What Foreign Decumulation Models Could Help the US?

As the shift from defined benefit pensions to defined contribution retirement plans has spread across the globe, so too has the number of countries grappling alongside the U.S. to determine the best approach to retirement decumulation.

Similar demographics in different countries mean that people in many regions and countries, including Europe, Australia and New Zealand, are also trying to determine the best way for retirees to draw down defined contribution savings and have money for a comfortable retirement that lasts as long as needed.

“The government systems that always provided lifetime income are eroding and near-collapsed all over the world,” says John Mitchem, a retirement policy consultant and principal of JM3 Projects. “Private retirement finance isn’t a nice extra. It’s becoming essential.”

But differing financial regulations, taxation systems and cultural attitudes toward retirement mean practices that work elsewhere in the world may not successfully translate to the U.S. For example, Chile and Australia have national, mandatory defined contribution systems, while workers in the Netherlands contribute to a pooled fund that pays out a collective, variable annuity to pensioners.

Still, there are benefits to examining other countries’ approaches to the decumulation challenge, says Lia Mitchell, a senior analyst for policy research at Morningstar.

“There are definitely lessons to be learned as the regulators and policymakers think about how to ensure that everyone gets the most out of the money that they have saved for retirement,” Mitchell says.

The Whole Retirement Picture

In Australia and New Zealand, workers’ pension pots follow them from employer to employer, rather than being left behind in multiple plans as the saver changes jobs. The portability of Oceania superannuation plans makes it much easier for savers to not only know how much they’ve accumulated, but also to plan informed decisions about what to do with their balance.

“It’s much harder to make a decision if the pot is split in five or 10 places,” Mitchell says. “If you’re thinking about annuitizing, the options and the benefits are different if you have a lot of small accounts, versus one larger account.”

Meanwhile, in the U.K., retirement providers are working to connect to legally mandated pension dashboards, which will allow savers to view all their retirement savings—including workplace savings, personal pensions and the state pension, in one digital location.

“[Such dashboards] would potentially allow them to see basically everywhere that they have accounts, and then that would potentially allow them to look at bringing assets together and making decisions,” Mitchell says.

Better Default Pathways Focus on Income

In countries like the U.K. and Australia, providers are creating default investments pathways with an embedded retirement income stream. By comparison, most U.S. plan participants direct their savings into target-date funds that are largely accumulation oriented.

“Target-date funds do a decent job helping people diversify their portfolio up to retirement,” says Olivia Mitchell, a professor of business economics and public policy at the University of Pennsylvania’s Wharton School. “What they don’t do is automatically embed lifetime paychecks after retirement.”

Meanwhile, savers in Chile invest in TDF-like funds, but at retirement, they must choose between purchasing an annuity or taking programmed withdrawals.

“In the United States, we’ve really not devoted enough attention to retirement defaults,” Olivia Mitchell says. “Especially in this age of rising longevity, it will be very, very important to design that default pathway.”

Guidance at the Point of Retirement is Key

The U.K. offers a model of guidance at retirement: Pension Wise, a free, government-backed service that connects defined contribution savers with trained pension specialists. When they approach retirement, participants can complete the guidance online or book a roughly one-hour telephone or video appointment to discuss their options for accessing their pension savings, including the trade-offs involved in various withdrawal strategies.

Many Australian superannuation funds have adopted a digital-first approach to retirement guidance, using online tools and algorithms to generate an initial retirement income strategy. But for more complex or consequential decisions—such as purchasing a lifetime income product or determining a long-term withdrawal strategy—members are often encouraged or referred to a human financial adviser to help them understand the trade-offs and personalize the plan.

“Technology and AI have an important role to play in making guidance more accessible and affordable, while ensuring specialist advice is available for members with more complex needs,” says Rose Kerlin, deputy chief executive and chief member officer at AustralianSuper. “The opportunity is to provide trusted support to far more members than traditional advice models can reach.”

Pooled Plans Hold Promise

Australia’s super funds and the U.K.’s master trusts show that large, pooled arrangements create scale and make it easier to build and deliver sophisticated retirement income solutions, without some of the challenges faced by the highly fragmented U.S. market. As pooled employer plans in the United States start to grow and consolidate assets, they may enjoy some of the same advantages, says David O’Meara, head of defined contribution investment strategy at WTW.

“We might start to see some of those solutions [from PEPs] when they have scale, being more innovative and being willing to step out and build these types of solutions that we know people want and they need,” O’Meara says.

In several countries, plans also assume fiduciary liability, removing it entirely from employers. While PEPs do not go that far, they do handle administrative duties and reporting, and they can assume full discretionary authority over investment selection, making them an appealing option.

Only Part of the Solution

Many international plans use annuities as one tool, rather than the whole solution for decumulation. Switzerland’s framework, for example, gives retirees the option to move some or all of their pension savings into a lifetime annuity, while taking any remainder as a lump sum, allowing many retirees to combine guaranteed income with financial flexibility.

U.S. plan sponsors might take a similar approach, allowing retirees to direct a percentage of their balance into an in-plan annuity or pooled income option, while keeping the rest in a systematic withdrawal or target-date fund. Olivia Mitchell says that many retirees might benefit by purchasing a deferred annuity with about 20% of their retirement assets when they stop working.

“I think [partial annuitization] is helpful in protecting people against longevity risk, against running out of money when they get old,” she says. “It also allows the remainder of the nest egg to be invested in assets as the retiree chooses.”

At AustralianSuper, the focus is more on the retirement outcomes than the products themselves, Kerlin says.

“Lifetime income products can be an important part of the solution, but they’re only one part,” she says. “It’s important that members understand their options through guidance, education and support, so they can make informed decisions and feel confident about retirement.”