Thursday, November 12, 2009

Leading the Horse to Water

 Legislation may nudge plan sponsors to reconsider annuities—but what about participants?

Judy Ward


Illustration By Marco Wagner


The market's recent plunge likely frightened more Americans into a willingness to consider putting at least some of their 401(k) assets in a retirement-income product at retirement. Now, Congress may give them a nudge to go ahead with it.

Support for tax advantages for annuities, previously proposed in 2005 by Rep. Earl Pomeroy (D-North Dakota), seems low this year… However, several other ideas appear to have potential traction, and they speak to the logistical and psychological reasons that many see at the heart of 401(k) participants' continued aversion to retirement-income products—the overall inertia, concerns about the complexity and cost of choosing an annuity on the open market, the fear of losing money to unstable financial institutions, and the impression that a series of small payments made over time has less value than one big lump-sum payment.

"As we bring more people into the system, we will need to address the longevity risk," says David Certner, AARP's Director of Legislative Policy in Washington, pointing to the Obama Administration's auto-IRA push. "Having a better-functioning annuities market would be very helpful."

Three Possible Solutions

These three possibilities seem the most discussed currently:

Auto-enrollment in annuities: Nonprofit public-policy researcher The Brookings Institution has proposed a "test drive" that would automatically enroll defined contribution participants in an annuity for two years after they retire. …

A government mandate to purchase annuities "would be a step in the wrong direction," [William Gale, a Brookings Vice President and Director of the Retirement Security Project] stresses. An annuity does not work best for everyone, he says, and, even when it does work well, a bunch of variables mean no one annuity setup is right for everyone. "It is very important that these things remain voluntary," he says. If people get the wrong annuity, he says, they "have made a big, permanent mistake."…

From an employer perspective, sources agree, auto-enrollment succeeds in giving many more participants access to a retirement-income vehicle. With opt-out rates low for automatic enrollment in 401(k) plans, "it is not likely that they will opt out" of auto-enrollment in an annuity, says Robyn Credico, Arlington, Virginia-based National Director, Defined Contribution Consulting, at Watson Wyatt Worldwide. …

The concept has its challenges, though. "The problem is the pricing," says Dallas Salisbury, President and CEO of the Employee Benefit Research Institute (EBRI) in Washington. "You could do it—but it would be a very expensive option, because any annuity that can be terminated at the end of two years becomes very expensive to underwrite." …

Edward Ferrigno, Vice President, Washington Affairs, at the Profit Sharing/401k Council of America, also worries about any sort of annuity mandate. "We … fully support … a tremendous amount of innovation [by annuity­ providers], he says, but it would kill that innovation if they mandated something. "For insurance companies, that is a jackpot: 'We have your money, and you cannot get it back.'"

A federal guarantee: Some believe that automatic enrollment in annuities makes little sense without setting up a federal-guarantee structure for annuities, similar to the Federal Deposit Insurance Corp. (FDIC) guarantee of bank deposits. …

On the other hand, "One thing employers might be ­concerned about is that the whole arrangement would be ­subject to future changes by Congress," says Jan Jacobson, Senior Counsel, Retirement Policy, at the Washington-based American Benefits Council, "and it would be a fairly expensive proposition." Adds Salisbury, "Given the current fiscal situation, even if people said it was a good idea, it would take a long time to do."

Channeling employer contributions: Brookings' Gale also talks about using legislation to funnel employer contributions to an annuity. "It would be a default," he says. "[The idea is that] the employer has to offer it, but it is voluntary for the individual."…

Ferrigno does not favor the idea at all. "We would fight that to the death," he says, again mentioning a dislike of plan-design mandates. "If there was a demand for ­annuity products in a plan, they would be there.” …

"There is a lot of interest. The Administration is in favor of it, and I think Congress gets it," Gale says. "…The sea change coming is going to be to think of a 401(k) not as an asset-accumulation device, but a retirement-income-provision device."

Jacobson also sees interest in annuities in Washington, but does not expect a stand-alone bill. … U.S. Rep. George Miller (D-California), Chairman of the House Education and Labor Committee, was said at press time to be "in the middle of drafting a retirement bill that might or might not include annuities," Salisbury says. "Everything at the moment is dominated by the health-care discussion. The probability of that [retirement] bill getting enacted this year is probably zero," he predicts. "The question becomes, does it become a priority in 2010 and 2011, assuming they get health care done this year?"…

Judy Ward

Legislation provides incentives for annuitizing distributions

Bipartisan legislation has been introduced to give workers a new incentive to annuitize, rather than spend, their retirement savings. U.S. Representatives Earl Pomeroy (D-North Dakota) and Ginny Brown-Waite (R-Florida) have introduced The Retirement Security Needs Lifetime Pay Act, H.R. 2748, which would encourage workers to annuitize some of their retirement savings by providing a 50% tax exclusion for up to $10,000 of lifetime annuity payments annually.

Other Provisions

The bill also will exclude from taxes 25% of lifetime income payments from individual retirement accounts (IRAs), qualified plans, and similar employer-sponsored retirement savings plans other than defined benefit plans. …

"For years, the federal government has recognized its duty to assist American families in building a retirement nest egg," Pomeroy said in a press release. "Saving and investing for the long term is extremely important, especially in these challenging times. A greater retirement challenge lies ahead: managing assets to make sure that your retirement savings last a lifetime. The Retirement Security Needs Lifetime Pay Act will provide families with incentives to plan for a secure lifelong retirement."

Alison Cooke

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