Decumulation, the concept of income for life, can be considered “the nastiest, hardest problem in finance,” according to William Sharpe, a Nobel prize winner in Economics. The concept is challenging because the uncertainty of someone’s lifespan makes it difficult to know what to do with their assets. Fraser Stark, M.B.A., of Purpose Financial and Pat Leo of Purpose Investments discussed strategies and products to help Canadian plan members during decumulation in the International Foundation webcast, “Decumulation: Unique Challenges and Solutions for Members—The What, Why and How,” recorded on June 20, 2023.
Stark and Leo highlighted three takeaways for plan sponsors.
1. Decumulation is harder now than ever.
“Uncertain and rising life expectancy, less access to defined benefit (DB) pension plans, and growing inflation and market risks mean plan members need access to solutions ensuring income for life,” according to Stark and Leo.
Stark says, in Canada, “there is more than a 40% chance someone who is turning 65 today will live past 90.” More of the population is moving into the retirement phase due to the Baby Boom effect after World War II. While in retirement, people are living longer, making retirement planning increasingly challenging to ensure adequate funds during that phase. Also, the portion of the private sector worker population with a DB plan has decreased significantly—According to Statistics Canada, 8.8% of private sector workers were covered by a DB plan in 2019, down from 21.3% in 2019. These factors, combined with the current economic state, have plan members looking for decumulation solutions.
2. Consider innovative solutions.
According to Stark and Leo, “Continued innovation has produced solutions that incorporate longevity risk pooling in more flexible structures.”
In longevity risk pooling, individuals share lifespan uncertainty with others to produce positive financial outcomes regardless of how long one person lives. This pools longevity so more individuals can benefit and not run out of money in retirement.
Lifetime variable income funds are an example of a more flexible structure that uses longevity risk pooling. They are not guaranteed like an annuity but include investments mixed with risk pooling to provide income for life. Plan members participate in the market but also benefit from longevity risk protection.
3. Plan sponsors have a range of options for addressing decumulation.
“Plan sponsors can take simple steps to help retired plan members without incurring financial risk or operational burden,” according to Stark and Leo.
Plan sponsors can integrate the concept of decumulation into their plan, beginning with a gradual approach, and evolve their decumulation program over time. Here are different steps that can be taken, ranging from lower to higher effectiveness levels of support:
- Let retiring plan members remain in the plan, which will help both retiring and active plan members with fee savings
- Offer members decumulation vehicles like registered retirement income funds (RRIFs) and life income funds (LIFs) as a simple administration exercise that doesn’t take much time but still benefits members
- Offer members a one-on-one financial planning session with a financial planner to provide insights into decumulation
- Offer defined contribution (DC) pension plan members a variable benefits program when they start decumulating, which allows them to stay within the plan and take only the minimum or maximum distributions without having to transfer money out of the plan to an RRIF or a LIF
- Offer members access to decumulation investment options that include longevity risk pooling as a solution, not just a framework, to help members decumulate with fewer worries about running out of money in retirement.
International Foundation members can access a free recording to take a deeper dive into the topic.
Developed by International Foundation Information Center staff. This does not constitute legal advice. Please consult your plan professionals for legal advice.
