What you aren’t told
Many of the authoritative statements relied on by Retirees focus on retirement income alone, rather than on the wider view of all retirement assets.
For example, an often quoted guide is the amount of “income needed for a comfortable retirement“.
The Association of Superannuation Funds of Australia (ASFA) defines “comfortable” as “being able to pursue a range of leisure and recreational activities, as well as afford private health insurance and occasional international holidays” and quotes an amount needed of 67% of pre-retirement income as its Retirement Standard.
The ASFA guidelines are not incorrect, indeed it is one measure used in our own Annuity Income & Mortgage Calculator.
However, the income calculations by ASFA are expressly based on the assumption that the Retiree owns their family home, without a mortgage.
The significance of this key assumption is commonly overlooked or its implications not fully understood.
It is simply not enough to focus solely on retirement income alone, since this will not pay for a Retirees aged care accommodation bond. In most cases, that will be funded from sale of the family home when a Retiree is no longer able to age in-home.
The reality is that a retirement funding gap will emerge where a Retiree has depleted most or all of their home equity through use of traditional equity release products (i.e. reverse mortgages, shared appreciation mortgages, shared equity mortgages, retirement interest-only mortgages). Rarely is this warning given to Retirees by industry professionals or financial advisers.
In circumstances where a Retiree is left without sufficient equity to fund the aged care accommodation bond (and remember there may be two accommodation deposits – one for each partner if they separately enter aged care at different times – perhaps as a result of one experiencing a medical episode before the other or where they have different levels of care needs requiring separate rooms – then they have few alternatives:
- join a long waiting list for one of the few government-subsidized places that a facility is required to offer
- share a low-cost room designed for 2 up to 4 occupants
- pay much higher daily accommodation payment comprising a daily rental fee plus interest penalty
The ASFA calculations of income needed for a comfortable retirement simply do not account for these common circumstances and extra accommodation costs.
Further, the ASFA retirement income calculator does not include any amount for daily care costs in aged care.
A Retiree who has no home equity from which to pay an accommodation bond may need between AUD$56,000 up to AUD$65,000 per annum in retirement income that has not been included in the ASFA calculation, in order to pay for:
- fixed basic fee of AUD$51.21 per day
- means-tested care charges of up to AUD$75.43 per day
- daily accommodation payment typically between AUD$81.64 (for a room having a AUD$500,000 accommodation bond equivalent) up to AUD$106.14 per day (for a room having a AUD$650,000 accommodation bond equivalent), less the maximum government subsidy of AUD$55 per day
Retirees no longer active or ageing-in-the home, need to refer to the current Schedule of Fees and Charges for Aged Care in the Australian test market.
Measures of income needed for a comfortable retirement must be better understood and considered in a wider context of real-life ageing issues if Retirees don’t wish to be caught in a retirement funding trap.
Futureproof is able to rely on the ASFA retirement income calculations only because our Equity Preservation Mortgage® preserves all home equity so it is always available for these future funding needs, if and when required. This is simply not the case with existing equity release mortgage products, such as reverse mortgages and Retirees need to consider not one, but two, funding variables in their retirement funding equation being income + home equity.
Retirees also need to look other traps in traditional retirement income products and, particularly, existing equity release products.
The pros of these products seem obvious, but there are plenty of cons – regardless of whether they are annuities or reverse mortgages.
There are, of course, product limitations common to all retirement funding products (including Futureproof products), which cannot be designed out or simply add too much cost to the product. These include:
- fixed term contracts
- income stream is not inflation-adjusted
- early termination costs
- funds invested conservatively will always deliver low returns
- institutional or counter-party risk can never be removed
- there is no such thing as a ‘no risk‘ product
Annuities require substantial upfront cash capital to purchase. This is always going to be a problem for the 70% of retiree homeowners who are under-funded for their retirement – those who are are asset-rich and cash-poor.
What a Retiree is really doing when purchasing an annuity, is outsourcing their wealth management in retirement to an insurance carrier – this comes at significant cost. You are entering into a contract whereby the insurer takes your capital and, in return, pays a regular annuity income for an agreed period.
Retirees often overlook other retirement funding options, such as guaranteed income products and managed mutual funds or the option of self-managed investments in bonds & fixed interest asset classes, index funds, LICs and ETFs, all being relatively low risk but far less expensive than annuities.
Notwithstanding, many Retirees (even those who actually have sufficient money for retirement funding) will often buy an annuity solely driven by two fears:
- uncertainty created by longevity
- uncertainty of income due to investment risk and market volatility
However, there are widely recognized issues with annuities that need to be better understood by Retirees:
- the better your health, the poorer the value
- whilst your circumstances change, your invested capital remains locked up
- if early surrender is allowed at all, then it is very expensive with little or no return of premium
- poor investment returns
- fixed low withdrawal rate
- any market component of income is taxable
Insurance bonds are alternatives to annuities that offer similar levels of protection with lower costs and greater flexibility.
