Written by Senior Regulatory Counsel Michael Mathieson
The final report of the Financial System Inquiry recommended that APRA-regulated superannuation trustees be required to offer a 'comprehensive income product for retirement'. Despite the rather grandiose description, this is a modest recommendation – which, in my view, is as it should be.
The recommendation in the final report stands in stark contrast to the retirement phase policy options canvassed in the interim report. Some of those policy options were quite radical. My view at the time was that the Inquiry had not done the work needed to support such bold options – see my earlier Unravelled article: Murray in a muddle over retirement incomes. Similarly, APRA sounded some notes of caution in its second-round submission to the Inquiry.
In this context, it is just as important to identify what the Inquiry has dismissed as it is to discuss what the Inquiry has recommended.
The Inquiry dismissed the idea of mandating specific retirement income products. As the UK has recently abandoned compulsory annuitisation (after long experience with it) it would have been a little surprising if the Inquiry had chosen to adopt it, or something like it.
The Inquiry also dismissed the idea of providing policy incentives to encourage retirement income products that help to manage longevity risk – the risk of outliving your retirement savings. Again, the Inquiry's stance is not surprising for a range of reasons, including its reluctance to consider, in any meaningful way, the interconnections between the superannuation system (on the one hand) and the tax and transfer system (on the other).
All of this is appropriate, in my view, given the significant limitations on the work carried out by the Inquiry – which was, after all, an inquiry into the broader financial system, not into retirement incomes.
And so we are left with the recommendation that superannuation trustees be required to 'pre-select' a 'comprehensive income product for retirement' or, to use the Inquiry's abbreviation, a 'CIPR'. A key point is that a CIPR would not be a true default product in the same way that a MySuper account is. A CIPR would not start automatically – it would only start if the member chose it. The member would remain free to do something else with their retirement benefit.
What, then, is a CIPR? Simply put, it is a retirement income that involves some degree of longevity risk protection. When you strip away all the verbiage in the final report, the recommendation amounts to little more than saying trustees should be required to allow members to take some of their benefit as a longevity-risk-protected income stream. (Even this goes further than what APRA recommended – which was that trustees should not be forced to provide retirement income products at all.)
That's it. And that's something many trustees already do. For example, many allow their members to buy an annuity through the fund. So, if the Government were to accept and implement the Inquiry's recommendation, many trustees would already comply. This may be contrasted with the introduction of MySuper – which involved a major upheaval for most trustees – and it is why I say this is a modest recommendation.
Examples of CIPRs
So much for the big picture – let's get to grips with the detail. The interim report gives three examples of a CIPR:
- example 1 involves a 23 per cent allocation of the retirement benefit to a deferred lifetime 'traditional' annuity (where the sum payable cannot be reduced by the provider) and a 77 per cent allocation to an account-based pension;
- example 2 involves a 17 per cent allocation to a deferred lifetime 'variable' product (where the sum payable can be reduced by the provider) and an 83 per cent allocation to an account-based pension;
- example 3 involves a 75 per cent allocation to an immediate lifetime 'variable' product and a 25 per cent allocation to an account-based pension.
The examples provided are very interesting. None of them involves any allocation to what is considered the high-water mark of longevity risk protection – an immediate lifetime 'traditional' annuity. Why did the Inquiry not include such an example? Was it because it would illustrate the modest reach of its recommendation? Or did it have something to do with the relativities of the total income produced under different scenarios (according to the Inquiry, the three examples identified above produce a higher income relative to an account-based pension drawn down at minimum rates). There is no way of knowing but the omission is intriguing.
It is also interesting that, where the longevity-risk-protected product is a deferred product (examples 1 and 2), the allocation of the overall retirement benefit to that product is quite small, relative to the allocation to an account-based pension.
Where the longevity-risk-protected product is an immediate product (example 3), the allocation is much more significant – 75 per cent. However, the product in the example is variable – the sum payable can be reduced by the provider. Not only does such a product raise income tax and social security issues, it also raises a more fundamental issue – the issue of trust. How do I know I can trust the provider not to vary my annuity unfairly? No amount of tinkering with the pension standards will solve the trust issue.
In conclusion, to answer the question posed in this article's title – my colleague Michelle Levy suggests that 'CIPR' should be pronounced 'kipper'. I tend to prefer 'sipper'. I have not been bold enough to ask Michelle how to pronounce 'circle'.