Durability of income streams and longevity of members

Executive Manager, SMSF Technical & Private Wealth, SuperConcepts
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As you probably know, the life expectancy of males and females in Australia has improved dramatically over the past century.

Boys born between 2011 and 2013 can expect to live to age 80.1, or around 33 years longer than if they were born between 1881 and 1890.

And girls would be expected to live to age 84.3, or around 34 years longer than if they had been born near the end of the 1800s.

As this is an average life expectancy, it means that 50% of those children who reach those ages will live beyond that age. How amazing is that?

This table shows the increases in those life expectancies over the last century, which can only be expected to increase as time goes by.

Life expectancy (years) at birth by sex, 1881–1890 to 2011–2013


Sources: ABS 2014a; ABS 2014b (Table S1).

The impact on the way in which we live, work and play as well as spend our days in retirement is hard to even guess. Evidence shows that due to the conservative way in which life expectancies are determined they may be underestimated significantly.

Just think about how long we will need to save just to provide a reasonable income for retirement as the age pension probably will not be available in future in the same way as it is today.

Currently the age pension alone provides a minimum income to live on of about $22,500 for a single person and $34,000 for a couple. But if you wish to earn a comfortable income in retirement for 65 year olds you are looking at about $42,861 after tax if you are single and $58,784 after tax for a couple (Association of Superannuation Funds of Australia retirement standard as at June 2015).

Working out how much you will need to have available as a lump sum to provide an income in retirement if you were age 65 depends on a number of factors and may be calculated by using a number of methods. You could calculate the amount based on what you were earning just prior to retirement or you could work out the amount based on the estimated expenses expected to be incurred during retirement or just make a rough guess and hope it will be enough to get you by.

The amount estimated to provide a comfortable retirement assumes that the income you receive is spread evenly over your time in retirement.

However, this is rarely the case as expenses do not occur at an even pace and it could be expected there may be some lump sums or large expenses to pay along the way. These large payments may include large health care expenses and the speed at which the amounts from super are withdrawn may reduce much more quickly than planned or the balance in super may be impacted by the earnings rates credited to the account.

Case study

Let’s look at a single female who requires an income of $80,000 at age 65. Her life expectancy at that time is 22.2 years according to the most recent life expectancy table published by the government. This means, on average, she is expected to live to age 87.

If we were to determine that the pension was indexed annually at 2.5% and the superannuation fund earned on average 7% p.a. then she would need about $1.2 million to provide the required income spread over her estimated time in retirement.

However, if we assume she withdrew an additional amount of $100,000 when she was 70 and another $100,000 when she was 75 then her super balance would disappear about age 84. However, if the same withdrawal of $100,000 occurred at age 80 and again at age 85 then her super balance would disappear at age 86, giving her an extra 2 years of income to live on.

The lesson to be learned from the case study is that the longer you leave your money in superannuation the more likely it will last nearer to the time you had planned or in some cases it may last longer than you expected. If you withdraw more super from the fund earlier than you planned then your money may run out earlier. Part of this is due to the compounding effect of interest, which snowballs the longer the amount is invested.

What you are after in retirement is a durable income stream, which will last you till the day you die. You can help ensure this occurs by planning well in advance of your retirement and by thinking of building up a nest egg by the time you stop working.

Determining this amount would include taking into account the regular income you would like to receive during retirement, building in a buffer to take account of any large lump sum withdrawals you are likely to expect along the way and being restrained by drawing only the amount of pension you need to help the amount in your fund last until your dying day.

Graeme Colley is the Director of Technical and Professional Services at the SMSF Association

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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