With millions of baby boomers on the brink of retirement, and the economic meltdown in 2008 that left many employees with depleted 401(k) account balances, helping employees manage their money into retirement is a growing concern for employers. Once employees move from accumulating to drawing down their assets, the focus shifts from maximizing the growth rate of those assets to maximizing the ability to sustain income from those assets over long periods of time.
"That's a very different kind of problem that most 401(k) plans today are not set up to handle," says Christopher Jones, chief investment officer with Financial Engines.
While traditional deferred fixed annuities have been available to put in 401(k) plans for some time, employers have been reluctant to adopt them for several reasons. Less than 2% of employers surveyed by Callan Associates last year said they offer an in-plan guaranteed-income-for-life product, and only 1.7% said they were very likely to offer such a product within the next 12 months.
The biggest reason employers are uncomfortable with in-plan annuities, according to the Callan survey, is that they are unclear about the fiduciary implications. "What they really want is a safe harbor so that they feel they're on safe ground selecting the annuity and monitoring the annuity," says Lori Lucas, defined contribution practice leader with Callan Associates, adding that plan sponsors have concerns about what their liability is should an insurance company fail to make good on its payments.
There is a safe harbor for annuities that are given as a distribution at retirement, but "many plan sponsors are not convinced that the safe harbor applies necessarily to in-plan annuities," says Lucas.
And some even question the safe harbor's protection for annuities offered as a distribution. Essentially, the safe harbor says that if you've done sufficient due diligence to ensure the insurance company will be able to make its payments, then you are protected from liability. But "that's a pretty high hurdle for most plan sponsors," says Lucas. "They just don't feel they can say with a lot of confidence that they understand the insurance company well enough to think that they can evaluate it and say 'Yes, this company can make good on its payments.'"
In-plan annuities also carry the risk of what Jones calls "fiduciary lock-in." In their role as fiduciaries, plan sponsors are responsible for making decisions in the best interests of plan participants. "Once you put these products in the plan, they're very difficult to get rid of or to change, and that's a problem for plan sponsors because it effectively handcuffs them to a particular vendor for what might be decades," says Jones.
Caution is the watchword
There is pretty universal acknowledgement that the longevity insurance annuities provide is needed, particularly for employees who don't have an ongoing or legacy defined benefit plan to draw on. But lack of portability, high costs, low participant demand and lack of flexibility have hampered widespread acceptance of annuities within 401(k)s.
"The idea of a guaranteed payment is something sponsors are curious to learn more about," says Scott Holsopple, president and CEO of Smart401k, a Web-based investment advice provider. "But rather than being focused on bringing annuities into the 401(k) plan, a lot of plan sponsors are focused on engaging the [employee] population, providing them with investment advice and tools for figuring out if they're on track. I would say annuities are still on the periphery."
For employers looking to add annuities to their 401(k) plans, "caution is very much the watchword right now," says Ed Lynch, managing director and chief retirement officer of Dietz & Lynch Capital, a Mass.-based investment management firm. "Theoretically, there's a benefit to them, but that benefit comes at a cost, and it comes, in my view, at too high a cost to be justified."
Hueler Investment Services Inc. offers an annuity purchase platform to plan sponsors that provides plan members with access to annuities at institutional prices. Plan sponsors can direct employees to a Hueler website, where employees provide such information as their age and amount they wish to annuitize. Insurance companies then bid for the business. It puts a lot of control in the hands of the plan participant and the advantage for plan sponsors is that the annuity resides outside of the 401(k) plan.
"With the annuity bidding platform, the plan sponsor does an IRA rollover to the insurance company, and then the insurance company turns around and purchases the annuity within the IRA," says Bill McClain, principal with Mercer. "It makes it administratively much easier. We're seeing that platform become more popular."
As with all investment products, though, there's a fee, and "some analysis has to be done as to whether the fee pays for itself in terms of the institutional pricing that you're getting," says McClain.
Financial Engines launched a product earlier this year that aims to provide employees with steady monthly payouts from their 401(k) that can last for life. Income+ is available, with no extra fees, to participants in Financial Engines' managed accounts program. The product provides steady monthly payouts from an employee's 401(k) to their checking account by using 401(k) investments early in retirement and an optional annuity later in retirement for a lifetime income guarantee. The product doesn't require employers to add an annuity to their plan or change their fund lineup.
Aon Hewitt has one large client that has been offering Income+ to its employees since the fourth quarter of 2010, and four other 401(k) providers - ACS, ING, J.P. Morgan Retirement Plan Services and Mercer - have plans to make it available to their clients this year.
"Plan sponsor feedback about the idea itself has been very positive," says Alison Borland, retirement strategy leader at Aon Hewitt. "It's an easier decision because there's no annuity in the plan. So if employers want to do something sooner, before they're comfortable with doing an annuity in the plan, this is something they can do sooner and can always change their minds later. It's not perceived as risky."
Regulators take note
Regulators and legislators are also taking note of the retirement readiness issue. Last September, the Departments of Labor and Treasury held a joint hearing on lifetime income options for retirement plans. More recently, in February, the Senate Committee on Health, Education, Labor & Pensions held a hearing on encouraging better retirement decisions, which coincided with a reintroduction of the Lifetime Income Disclosure Act.
The Lifetime Income Disclosure Act would require 401(k) plan sponsors to inform employees of the projected monthly income they could expect at retirement based on their current account balance. The legislation was first introduced last year by Senators Jeff Bingaman (D-N.M.), Johnny Isakson (R-Ga.) and Herb Kohl (D-Wis.) and reintroduced in February.
"I wouldn't make any guesses about what the final bill will look like, or even if it's going to get through, but the idea of showing people what their savings are projected to return in terms of income for them in retirement is a good thing," says Holsopple.
Many vendors already provide these types of projections on their statements, notes Lucas. Her concern with the legislation is that the calculations it mandates are not as robust as what many providers are already doing.
"What many in the industry are asking for is that if this legislation is passed, also have a safe harbor for more robust projections," she says. "Don't ask providers to scale back the robustness of their projections. Include these more robust projections in the legislation as well."
Barriers to Adding Retirement Solutions
Barriers Percentage of Plans
Not interested in offering insurance products at this time 66%
Fiduciary concerns 47%
Operational or administrative concerns 45%
Participant utilization or communication concerns 43%
Waiting to see the market evolve more 35%
Portability concerns 27%
Cost barriers 19%
Preference for participants leaving the plan at termination 12%
Source: Aon Hewitt
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