The concept of retirement has changed so much since my grandfather’s day. He retired at 65 with modest means and owning his home. He never went on a cruise or European tour or bought a caravan or moved into a retirement village with all the trappings…café, swimming pool, gym, aqua aerobics. He lived frugally and died at age 85.
That was a different generation. Today’s retiree expects much more…and, on average, are living longer.
But how do you fund that more expensive lifestyle with interest rates at zero?
You probably didn’t see the Australian Treasury’s ‘Retirement Income Review Final Report July 2020’, let alone read all 648 pages of it.
However, if you read between the lines you can see where retirement income policy is headed.
Here’s a couple of extracts (emphasis added):
‘As at June 2019, around 71 per cent of people aged 65 and over received Age Pension or other pension payments. Over 60 per cent of these were on the maximum rate. For most households aged 65 and over, Retirement Income Review Final Report 18 the family home is their main asset. Superannuation makes up a small share of their net wealth. This will change as the superannuation system matures.’
Got that…the family home is the main asset. Which neatly rolls into this…
‘Using superannuation assets more efficiently and accessing equity in the home can significantly boost retirement incomes without the need for additional contributions. A range of measures could help people have the confidence to use their assets more effectively, including focusing retirement planning on income streams rather than balances, better quality and more accessible advice and guidance…’
The softening up campaign is beginning. The message from on high is start opening up to the prospect of your home and retirement capital (superannuation balance) making a contribution to your retirement income needs.
The numbers on the age pension are significant. Do the math…71% of people over 65 receive an Age Pension and of these, more than 60% receive the maximum…this means greater than 40% of over 65 receive the full pension.
With an ageing population, it’s hard to see taxpayers of tomorrow being able to afford this cost PLUS the huge bill we’ve incurred from the recent stimulus efforts.
Something has to give. Higher taxes. Less pension. More onus on individuals to draw down on their assets…home and super.
Selling off the family home…brick by brick
I can recall when ‘reverse mortgages’ were first introduced into financial planning.
If my memory serves me correctly, it was early 1990s. The product had met with some success in the US, so the concept was brought to Australia.
Initially, the product struggled to gain traction.
The mindset of retirees at that time was to live off the capital — which was achievable with 10% interest rates. When you died, the family would inherit the capital and the house.
As interest rates fell and share markets became a little more volatile, that mindset changed.
The term SKI (spending the kids’ inheritance) came into vogue. The attitude was one of ‘we’re going to enjoy our money while we’re still alive and if there is anything left, they can have that and the house’.
Be prepared to leave next to nothing behind…
The government is subtly changing that narrative. Be prepared to leave next to nothing behind.
In the coming years, I expect to see reverse mortgages increase in popularity.
If you are uncertain how reverse mortgages work, here’s an extract from the ASIC website (emphasis added):
‘A reverse mortgage allows you to borrow money using the equity in your home as security. The loan can be taken as a lump sum, a regular income stream, a line of credit or a combination of these options.
‘While no income is required to qualify, credit providers are required by law to lend you money responsibly so not everyone will be able to obtain this type of loan.
‘Interest is charged like any other loan, except you don’t have to make repayments while you live in your home — the interest compounds over time and is added to your loan balance. You remain the owner of your house and can stay in it for as long as you want.
‘You must repay the loan in full (including interest and fees) when you sell your home or die or, in most cases, if you move into aged care.’
The amount borrowed PLUS compound interest — if the contract was entered into after 18 September 2012 — cannot exceed the property value.
That’s some comfort…especially if there’s a significant correction in property markets.
To illustrate how this great asset swap — from individuals to institutions — will occur over the next few decades, the following screenshot is from the government’s Moneysmart site.
The example is of a 65-year-old who borrows $200k against a home valued at $800k.
Assuming the home increases in value at 2% per annum and with a loan rate of 6%, at age 90, they will have lost 68% of the equity in their home.
Source: Money Smart
The other risks with reverse mortgages are…
The current rates for reverse mortgages range between 5 and 6%. Who knows what rates will apply in a decade or two’s time?
With longer lifespans, there’s the very real risk the snowballing effect of the reverse mortgage could consume the entire equity.
The other risks that need to be considered are (courtesy of ASIC):
‘Interest rates are generally higher than average home loans
‘The debt can rise quickly as the interest compounds over the term of the loan this is the effect of compound interest and is something you need to be aware of before making any decisions
‘The loan may affect your pension eligibility
‘You may not have enough money left for aged care or other future needs
‘If you are the sole owner of the property and someone lives with you, that person not be able to stay when you die (in some circumstances)
‘If you fix your interest rate then the costs to break your agreement can be very high’
The other product trap I see coming in a world of low returns, volatile share markets and longer lifespans, is the lifetime annuity.
When the next market shakeout occurs, watch for the annuity ads to appear on TV. They’ll come thick and fast as the institutions tap into society’s fear. The offer of a guaranteed income for life — without having to worry about volatility — will hit the right chord for the masses.
Why on Earth you’d give your capital to an institution for them to feed it back to you on a monthly basis is beyond me. But mark my words, the lemmings will flock to this product in times of uncertainty.
While I see a market correction as a time to get excited about buying discounted assets with double digit dividend streams, the majority see it as a time of panic. They’ll exit their beaten-up balanced fund and rush to the perceived safety of an institution that intends to drip feed their remaining capital back to them…provided the institution remains solvent.
When you start seeing the ads for these products in the coming years, remember to act with caution and don’t follow the herd.
My long-term prediction is the majority of today’s retirees under 70, will end up giving their homes (via reverse mortgages) and retirement capital (via annuities) to the institutions.
Go against the crowd. Don’t follow the government’s preordained path of meekly handing your hard-earned capital over to the institutions.
Act smart. Avoid the crash. When the time is right, heavily sold down assets will be paying dividend and rental income returns of nine, 10, 11% or more.
Editor, The Rum Rebellion