The Government plans to introduce a retirement income covenant for trustees from July 2022, which is a key step of the Federal Government’s plans to improve superannuation outcomes for individuals. However, some experts say the covenant will place yet another onerous obligation on trustees and isn’t needed.
According to Treasury, retirees often struggle to develop effective retirement income strategies on their own. Most people do not seek financial advice at retirement. Instead, many Australians follow others, disengage, or fall back on rules of thumb and defaults that do not fit their needs.
The government will soon impose obligations on all super funds, including trustees of self‑managed superannuation funds (SMSFs) and small APRA funds (SAFs), to provide a plan to maximise retirement income. Retirement income is the cash flow retirees live on when they are no longer working full time. From 1 July 2022, it requires every super fund to provide a document outlining their plan to achieve and balance the following objectives for all members of a fund:
- maximise their retirement income
- manage risks to the sustainability and stability of their retirement income; and
- have some flexible access to savings during retirement.
All SMSF trustees must now design a retirement income strategy to meet these new three requirements. According to Richard Dinham, head of client solutions and retirement at Fidelity, the investment needs of retirees are highly diverse. Under the new rules, trustees should separately consider the investment needs of accumulation savers and those who are already retired. It may be appropriate for superannuation funds to separate the assets of accumulators and retirees, he says.
“The right balance between risk level and targeted outcomes will vary by individual,” Dinham says.
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Drew Meredith, director of financial planning firm Wattle Partners, welcomes the changes and says the covenant will force investment trustees to formalise investment plans to maximise retirement income for superannuation members.
“Having advised clients through multiple market crises now, what stands out is the need for discipline and structure in everything we do,” he says. “The covenant, as far as I can tell, is asking retirees to go a little further than the current ‘investment strategy’ that must be passed by their auditors each year.
“Many investors we meet either have no strategy at all and are simply gathering a range of assets without any rules or concept of real diversification. The events of 2020 are testament to this with income levels having fallen by close to half over the last 12 months. Similarly, most SMSFs lack a real, coherent investment strategy that goes beyond broad asset allocation ranges and excluded investments.
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“In my view, every fund and investor for that matter, should have in place a detailed Investment Policy document, a key plan of which is identifying their retirement income and the course they should be taking to achieve it.”
However, Scott Keeley, a financial planner with Wakefield Partners, says the retirement income covenant is very light on detail and seem to be “another in a long line of unnecessary and onerous requirements on superannuation trustees.” At the same time, some SMSF already have in place the financial strategies in place, making the covenant redundant for some funds.
“Advised SMSF clients should already rest assured that the objectives of maximising retirement income, managing risks and access to savings are all being considered as part of their ongoing financial advice,” says Keeley.
“Advisers do a lot of work with retirees to ensure that the objectives addressed in the covenant are core to their advice.”
Keeley does admit, however, that there is a lack of retirement income products, with limited options for SMSF members to maximise their income in a structured way. Fidelity’s Dinham recommends the use of fit-for-purpose building blocks, which are blended in appropriate proportions for each member cohort to mitigate investment risks to which members in retirement are exposed. An example of a fit-for-purpose investment building block is defensive or low volatility equity.
“The characteristics of ‘defensive’ or ‘low volatility’ equity portfolios are effective in mitigating the market volatility usually experienced with listed equity and yet still providing exposure to the underlying ‘equity risk premium’ that is required by investors,” says Dinham.
“This, therefore, can help portfolios to be more sustainable over the longer term. There is a convincing argument that some form of more defensive equity or low volatility equity exposure is much better suited to the needs of retirees than using more conventional equity exposure.
“Defensive or low volatility equity is an appropriate form of growth exposure for portfolios that are in a state of income drawdown. However, these types of strategies can perform and behave very differently from conventional listed equity benchmarks. These types of portfolios have been available in Australia for some years but have so far not been adopted widely by superannuation funds,” says Dinham, who expects their utility to growth with the introduction of the retirement income covenant.
Australians are projected to accumulate increasingly significant superannuation assets by retirement. The median superannuation balances of men and women approaching retirement in 2019 were around $179,000 and $137,000 respectively . By 2060, the median earner is projected to accumulate over $450,000 by retirement .
In addition, much of the savings accrued by members through the superannuation system are not used to provide income at retirement. Instead, superannuation savings often remain unspent and become part of the person’s bequest when they die. The Retirement Income Reviews shows that retirees die with around 90 per cent of the assets they had at retirement.
 ATO TaxStats 2018-19, Table 5, Chart 12 (2021)
 Retirement Income Review (2020), p. 520