Living to 100: How Will We Afford Longer Lives?

As more and more Americans look forward to living longer, many lack the resources to sustain themselves in terms of income, housing, health insurance, and long-term care. They are at one end of the so-called “longevity risk” spectrum; at the other end are sponsors of retirement plans who now have to finance people for much longer periods after they retire. That setting provides opportunities for public-private partnerships to help create financial products that help offset, pool, or transfer the longevity risks to other market participants while helping aging Americans support themselves.

“We are living in an aging society and we are living longer,” said Surya Kolluri, managing director at Bank of America in Boston, whose responsibilities include thought leadership in the retirement and personal wealth solutions business of the bank. “A baby born today has a one in three chance of living up to 100 years old. And a female baby born today has a one in two chance of living to 100 years old. We need to be ready for 100-year lives. [But] you can’t finance these 100-year lives purely by public purse or purely by private purse. You need the two to come together.”

Olivia S. Mitchell, Wharton professor of business economics and public policy and executive director of the Pension Research Council, expanded on the need for public-private partnerships. “The traditional methods of coping with longevity, like relying on your own savings or relying on family, don’t [always] work that well anymore,” she said.

How public-private partnerships could help in finding ways for older Americans to strengthen their financial security was one of the topics discussed at an online symposium on May 7 hosted by the Pension Research Council at Wharton and the Boettner Center for Pensions and Retirement Security. The conference was titled “Managing Longevity Risk: New Roles for Public/Private Engagement.” Mitchell moderated the panel discussions at the conference along with Kolluri.

Participants at the event discussed what rising longevity means for our future, how people perceive longevity risk, and the economics and psychology of working longer. The roughly 125 attendees at the invitation-only conference were a “hybrid mix” of academics, financial service professionals, actuaries, plan sponsors, students and others from various countries, said Mitchell.

Expanding the Market for Property Tax Deferrals

Property tax deferrals could be a way to provide financial freedom for older Americans, noted Alicia Munnell, professor of management sciences at Boston College’s Carroll School of Management, during a presentation. (Munnell is also the director of the Center for Retirement Research at Boston College.) Under such programs, local governments agree to collect on those taxes when the property is sold or when the ownership passes to the next generation after the current owner’s death.

Kolluri explained how public-private partnerships could play a role in expanding the market for property tax deferrals. “The fact that you don’t bill the property tax is a public policy activity,” he said. Private-sector banks or other lenders would create a mortgage or a lien on the property to complete the other end of the transaction to become a public-private partnership. Added Mitchell: “Even if someone has no mortgage, they still would have to sell their house or take out a home equity loan if they were going to be able to access the value of the wealth in the house.”

“The traditional methods of coping with longevity, like relying on your own savings or relying on family, don’t [always] work that well anymore.” –Olivia S. Mitchell

Many U.S. states including California, Washington, Massachusetts and Connecticut offer seniors the ability to defer all of their property taxes, Munnell noted in her presentation at the symposium. However, participation in property tax deferral programs remains low nationwide, she pointed out. In 2019 in Massachusetts, for example, only 838 of 506,332 homeowners that were 65 years and above opted for the deferral, her research showed.

More seniors could be encouraged to defer property taxes with innovative programs where state governments could reimburse local municipalities for their share of the foregone taxes, Munnell said. She suggested features such as the ability to defer property taxes for up to $1 million in the assessed value of a home. Another of her ideas was for state governments to permit seniors to defer their property taxes until the sum of deferrals, accumulated interest, and mortgages equals 60% of the assessed value of their homes.

In Munnell’s plan, such programs would be financed by states covering the interest cost on the deferrals and administrative costs by issuing bonds. The interest on those bonds would be paid by homeowners or the states from their general revenues. If states do not want to take on that financing cost, the private sector could buy aggregated loans and liens, securitize them, and sell those securities in the market, she said.

Munnell noted that many households will not have enough money in retirement, and property tax deferral offers a cheap and easy way to tap home equity. Property tax deferral programs are self-financing on a household basis, but they need start-up money either from government or a public-private partnership, she added. “Increasingly, retirees will need to tap their home equity, and stable homeownership makes this option viable financially.”

“The idea is that, in the long run, these property tax deferral programs would be self-financing and self-sustaining, because when the individual moves out of the house or dies and then the house is sold, the property tax gets paid,” said Mitchell. Over time, as more and more borrowers pass away, the city would be able to collect on taxes that were deferred, she explained.

