In Harvard Business Review Article “What do People Have Against Retirement Income?”, John Fox suggested that people who have committed their funds to retirement are unlikely to convert these funds into pension-like life annuities that guarantee a monthly check until they die.
In numerous conversations with my clients in their pre-retirement and retirement phases of their lives, many of them bear testimony to the observation made by him. Few dispute the fact that longevity is likely going to be a major factor that could see a retiree exhausting his retirement savings. Indeed, in a Channel News Asia article published on 26 Nov 2020, the life expectancy of Singaporeans is among the highest in the world. Singaporean men have an average life expectancy of 81.4, and Singaporean women have an average life expectancy of 85.7.
This is a concern for our local government, therefore the launch of the CPF Life Scheme in 2009 to ensure that the retirement funding needs of future generations would be less impacted following our rising life expectancy.
I recently had a discussion with a client. He held a good corporate job in his youth and was able to retire at a relatively young age of 55. He shared with me that his heart ached whenever he went to the ATM weekly to withdraw $200 for his expenses, as he felt that he was depleting his savings. It is quite ironic as he had enough savings to allow him to withdraw at least $10,000 a month till the age of 85, even if things remained status quo! Earning a good income and spending freely is quite a different feeling compared to spending from your savings without any regular income streams.
It is therefore important that one is able to recreate a stream of regular income at retirement so that he can be freed from the worries of having to manage his finances. From this perspective, it is interesting that “almost every economist you ever speak to says that’s what you want to do — have your money in a life annuity with survivorship benefits. But no one ever wants to do that.” as Bob Pozen, Harvard Business School Senior Lecturer puts it.
It seems strange then that many retirees would prefer to hold their retirement savings in lump sum rather than in annuitized manners, even if the latter should be a preferred option. A research paper published on 28 January 2014 in regards to “The Illusion of Wealth and Its Reversal” concluded that for smaller amounts of money, a middle aged adult felt that a lump sum would be more adequate for retirement than an equivalent monthly annuity. In my perspective, this illusion tends to cloud our judgment and makes lifetime payout options appear less attractive to us.
However, the biggest advantage of a lifetime payout is precisely that. It pays you a stream of income for life and ensures the individual doesn’t run out of money before he dies. Unfortunately, the downside is that your retirement funds are locked in. If all your funds are locked in, you cannot give them to your loved ones and you may not have enough to cushion unexpected expenditures such as medical bills. This is coupled with the risk that the insurer may fail to pay up. (which is mitigated in Singapore by the Policy Owner’s Protection Scheme, but it’s certainly not totally risk free!) The way to get around this is to ensure that one has sufficient emergency reserves (depending on individual financial needs, it may range up to 12 months of monthly expenses) and comprehensive medical coverage.
Having lifetime payout options can be used to supplement one’s CPF Life or vice versa, when it comes to retirement income structuring. For one, even with the full CPF Minimum Sum set aside at 55 (2013: $148,000), one can only expect to receive about $1000-$1250 a month at age 65 for a lifetime. Whilst this may seem sufficient for most basic expenses, we need to be aware that the payouts are not adjusted for inflation. At an assumed 3% rate of inflation, the value of your $1,000 may drops to less than $650 in 15 years and to less than $500 in 25 years. At an assumed 5% rate of inflation, $1,000 today may be worth less than $500 in just 15 years! Unfortunately, there are currently no optimal solutions in the market that can solve the inflation conundrum. Nevertheless, by speaking to a good adviser, you will be better off taking charge of your retirement income structuring now than waiting till the day finally comes and realizing that it is too late to do any planning!
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