Decumulation Revisited

17/5/2019

This is the year for another Retirement Income Policy Review, carried out three-yearly by the Commission for Financial Capability (as successor to the Retirement Commission it inherits this requirement). At the end of April, I took part in a “Summit” hosted by the Auckland Retirement Policy and Research Centre which aimed to contribute to this review, which is due to report by the end of this year[1].

The previous 2016 Retirement Income Policy Review report called for more work on decumulation tools and mechanisms, but along with other recommendations of this review, not a lot appears to have been done. About three years ago I posted two pieces on decumulation –looking at what it means in relation to retirement income planning and the options available. I think that the term “decumulation” has become better understood since that time. So perhaps it is time for a revisit.

Especially as one of the terms of reference of the 2019 Retirement Income Policy Review is –

An assessment of decumulation of retirement savings and other assets, including how the Government can ensure New Zealanders make the most of their money in the decumulation stage.

How does decumulation fit into the policy system?

The “running down” or decumulation of savings and assets has always been an option for increasing retirement incomes, assuming people have them and are willing to use them. And whether they have been able to accumulate assets depends on individual life experiences, such as work careers and home ownership, and also on attitudes and expectations.

Many people die with money in the bank. This may reflect an intentional bequest motive, a “rainy day” contingency plan, or inertia. But, as an interviewee once remarked to me “there are no roof racks on hearses”!

There is certainly evidence that many older people need to supplement NZ Superannuation to have a comfortable standard of living. Decumulation (along with continuing in paid work) is a way of achieving this.

There are many ways in which government policy can either facilitate or produce barriers for decumulation. But, up to now it has not come explicitly into the policy sphere, except in the form of income and asset testing for residential care. There have been questions about how additional income from decumulation might affect access to income-tested benefits. We await with interest to see what the review will come up with and what the governmental response will be. One possibility would be to apply asset and income testing to home care services – as is done for residential care.

What are the current decumulation options?

1. Invest KiwiSaver lump sums, when schemes mature at age 65, and other savings. Use the returns for current income needs and leave the capital for a “rainy-day” or for bequest.
2. Draw down capital and accumulated interest regularly, based on a target income which you think you need and will need in the future But it may be hard to calculate how to make this last a lifetime as no one knows for sure when they will die.
3. Purchase a life annuity, providing an income guarantee until death[2]. There is such a scheme in NZ – Lifetime Retirement Income (https://www.lifetimeincome.co.nz/). Depending on how much you invest in this scheme you receive a fortnightly payment insured to continue for the rest of your life. It is possible to make lump sum withdrawals, but this will reduce the income received.
4. Trade-down to a smaller/less expensive dwelling; or move into a retirement village where greater certainty about housing costs are offset by a significant charge on home equity.
5. Use a commercial equity release scheme, mainly in the form of reverse mortgages with compounding interest on released capital loans. This option is offered in NZ by Heartland Bank and other banks. The Heartland option guarantees lifetime occupancy of your home; a no negative equity guarantee and there is no requirement to make any repayment until the end of the loan (https://www.heartland.co.nz/reverse-mortgage). Customers can take out lump sums or regular monthly advances from their cash reserve. The interest rate charged on the loan is variable and will change from time to time. At present the rate is 8%. This is applied as compound interest, so over several years the debt will increase accordingly.

[1] In Auckland I did not speak in detail on decumulation, I was outlining the retirement income eco-system which I blogged about late last year. But decumulation did come up.

 

[2] In the UK there was a policy which required a proportion of retirement scheme lump sums be used to purchase annuities (this is now been withdrawn).