The Opportunity in Reverse Mortgages

Reverse mortgages are another way for older Americans to unlock the money in their home equity. Here, homeowners could raise loans against the value of their homes, which may be paid out either in lump sum or as monthly installments. The loan would have to be repaid when the homeowner dies or if the property is sold.

“It’s well known that many, many older people have substantial home equity,” said Mitchell. “And yet it has been very difficult for them to access that that wealth without moving out and selling the house. It’s also not something that older people necessarily want to do. Most older people would like to remain in their homes and age in place if they can. So, reverse mortgages are absolutely critical as a tool to help access some of that wealth.”

Federal law protects homeowners in reverse mortgages, where they don’t have to repay any balance if it exceeds the value of their home. On the flip side, borrowers can retain the contracted loan amount even if the value of their home falls below that level, or if they live long enough to collect more monthly payments than the lender expected. But in some cases, borrowers may face foreclosure “if they do not pay their property taxes or insurance, or maintain their home in good repair,” according to a guidance note from the National Council on Aging.

Despite their apparent attractiveness, reverse mortgages are “enormously unpopular” in the U.S., and less than 2% of eligible borrowers take out such loans, according to a recent Wall Street Journal blog post. One reason for that low participation is that potential borrowers are skeptical of scams, high fees and fears of foreclosure, or if they wish to leave the property for their children after they pass.

Public-private partnerships could help in finding new ways for older Americans to use reverse mortgages, said Mitchell. She pointed to Japan as an example, where some prefectures – or municipalities – have put in place innovative reverse mortgage programs for the elderly. Those programs make way for people to borrow against the equity on their home to retrofit their homes with railings or wider doors to accommodate wheelchairs and so forth, she said.

The Attraction of Longevity Bonds

Longevity bonds are also among the “white board ideas” that could be considered, said Kolluri. As people live longer, the pension obligations for sponsors of defined benefit plans have become bigger, he said. Those pension obligations and the associated longevity risks could be transferred to life insurers and reinsurers, said Kolluri.

“Longevity risk may be an attractive asset class to institutional investors due to low correlation with other risk factors in their portfolios,” said John Kiff, a senior financial sector expert with the International Monetary Fund, in his presentation. He said investors could learn about how “longevity risk transfer markets” work from the so-called CAT bonds – or catastrophe bonds – where payouts are made when a catastrophe occurs.

“You can’t finance these 100-year lives purely by public purse or purely by private purse. You need the two to come together.” –Surya Kolluri

Similar to the CAT bonds are the “pandemic bonds” the World Bank launched in 2017 to help countries raise money to cope with pandemics. Investors who buy them could get higher yields than conventional fixed-income products, as a CBNC report noted. However, many of them are now staring at huge losses in the COVID-19 pandemic, the report added.

Longevity bonds are like catastrophe bonds in how they protect sponsors of defined benefit pension plans, said Mitchell. “If people end up living longer than expected, the plan sponsor is going to be hung out to dry and not be able to pay all the benefits,” she said. “In order to make a market in longevity risk, the risk needs to be pooled.” She explained how a longevity bond would work: “There would likely be an institution like a defined benefit plan that would buy such a bond; the insurance company would sell it; and then the insurance company would pool the risk of longevity changes and surprises across its book of business.”

In the current context with the COVID-19 virus, the CAT bonds would help “especially poor countries that need extra money to pay for hospitals and whatnot,” said Mitchell. “Longevity bonds would have, in a sense, the opposite scenario. When people live for a long time, there would be some mechanism to help pay for those extra-long lives.”

Longevity bonds are an example of how those income streams can be created, said Kolluri. “Any company that can crack that code and deliver a product is going to be successful.” The biggest impediment on that road is in developing a robust framework around the related risks and find ways to mitigate them. In order to be able to generate income over, say, a 30-year period, private sector participants need to start with forecasts of variables such as interest rates, inflation, health care costs or long-term care needs, he added.

The trick is in being able to correctly prioritize the right variables to forecast, said Kolluri, who offered an example. “You break down your 30 years after 65 into three buckets of 10 years each. Let’s call them the go-go, slow-go and no-go [years] in terms of how active you want to be in those 30 years. Now, if in your go-go years you’re going to have some supplemental income, say from some consulting, your cash flow needs might be different from your slow-go and no-go years.” But those who are in their “no-go” years would have higher needs due to higher health care costs, he explained. As their financial needs vary over time, a guaranteed income “creates a floor, and then you’re willing to flex the rest.”

Mitchell said governments could help develop the market for such bonds. “It has been very difficult for insurers to obtain the granular data on mortality patterns across the population,” she added. “It’s essential that governments participate in providing much more detailed information on mortality trends and patterns across particular types of people that can be identified so as to make a better market in longevity indexes.”

