Innovative Retirement Income Streams (IRIS), are one of the most exciting new developments in retirement planning.
The roots of IRIS lie in superannuation changes that the federal government introduced in 2017. Treasury and the government wanted retirement providers to start addressing issues around longevity risk, which is the risk that you outlive your retirement funds. To assist, they created a new condition of release and pension category. This was intended to encourage product providers to create new and innovative solutions to the challenges retirees face.
As a Certified Financial Planner of over 20 years, I can share multiple strategies to improve your retirement, but in my experience it is fairly rare to see new innovation like this. The industry took a while to rise to the opportunity that innovative retirement income streams provide, but I expect we will see a proliferation of IRIS across the market from here, due to the benefits they can provide retirees.
In this blog we go into detail about what innovative retirement income streams are, what their benefits and disadvantages are, and we review a particular product solution to show you how it can work for many retirees.
Introduction to Innovative Retirement Income Streams
Innovative Retirement Income Streams have the potential to super charge your retirement income. They are a great option for many Australian retirees, because of their design. Essentially they are designed to help make retirement funds last longer, so retirees are more confident to spend in retirement. These benefits are achieved through Age Pension advantages and bonus credits.
The real value of IRIS lies in the Centrelink treatment for age pension, because once an IRIS lifetime income stream is implemented, it receives a 40% reduction in the assessed asset test value for Centrelink. What this means is that Centrelink deem it is worth less than it really is, leading to more Age Pension entitlement.
While this is clearly a great benefit, it is possible to enhance the reduction in asset test value further. It is even possible to have the entire pension assets test exempt. This can literally super charge your Age Pension eligibility if you have assessable assets, but also a low income.
The way innovative retirement income streams work is split into three phases:
- Deferred Income stage
- Full retirement stage
Accumulation Phase Of Innovative Retirement Income Streams
While your super is in accumulation phase, IRIS operates the same way any other superannuation accumulation account does. You can make ongoing contributions and invest in a manner you choose. There are normal costs associated to running your fund, such as provider fees, taxes, and any insurance costs. Then in the end you’re left with your super balance, like any other fund.
If you decide you want to roll out of the IRIS accumulation account, you can do this. So it is flexible, and allows you to assess the value of IRIS for your retirement over time, before committing further.
The major benefit of an Innovative Retirement Income Stream accumulation account is linked to how Centrelink assess the value. To calculate value, Centrelink take your contributions minus withdrawals, plus an assumed earnings rate equal to the maximum Centrelink deeming rate (currently 2.25% at 16/06/2023). This means if your account earns more than the deeming rate, Centrelink will use a lower asset test value than your actual balance. Over a long period of time this can add up to quite a substantial difference, which we have highlighted in an example below.
Illustration of Centrelink's deemed asset value and actual return
In this example the start balance is $150,000, with $12,000 of contributions annually. Contributions are assumed to increase by inflation of 2.5% each year. The investment time frame is 20 years and the earnings are a net 5% p.a. This compares to the current deeming rate of 2.25%.
As should be clear, the more you outperform the deeming rate, the larger the difference in assessed value becomes. But furthermore, when you transfer to either the Deferred Income stage or Full Retirement stage, the Centrelink assessed asset balance reduces by another 40%. So in this case the asset test value would reduce 40% further from $591,199 to $354,719!
2023 Centrelink Asset Test Thresholds – How Assets Test Works
To determine your total assets, Centrelink consider any property or possessions you own in full or in part, so this would include the assets test assessed value of an IRIS. Furthermore, it can be anything owned outside of Australia and debts owed to you as well.
To receive the full Age Pension, your total assets cannot be over the below limits based on your personal circumstances.
Important to note, if you are a member of a couple, the limit is on yours and your partners combined assets.
If you are over those limits, you may instead be entitled to a partial pension. To receive a partial pension, your assets cannot be over the below limits.
As of 20th September 2023, your partial pension will be cancelled if your assessable assets exceed the following limits:
To learn more about how Age pension works and what you could be entitled to.
When Must An IRIS Accumulation Account End
In this IRIS product we are talking about here, the inflection point is when you meet a condition of release. The most common occurrence of this would be if you are over age 60 and cease work, or if you reach age 65. At this point you have 14 days to either transfer your holding into another super fund or alternatively the Deferred Income Stage or the Full retirement stage. If you make no nomination it will automatically be transferred to a standard accumulation account, losing the benefits you have built up to that point.
IRIS Deferred Income Stage
Upon meeting a full condition of release over age 60, such as retirement or reaching age 65. You’ll either need to leave your Accumulation account (giving up the benefits you’ve built up), or convert to either the Deferred Income stage or Full Retirement stage.
The deferred income stage will mean your investment earnings are no longer taxed. This is a normal benefit of retirement income streams when you are over 60 and have converted your super to pension. However what is interesting about this IRIS, is that you will receive an annual bonus amount from the provider. This is equal to a percentage of your balance, that gets larger as you age. In the deferred income stage you may also start making withdrawals if you want to. There is a maximum allowed each year, which depends on your age as well.
Strategically, one of the most important considerations for the IRIS deferred income stream, is that Centrelink’s assets test formula is contributions minus withdrawals. Therefore by taking payments as withdrawals, it further reduces the assets test assessment and potentially boosts age pension eligibility.
If for a moment we take the previous example and assume the person is age 60 in year 20. Then assume they commence a deferred income stream and make maximum withdrawals each year until age 67, the chart changes and is illustrated below.
