Retirement income & you

Turning 60 is an important milestone in our lives, one on which many look upon with apprehension or even dread. But why? The kids have probably left the nest, your mortgage is paid off or on its last legs and for many, turning 60 also signals the end of the daily grind, with your retirement dreams of travelling the world, sipping cocktails on a beach or simply spending more time with the grandchildren now finally in reach.

But how do you turn those dreams into reality? When your employment income ends, how do you generate a regular income to pay for those cocktails or that trip to Paris?

For most Australians, superannuation will be the second largest asset they will own in their lifetime; behind only the family home. Mandatory superannuation guarantee (SG) contributions made by your employer during your working life, coupled with concessional tax rates (currently at a maximum of 15% on contributions and earnings) result in superannuation being an excellent structure in which to accumulate wealth for your retirement. As such, superannuation should always be a key component of a broader wealth accumulation and retirement income strategy. Where superannuation really excels, is providing a tax effective income stream in retirement. This article outlines some of the key retirement income strategies available to you both before and after you decide to retire.

Accessing your super before retirement

Many people fail to realise that you do not need to fully retire in order to access your superannuation; you need only reach ‘preservation age’. Those born before 1 July 1960 will reach preservation age at 55, which then gradually increases each year to age 60 for those born after 1 July 1964 as shown in the table below.

Date of birth

Preservation age

1 July 1959 – 30 June 1960

55

1 July 1960 – 30 June 1961

56

1 July 1961– 30 June 1962

57

1 July 1962– 30 June 1963

58

1 July 1963– 30 June 1964

59

1 July 1964– 30 June 1965

60

Once preservation age is attained you gain limited access to your superannuation until such time as you either retire completely or reach age 65, at which time full access is granted.

Transition to Retirement Income Stream strategies

If you have reached your preservation age, a Transition to Retirement Income Stream (TRIS) allows access to your superannuation by way of a regular income. This income can help people to wind back their working hours as they approach retirement, whilst also allowing you to continue building your overall wealth.

The two main benefits of a TRIS are as follows:

  1. The tax on earnings and capital gains within superannuation is reduced to 0% on the balance of your superannuation used to support your pension payment, and
  2. For individuals under age 60, the taxable component of the pension payment is assessable as income which in turn receives a 15% tax offset. For many, this means that very little tax, or no tax is paid on the pension received.

Once you turn 60, the strategy becomes more effective as the income becomes completely tax-free. That’s right; you will not pay $1 in tax on the TRIS payments received.

However, there are limitations to this strategy. The government has set both minimum and maximum limits on the level of pension income you can receive while engaging in a TRIS strategy. Between preservation age and age 65, you must take a minimum pension amount equal to between 3% and 10% of your superannuation balance measured as at 1 July each year.

For an individual with $100,000 in superannuation, this would give them access to an amount of between $3,000 and $10,000 in superannuation income each year. The maximum withdrawal limit is the key restriction to be aware of; however full access can be attained by either retiring or turning 65.

What happens when you retire?

Account Based Pensions

Once you do retire completely (or reach the age of 65) you may choose to convert your TRIS and any remaining superannuation to an Account Based Pension (ABP). An ABP works in the same way as a TRIS with one important difference. An ABP allows access to 100% of your superannuation balance, tax-free if you are over age 60. It also gives you the ability to take lump sum payments for one-off costs (such as those flights to Paris).

The limitation is that you must still take the minimum mandatory payment each year as set by government regulation which is based on your age and shown below:

Age

Minimum Percentage Income

Under 65

3%

65 – 74

3.75%

75 – 79

4.5%

80 – 84

5.25%%

85 – 89

6.75%

90 – 94

8.25%

95 – or more

10.5%

The key risk for both of these strategies is that the superannuation income streams are linked to the market performance of the investments underlying your superannuation balance. As such, there’s no guarantee that your income stream will last as long as you do. If the underlying investments grow in value, your income and pension balance may also increase over time. However, when markets fall, your pension balance and income in turn are likely to be adversely affected.

Increased Security

Annuities

To remove this uncertainty, an annuity may be appropriate for some individuals. An annuity is a simple, secure financial product where an upfront investment can be used to purchase a guaranteed regular payment (monthly, quarterly, half-yearly or annually) for a specified term (anywhere from 1-50 years or ‘life’). This security is one of the most attractive features offered by an annuity. Knowing that you will receive the same monthly payment in 25 years as you do today can be very comforting, and it makes budgeting for that trip to Paris much easier.

What an annuity lacks is both flexibility and potential for capital and income growth. For example, if you purchase an annuity with an interest rate of 5.5% per annum and monthly income payments of $5,000; that is exactly what you receive for the life of the product. There is no option to increase the payment or take a lump sum, and if the market returns 10% for the year, you will still only receive 5.5%. Conversely, if the market returns 0%, you will still receive 5.5%.

Next steps

This article is not designed to tell you which retirement income strategy is best for you; it simply highlights some of the tools available to help you along the way. The key to building a successful retirement strategy is to define what’s important for you to achieve in your retirement years. Do you want enough go out for dinner with friends a few nights a week? Take an overseas trip (or two) every year? Pay for your grandchildren to go to school? As you grow in wisdom and in age and your goals evolve, so too should your personal retirement strategy.

With a clear sense of your goals, a qualified financial advisor will be able to help you to assess the level of annual income you need to fulfil these goals, and using the strategies outlined above, cocktails on the beach and the trip to Paris may not be as far away as they seem.