The reinsurance market for CAT bonds or pandemic bonds is “very thin right now” because those bond issuances have been few, said Mitchell. But there is opportunity for the longevity bond market to grow, she added. “There have been some companies that sought to bring longevity bonds to market, but there is still a lot of disagreement over what the right indices are that can be used to trigger a payout. There needs to be more public effort into building the data needed to make these really work.”

The Need for Guaranteed Income

The common thread in all those discussions is that “there is latent demand for some sort of guaranteed income,” said Kolluri. “As the world has moved from defined benefits [plans] to defined contribution [plans], you have offset the risk from a pooled vehicle to an individual. And we have not over the last two or three decades equipped that individual who was taking on the risk with any of the tools to manage that portfolio.” Those tools would be to determine optimal allocations or how much they should ideally contribute to their different plans, etc., he explained.

The current times are ripe to provide those supports for individuals because the baby boomer generation is in the 65-plus age group. Baby boomers need help with managing their financial lives now, “because up until this point, they have been used to a paycheck,” Kolluri said. “Creating an income-generating vehicle that gives them a sense of safety, confidence and security is going to be very important, whether you call it a retirement paycheck, a guaranteed retirement income, proceeds from a longevity bond, or an annuity.”

Many in the audience at the symposium were anxious to explore annuities as a way to ensure guaranteed retirement incomes. Richard Fullmer, founder of Nuova Longevita Research in Baltimore, Maryland, made a case in his presentation for pooled annuities. He explored the scope for state-sponsored defined-contribution pensions in the form of “low-cost assurance pools that deliver lifetime income through mortality pooling and strict enforcement of a budget constraint.” Those could take the form of pooled annuities or tontines, where lifetime income would be assured, but the level of that income would not be insured or guaranteed, he added.

Tontines, which originated in the 17th century in Europe, are investment products where the longest-surviving participants in a pool benefit from the money forfeited by those who die sooner, as a Wall Street Journal report explained. Tontines have lately become popular in Japan, where aging populations “worried about outliving their savings [are] lured by the promise of steady streams of income as long as they live,” the report noted.

“In order to make a market in longevity risk, the risk needs to be pooled.” –Olivia S. Mitchell

The regulatory regime in the U.S. for tontines “gets more complicated” because insurance is regulated at the state level, Mitchell pointed out. Some U.S. firms offer products similar to tontines, such as “participating annuities where the investment returns are pooled and the mortality returns are pooled,” she added.

Financing Long-term Care

Innovative strategies are needed also to finance and deliver long-term care (LTC), according to Nora Super, senior director of the Milken Institute Center for the Future of Aging in Washington, D.C. In her presentation, she noted that the number of people in need of long-term services and supports (LTSS) in the U.S. already stands at 14 million and is expected to grow to 27 million by 2050.

Super focused on three of the most promising solutions to help improve LTC funding and delivery. First, she called for facilitating private and public LTC insurance product design with increased funding to allow for better testing of models. That would expand the market for insurers and decrease costs for consumers and government, she noted. Secondly, she wanted Medicare coverage of LTSS to be increased through the expansion of Medicare Advantage supplemental benefits, and via testing of new benefit offerings that will allow insurers to gather the data needed to measure health outcomes and related cost savings.

Thirdly, she called for improved cost savings and efficiency through better integration of technology with care delivery, and by scaling successful funding models to allow for greater adoption. She noted that adoption rates for LTCI (long term care insurance) has been limited because of a variety of factors including the high cost of premiums and the concern over sharp premium increases in the future, lack of product understanding by the consumer, and misunderstanding of care coverage through health insurance or Medicare.

Another concern is that, with longer lifespans, aging Americans risk living with dementia for more years. Adelina Comas-Herrera, a researcher at the London School of Economics, made a case in her presentation for policy actions to strengthen the capacity of the health and long-term care system to respond to dementia.

Those issues are especially relevant amid concerns that the Social Security Trust Fund will be unable to honor its obligations after 2035, and in light of the COVID-19 pandemic and the huge government deficits that are resulting from the effort to try to stabilize the economy, Mitchell noted. “There really isn’t much money left out there to tax to be able to support these social safety net programs.”

As a result of those pressures, retirees will need to work longer than before and become more financially literate to be able to make safe choices in planning their financial futures, she added. “Governments can play an important role here in educating the population about the need to save and earn returns and not draw down their assets too quickly in retirement.”

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