The age-old problem of longevity risk

The issue of longevity and an income for life is an area that has long concerned retirees and those in the market that service them, according to Challenger Life chief executive, Angela Murphy. While there have been advancements in the types of products offered retirees, ambiguity about the tax treatment of some of those options has been confusing.

Challenger Life has just launched a new market-linked pension as part of its Liquid Lifetime Annuity. The pension will offer annuitants an income for life, with the size of those payments linked to the market performance of the chosen underlying index.

"We're seeing innovation come in a few fronts in terms of people looking to bring different options to help people manage retirement," she says.

"We've seen products that perhaps try to reduce the market risk that you face. When you hit retirement, you've got this pot of money all of a sudden and you're perhaps a little bit more sensitive to market downturn then you've been before, so we're seeing products come to market that are helping protect from that risk. We're also seeing products that help smooth the income that you have to draw."

Clarity around the tax treatment of lifetime annuities means that a lifetime annuity can now supplement a part age-pension. Challenger says that just 60 per cent of any investment amount in a Challenger annuity is included as an asset to age 84 (or for a minimum of five years), with just 30 per cent included as an asset thereafter.

Living longer

One of the advantageous of a life-time annuity over an account-based pension occurs when the retiree lives well past their life expectancy.

"If you happen to be in the 20 per cent, or even say top 10 per cent of longevity, if you happen to live through to 100, your account-based pension will take no account of how old you are, whereas that annuity is guaranteed to continue paying," Murphy says.

She adds that there has been a lot of interest in the product from financial advisers looking for longevity solutions for their clients.

"We originally came up with the product idea based on the feedback we've had from advisers wanting that longevity protection, wanting to be able to keep the market exposure. But then, even as we were thinking about what options - the risk-return options that we put together, even the indices - we tested that with advisers as we went," Murphy says.

There are five market linked options to choose from: Cash index; Conservative index; Conservative balanced index; Balanced index; and Growth index. Aside from the Cash index option, which has a single underlying index of the AusBond Bank Bill Index, the other options have a combination of indices which include the AusBond Bank Bill Index, the AusBond Government Index, MSCI World Net Ex Au Index, and the S&P/ASX 200 Net Return Index,

"We did a survey that tried to get a bit of a feel for how many advisers would be would be interested [and] it was above 80 per cent of advisers who indicated that they would be interested in a product that provided longevity risk protection, along with market exposure," Murphy says.

An institutional solution

Challenger has also been speaking with superannuation funds that are interested in offering members different retirement solutions, something that will become even more important given the Government's proposed legislation around a retirement income covenant, due to come in next year.

"It's also something that superannuation funds are really interested in, in terms of trying to look at solutions and options that they might make available to the members in retirement. Obviously, with the retirement income covenant coming in, they are needing to think through what is their strategy for retirement. So, they're exploring a lot of ideas as well," Murphy says.

Challenger Life has had workshops with a number of superannuation funds around what a compelling and comprehensive retirement option might look like and potential ways that they may be able to provide that component as part of a product to be offered to members.

Cost calculations

The cost of the product is absorbed into how the payments to the annuitants are calculated.

"We will outline from that annuity what the starting payment would be and what that payment will do over time and there is no additional fee that comes to Challenger as a result. Ours is a margin business so we have to make our money off that investment margin," Murphy says.

Challenger is promising more product innovation and not just in relation to annuities but also with regard to other kinds of superannuation products.

"We've been very focused on retirement. It's linked to our very core purpose. And so, we're looking to continue to innovate in this space," Murphy said.