A Canadian Institute of Actuaries research paper published this past June, which studied the state and perceptions of Canadian pre-retirees and retirees, has important implications for financial planners and financial advisors in the ways they design and implement retirement income and pension solutions for their clients.
The most salient findings and issues to take note of in the research paper, entitled Retirement Consumption, Risk Perception and Planning Objectives, are:
- Expected retirement age: Pre-retirees expect to retire at a later age than retirees have experienced. Pre-retirees’ expectation for the age of retirement is a mean average of 67.1 vs a mean average retirement age of 58.6 for actual retirees.
- The prevalence of low wealth in retirement: A majority of those who participated in the study have or expect relatively low liquid retirement assets — below $200,000 for single pre-retirees and below $300,000 for married/common law pre-retirees. These figures imply low living standards in retirement, which will be a challenge for retirement planners to help their clients increase these assets.
- Severe underestimation of survival probability to an extreme old age: 92% of those who participated in the study reported a subjective survival rate well below the objective rate implied in the most recent life table. This behaviour may result in severe financial consequences at an extreme old age.
- Retirement income expectations: This finding is to be expected, but fewer pre-retirees have defined-benefit workplace pension plans, making retirement income less certain. Some of these pre-retirees may underestimate public pension benefits due to a lack of knowledge of the Canadian retirement income system.
- Retirement planning and spending concerns: The four most important concerns when making planning and spending decisions are liquidity; consumptions/income smoothing; inflation; and longevity. In contrast, bequest and investment risk-taking are considered to be least important. Wealthy participants in the study are more concerned with meeting home care or nursing home expenses than longevity risk. Participants with extremely low levels of wealth are more concerned with consumption/income smoothing. Female participants are more concerned than males, in general, with retirement planning and spending concerns.
- Seeking professional financial advice for retirement planning: The overall attitude toward seeking professional advice is positive. However, behaviour is strongly linked to the value of liquid assets. Those with low levels of liquid assets show little interest in seeking advice due to affordability. In general, though, these participants show high concerns over accessing quality service, conflicts of interest and fraud. This reveals that Canadians who need help the most are not seeking advice.
- Attitudes toward life annuities: The study confirms the widespread aversion for life annuities, for which participants have a profound subjective undervaluation of a life annuity’s monetary worth and extreme reluctance in purchasing a life annuity at any price. A general fear of provider default is the main reason driving this aversion. Annuities also are perceived as a risky “gamble” of whether a retiree can “win” by outliving the pool of annuitants. Furthermore, the lump-sum purchase results in the perception of losing financial flexibility, control and security. (It’s worth noting that the most descriptive retirement decision-making models don’t consider these factors.)
- Risk decision-making: The research shows that when facing investment risks, the potential for upside gain drives decision-making. Moreover, having a higher minimum income protection (often provided by public pension income) induces more risk-taking behaviour. In dealing with inflation risks, participants, in general, lack the understanding of inflation’s long-term cumulative impact on the cost of living. When the effects of inflation are depicted for them, retirees opt for solutions with inflation protection.
This study demonstrates that much work remains to be done to help Canadians with their retirement strategies. Financial planners and advisors should not use standard retirement decision-making models and try to fit the needs of pre-retirees/retirees into them. Rather, financial planners and advisors need to put the needs and perceptions of the pre-retiree/retiree — such as their mental state, physical health, emotional state and family objectives — at the centre of the conversion. Once a good understanding is achieved, the retirement decision-making model can be adjusted to address the individual’s needs and perceptions to calculate the required quantitative retirement plan.