Illustration of Centrelink's deemed asset value and actual return, by implementing deferred income withdrawal strategy
In addition to what you see, during this period they’ve received withdrawals amounting to a total of $478,929 entirely tax free. This would be on top of their employment earnings if they were still working. Note that withdrawals are not automatic because the Deferred Income stage does not actually pay an ongoing income. Instead, you are taking lump sum withdrawal’s, known as a commutation.
While in the deferred income stage, you will receive a bonus into your account, paid by the provider's insurer. The bonus starts off small and grows as you get older and is dependent on your death/exit benefit value. Importantly, if you don’t elect to take the death benefit, you will receive a higher bonus rate.
Full Retirement Stage
Generally, after retirement most people would want to establish a regular ongoing income from their Super. This is where you convert from either the Accumulation stage or the Deferred Income stage, into the Full Retirement stage. At this point, you will automatically receive the maximum income amount each year from your Innovative Retirement Income Stream. If you would like a lesser amount, you’ll need to advise your provider as such.
You may enter into full retirement stage IRIS, when you meet a condition of release. If you have not accumulated Centrelink asset test benefits, (i.e. through either time invested in the Accumulation phase of IRIS or in the Deferred Income stage), then your minimum benefit is a 40% assets test reduction on the invested value. This is a significant reduction in assessable assets on its own, that can improve your Age Pension entitlement, but as we've illustrated, their are ways you can make the benefit far greater.
In addition to asset test benefits, Innovative Retirement Income Streams give regular bonuses. What's more, bonuses grow larger as you get older, which are specifically designed to reduce the risk of your balance running out over time.
Strategy considerations including Centrelink Income Test
It is important to note, that the income you receive is assessed by Centrelink at 60%. This means that there are limitations on how much Age pension you can get. To get the most benefit therefore, you really need to be strategic and balance your approach.
To illustrate this, if we consider the example we provided in the Deferred Income stage. The actual account value had grown to $872,798. Lets assume the person is 67-year-old and therefore eligible to Age Pension. By taking the maximum pension payment from their full retirement stage IRIS, it will be $67,827. This means Centrelink will assess 60% of it as income or $40,697.
Comparing this to a standard account-based pension, the assessed income would have been $19,638. The difference is because assessed income is usually deemed. In this example we have assumed the maximum rate to be conservative too. Even considering this, it is an increase in assessed income of more than double. So this presents an important planning consideration.
One option for managing this, which the IRIS offers is to reduce the payment. However it is important to note that if you don’t take the maximum, the excess you have left behind will, to some degree, remain in your account and therefore be lost to the provider’s insurer on your death.
Reasons To Get Advice About This
There may be cases where sacrificing some of your withdrawal value to increase your Centrelink payment and consequently increasing future withdrawal maximums (due to having a larger balance, which your withdrawal maximums are based on) could enhance your position, but it will be circumstantial.
It is therefore important to weigh up whether the increased income for decreased assets assessment is favourable to you, or the reverse, or perhaps a combination of both. Managing your liquidity needs and access to capital is also a vital consideration. This is why it is important to have a financial adviser assess your full situation, to determine the value in the IRIS to you, your goals and your estate.
Structuring your full retirement stage IRIS utilising the couples option
In regards to both the deferred stage and the full retirement stage, you can also elect to have what is called the couples option. This sets the account up using the life expectancy of the younger spouse. It does mean withdrawals are lower, however on the death of one spouse, the payments will continue to the surviving spouse. This can be powerful for two reasons:
- Reducing the maximum withdrawal means less assessable income for Centrelink.
- Gives peace of mind to the surviving spouse that the income will continue
This option may not be preferable if cashflow is an issue, but once again would need to be assessed.
Risks of Innovative Retirement Income Streams
Higher assessable income – as mentioned above, the strategy will generally result in you having a much higher assessable income for Centrelink purposes. If you are asset heavy but low on income, the strategy could prove exceptional, but a full assessment of your situation including your other assets outside of the superannuation environment would be required.
Changes to legislation – given this opportunity is lesser known but can result in enhanced Centrelink benefits, there is a risk that legislation is changed to reduce the benefits available.
Liquidity – if you wish to withdraw from the Deferred Income or Full Retirement stages, you can only get back at maximum, the equivalent of what you put in. If you started with $500,000 and have taken withdrawals of $200,000, the most you can get back is $300,000, meaning the provider keeps your earnings. In addition, there are two other tests applied on withdrawal, and you receive the lowest amount of the three, one being the percentage of time since you began compared to the time remaining until your life expectancy (e.g. if your life expectancy was 20 years at commencement, and you had the account for 15 years, the most you can receive under this rule is 25% of your starting balance). The final option is if your balance is simply lower than either of the other two, then your balance is the maximum you can receive.
Investment risk – if you invest poorly, it could adversely affect the strategy.
Fees – there is a small additional fee associated with the alternative product type.
How Yield Financial Planning Can Help
Innovative Retirement Income Stream accounts can be an excellent solution but are not right for everyone. They are also just one strategy we consider. Yield Financial Advisors are trained to understand the power of IRIS and its potential benefits for your retirement and will also help you consider and compare IRIS to other strategies that exist.
At Yield we are retirement specialists and believe we can improve every person’s situation. We would love the opportunity to meet you to see the areas we can help you. Contact us today