Insurance
Longevity Risk in Retirement: Management strategies for insurers and customers
The twentieth century has seen a steady rise in the global life expectancy at birth, predominantly driven by advances in healthcare, technology, improved living conditions and awareness about lifestyle or wellness choices. According to Statista, the life expectancy stood at 73 years in 2023, growing since the mid-1990s, except for a minor dip during the pandemic. While this is undoubtedly a positive, it presents a complex financial puzzle for individuals and insurers. Uncertain or increasing life spans have caused a lurking shadow on the retirement years – longevity risk.
Longevity risk in retirement is when retirees outlive their planned retirement savings. People retiring at 60 or 65 must plan finances for a minimum of 15 to 20 years to safeguard this risk. For the insurers, this results in higher-than-anticipated payouts in pensions, annuities and retirement benefits. As it is, these are challenging times for insurers. According to a McKinsey article titled, Global Insurance Report 2023: Reimagining life insurance, insurers, and in turn, the premiums, have not been growing at the same rate as that of the economies they operate in. It further states that insurers have lost relevance in global capital markets due to high volatility in earnings, muted growth and lack of returns after the cost of capital.
Let us explore some mitigation strategies insurers and customers can consider to manage longevity risk.
Mitigation strategies for longevity risk - For customers
- Personalised investment strategies
- Longevity insurance and annuities
- Strategic retirement planning
Retirees must discuss their priorities with a trusted financial advisor to finalise personalised investment strategies. It is ideal to have a diversified investment portfolio spanning stocks, real estate, bonds, etc., that can generate income periodically and sustain their capital for extended retirement periods. They must opt for growth assets that can deliver long-term performance to offset market volatility and inflation.
People should consider purchasing long-term care insurance that can reimburse the costs of assisted living or care homes should they live longer than expected. This insurance will prevent the depletion of retirement funds. The other option is to purchase annuity plans. Multiple annuity plans exist, such as fixed annuities, deferred income annuities, immediate annuities, etc. People’s situations would decide which annuity plan works best for them, and a financial advisor can help them understand the same.
Depending on one’s situation and finances, people can plan to delay their retirement, retirement lump sum withdrawals, or filing for social security benefits. They could also consider tax-efficient withdrawal strategies to reduce tax liability. Reducing the tax rate in retirement will ensure people can make their retirement finances last longer.
Social security is a lifetime annuity that considers inflation for payouts, ensuring a steady and reliable lifetime income. The people planning to delay the social security filing to offset the longevity risk could consider options such as a reverse mortgage of their homes or a Single Premium Immediate Annuity (SPIA) to cover their expenses in the interim period.
Longevity risks affect governments as they must pay the social security and pension plan dues to the retirees, despite a depleting tax base, inflation, market volatility, etc. And insurance providers claim longevity risks have either been reducing profits or creating losses. The McKinsey report says advanced economies are experiencing funding gaps due to longevity risk factors, and there is a growing awareness of this risk among citizens, insurers and governments. They, however, say this is an opportunity for insurers. Let us explore.
Mitigation strategies for longevity risk - What insurers can do
Here are a few longevity risk mitigation strategies insurers can consider.
- Hedging longevity risk
- Become more customer-focused
Insurance companies can transfer longevity risk to third-party reinsurance companies to better manage their exposure and obligations. While transferring this risk, they should consider the current mortality factors and longevity risk trends. This option, also known as longevity swaps, protects them from the risk of higher-than-expected payouts while retaining maximum assets and control over investment.
Insurance companies must innovate and evolve constantly to design retirement solutions that address longevity risks to give customers more choices. They could consider deferred annuities and variable payout options or offer flexible retirement products adaptable to changing circumstances. They could provide more personalised retirement planning guidance and tools, including educating customers about longevity risk management as part of their services.
How can insurers do all this effectively?
They can leverage data analytics and predictive modelling to assess longevity trends. Collaborating with healthcare providers for accurate risk assessments is another option. A McKinsey article titled The Key to Growth in U.S. Life Insurance: Focus on the Customer makes some salient points. It says life insurers should be able to leverage market insights to better position life and annuity products as part of retirement services. They should offer annuity products with guaranteed lifetime income, help customers understand their retirement financial risks, pursue relevant partnerships and digitise and simplify their products and messaging.
How can Infosys BPM help?
Infosys BPM’s Insurance Services Outsourcing services propel insurers on a transformative journey that strategically curtails expenses and aligns business processes to meet market demands and customer expectations.
