flexibility.
But how should these be defined?
Drawing on the different and uncertain needs of retirees, flexibility is definitely important but we propose amending the requirements to focus attention on income relative to needs and to steer away from implying CIPRs should provide regular income at a fixed level.
We are also concerned with the overall objective that CIPRs will lead to a higher level of income than the status quo (account-based pension drawn down at minimum rates). Although this sounds like a desirable objective – who would argue with a higher level of income as a concept?! – the proposed measure is too narrow. Again, it ignores the differing needs of retirees. If a retiree is drawing down minimum amounts from an account-based pension with the view to leaving a bequest to their children or is uncertain about the future and wants to keep a safety net, offering a product which increases income but at the expense of the remaining balance, won’t be a good thing.
In addition, any measure that a CIPR will provide a greater level of income than the status quo can only be assessed based on a set of assumptions which may not play out in real life. Leaving the fund to explain the wrong outcome to the member.
As always with superannuation, and heightened with the potential complexity and myriad of CIPRs, care needs to be taken to ensure retirees fully understand their options and potential outcomes and education and communication play important roles here.
In particular, we recommend three key disclosure requirements for CIPRs.
- Identify areas of uncertainty and convey the potential outcomes if reality differs from assumptions; secondly.
- Describe limitations or conditions for any guarantees.
- Provide transparency regarding the reasons that expected income is higher than alternative solutions.
An opt-in basis is the right approach
Given the immaturity of retirement products and, again, the differing needs of retirees, an opt-in approach for CIPRs is the way to go.
In the UK, compulsory purchase of annuities has long been a thorny issue – people reaching retirement have complained that their lump sums have been forcibly spent on annuities just when rates of return are low.
It is not difficult to imagine Australian retirees reacting in a similar way if CIPRs were made compulsory so it’s good to see that, instead, the framework is attempting to nudge retirees in the right direction.
But safe harbours are needed to help trustees
To help encourage trustees to dip their feet in the water it makes sense to support them with a safe harbour design feature. But trustees will still need to meet their best interest obligations. Our recommendation is a safe harbour work alongside a governance framework which defines and protects quality standards.
The establishment of a CIPR framework represents a good move for Australia and is an important step forward in focusing minds on how to fund retirement. But the devil is the detail. At the end of the day we’re designing for all of our futures.