The Department of Labor (DOL) is gearing up to propose regulations which would require employers to include retirement income forecasts based on their current accrued assets, as well as projected assets at retirement. Pending legislation in both houses of Congress would do the same thing, buttressing the DOL's authority to mandate those projections. The goal is to spur employees to think about their retirement savings in realistic and practical terms and, if necessary (which it usually is), increase the amounts they are salting away each month.
Department of
In a longstanding "interpretative bulletin" by the Department of Labor (specifically95-1), the DOL listed the following criteria (among others) for fiduciaries to weigh in choosing an annuity provider for a retirement plan:Labor Standards for Annuity Providers
|
Income projections may incorrectly assume employees ultimately will manage their 401(k) assets appropriately at and through their retirement, and draw down those assets at a pace which can be sustained for the rest of their lives -- even if they live a lot longer than they expect to.
Annuity contracts are designed to eliminate the considerable risk of retirees being unable to meet those challenges, by providing an income stream which cannot be outlived. They are not for everyone, but simply offer a new option many employees might find appealing.
An employee's failure to be ready to retire at a traditional retirement date impacts both the employee and you, if you don't necessarily desire to have employees on board before they reach a very advanced age.
Employees themselves say they would welcome the opportunity to arrange for guaranteeing a portion of their retirement income, according to a study by the Insured Retirement Institute, an industry trade group.
"In-Plan" or "Out-of-Plan"?
The basic choice employers face with regard to annuities is whether to choose an "out-of-plan" or an "in-plan" solution. The out-of-plan approach essentially means employees are given access to annuity educational tools and mechanisms to receive bids from different insurance companies.
Employees access those resources when they're gearing up to buy an annuity at retirement, or any time while in retirement. A retiree's annuity purchase, which is financed by a portion of his or her 401(k) balance, is strictly between the retiree and the annuity provider. In other words, the annuity is not a component of the 401(k) plan. You do not have any fiduciary obligations with respect to the annuity's performance.
In contrast, the "in-plan" approach involves incorporating annuity choices within the 401(k) plan, allowing employees to accumulate annuity credits during their working years which will ultimately translate into an income stream through retirement. Sometimes annuity purchases are funded by the employer, in lieu of matching 401(k) contributions, if the employer is intent on making the 401(k) plan as close to a traditional defined benefit pension as it can be. But in-plan arrangements can be set up to allow purchases to be funded by both the employer and the employee.
If annuity providers are chosen carefully, factoring in not only the provider's financial strength but also contractual structure and guarantees of the annuity and additional protections through state guaranty associations, employer fiduciary liability can be mitigated.
Both approaches generally provide employees with the benefit of institutional pricing.
Dollar Cost Averaging
By purchasing annuity credits over time, employees effectively dollar-cost average their purchases when buying fixed annuities. Some years employees will get more bang for their bucks than others, depending on the interest rate environment and their ages. The higher the prevailing interest rates at the time of each purchase, the more future guaranteed income they will receive when they begin to receive benefits. (Other factors are also involved.)
Employees may wind up buying annuities from multiple insurance companies over the course of the accumulation phase, increasing diversification of their retirement income portfolio, assuming they have multiple companies to choose from and a competitive pricing environment at each periodic purchasing opportunity. When variable annuity products are involved (whose ultimate value is influenced by the investment performance of the underlying assets), employees may have less of an incentive to shop frequently for new carriers.
Annuity-like options are currently offered by 401(k) recordkeepers and asset managers. But annuity specialist firms are also in the business of linking plan sponsors and annuity providers. One such firm, Dietrich & Associates, Inc., strictly deals with traditional fixed annuities. The earlier employees begin funding a fixed annuity the better, according to Geoff Dietrich, a vice president of the firm. In effect, employees have greater buying power when they are younger as the longer the deferral period (time until the pay-out phase begins), the higher the interest crediting rate applied by the insurance company will be. Also, as mentioned earlier, the longer time horizon of the investment acts as a natural hedge against interest rate fluctuations (risk).
Fixed annuity-based 401(k) programs do give employees options. For example, Dietrich's offering allows employees to choose from multiple, high-quality insurance companies, various benefit payout forms at retirement, cost-of-living adjustment features and liquidity.
Providing education for employees on the trade-offs of optional features, as well as on annuities in general, is essential for employees to make wise choices. A little help from employers can add understanding and, depending on the individual decisions, increased understanding can also greatly enhance the streams of income available at retirement.