It is worth noting that not all annuities are created equal:
- some now have different options and levels of protections (each comes at a cost)
- most are now market-linked (variable annuities) introducing uncertainty as to the amount of income received each month
- a few have limited principal protection
Nevertheless, annuities will always be very expensive due to:
- anti-selection of risk by Customers, driving up the costs for the Product Issuer
- cost of guarantees
- insurer profit
- high costs of sale and commissions
There is wisdom in an old insurance industry saying … “annuities are sold, not bought“…
Traditional equity release mortgage products
Retirees need to look for different traps in traditional equity release products, notably reverse mortgages.
Again, the pros are obvious, but there are plenty of cons:
- high risk
- high interest rate (upto 250 bps higher than a forward mortgage)
- compounding interest (not simple interest)
- amount released is entirely inadequate to fund 20+ years of retirement
- typical minimum borrower age 65-70 years old
- actual age determines the allowable LVR
- these LVR restrictions limit loan amount
- no private Lender writes a reverse mortgage > 40% LTV or LVR
- debt doubles approximately every 10 years (give or take, depending on interest rate movements)
- rapid depletion of home equity
- rate of equity depletion by accrued loan interest increases over time
- negative equity within approximately 20 years (give or take, depending on house price movements)
- Whilst financial regulators now require lenders to offer a no negative equity guarantee, the insidious effects of compounding interest charges and resulting equity depletion, leaves most Retirees with insufficient home equity to fully fund their aged care accommodation bonds.
To sell a financial product to Retirees withdisclosing these hidden and self-insured risks is, in our view, irresponsible and unethical.
The risk of Retirees being left with no retirement funding options at their most vulnerable stage of life when, being unable to remain in the home when they can no longer age-in-the-home and low care becomes necessary or, worse, where high care is required following a medical episode, is both very real and totally unacceptable.
Given that an accommodation bond for a room in a quality aged care facility nationally in the Australian test market is an average of AUD$650,000 and in capital cities up to AUD$1.3M, a Retiree should aim to preserve a minimum of AUD$1 million in home equity for their future aged care needs.
Futureproof believes Retirees should always preserve their home wealth and that reverse mortgages should never form a part of any responsible retirement plan.
Better outcomes for Retirees
Futureproof products are built on our proprietary Equity Preservation Mortgage® and work very differently to deliver far better financial outcomes by overcoming the inherent defects of traditional retirement funding products.
Futureproof products have the following unique features:
- all existing home equity is preserved and guaranteed
- all future home equity (i.e. capital appreciation during the loan term) remains the Borrower’s
- simple interest is used (not compounding interest)
- interest is paid as incurred
- no age limited LTV or LVR% restrictions
- maximum 80% LTV or LVR total borrowing
- maximum 50% LTV or LVR for the annuity income
- lump sum option up to 10% LTV or LVR
- choice of annuity income periods
- choice of interest-only or principal + interest mortgage
- choice of fixed loan terms from 15 to 30 years
- option to choose a lifetime mortgage with no fixed term
- reversionary rights to spouse or partner
- annuity income is tax free
- lower interest rate than reverse mortgages
- fully insured mortgage
The average annuity amount released for a typical Retiree using an Equity Preservation Mortgage® in the Australian test market is AUD$540,000 (interest-only mortgage) or AUD$270,000 (principal + interest mortgage with nothing to repay), compared with just AUD$80,000-$100,000 for a reverse mortgage.
How our retirement income products work
Futureproof Retirement uses the Equity Preservation Mortgage® to fund fixed term annuity income for Retirees of any age.
We achieve this through:
- tax-free income stream for the annuity period selected
- payment of all loan interest on behalf of the Borrower
- mortgage insurance is funded on behalf of the Borrower
- existing home equity is preserved and guaranteed
- capital appreciation on the property remains the Borrower’s
A typical Retiree who has a home valued at the average for seniors of $1.1M (retirees average home value is 42% above capital cities median house price) can obtain:
- Using an Interest-Only version of the Equity Preservation Mortgage®, $36,000 per annum in tax-free income for 15 years (or more) with no depletion of their existing home equity.
- Using a Principal + Interest version of the Equity Preservation Mortgage®, the same Retiree can obtain a reduced annuity of $19,000 per annum in tax-free income for 15 years (or more) with no outstanding debt at the end of the loan term and no depletion of their existing home equity plus all future capital appreciation preserved.
Contact Us for more information on our Equity Preservation Mortgage® and the Futureproof Retirement™ fixed term annuity income product.