How Much Is Enough Anyway

 It can be complicated—the trick is helping participants create plans that work.

PLANSPONSOR.com
July 2012
Rebecca Moore


Illustration by Josh Cochran

The amount of income workers will need in retirement and how much they should save to reach that goal have gained more attention since the economic downturn of 2008 and 2009 depleted many retirement accounts. Before the downturn, service providers and researchers in the industry estimated that workers would need to replace between 70% and 75% of their preretirement income— i.e., what came from all sources. But even then, that estimate was being scrutinized.

Target income replacement ratios should be higher, the Retirement Advisor Council now contends. In a paper, the council says this is to account for the always increasing projected cost of health care in retirement, as well as other financial planning concerns workers face, such as children’s educational needs and the cost of caring for elderly relatives.




saving and spending (Photo credit: 401(K) 2012)

So, how much is enough, anyway? Josh Cohen, defined contribution practice leader at Russell Investments, says that while the appropriate replacement rate is different for each person’s situation, 80% is a good target, because studies have shown it is about the average amount needed to maintain current lifestyle.

When trying to arrive at the best income replacement rate for themselves, workers should use their imaginations, says Jason Scott, Ph.D., director of the Financial Engines Retirement Research Center. They should imagine continuing to do things postretirement that they did preretirement. Then they should consider expenses they will no longer have once they retire. … Some retirees can make it with a lower income in retirement, Scott believes, but, he notes, if individuals will travel or spend more in their free time, expenses they incur will offset the savings, meaning they may need more income.




Pension (Photo credit: Frederik Seidelin)

Cohen points out that this replacement rate comes from all potential sources, including Social Security and personal savings, in addition to defined benefit (DB) and/or defined contribution (DC) plans. …


Patricia Advaney, senior vice president of participant solutions at Diversified, says that because the standard

estimate replacement ratio of 70% to 75% may be inadequate, workers should think about increasing their goal. “It’s a moving target, with questions about Social Security, the rising cost of health care and longevity,” she says. The industry has shifted from trying to give an exact number for target replacement income to suggesting a minimum 10% savings for retirement, including both employee savings and employer match.

English: Proportion of pay to save. (Photo credit: Wikipedia)

The Retirement Advisor Council says, regardless of target income, a consistent contribution to 401(k) and 403(b) plans in the range of 10% to 16% of pay over a 30-year or 40-year career is needed to achieve the appropriate replacement retirement income.

In a research paper, “What’s the Right Savings Rate?”, Russell Investments contends that the total replacement income (TRI) 30 rule-of-thumb helps answer the question: “How much should participants save?” Saving 30% of the TRI rate each year—including personal savings, savings in an employer-sponsored retirement plan and any employer contribution—leads to about a 90% probability of meeting the income goal at retirement. This assumes a 40-year period of savings, Cohen notes.




English: Retirement savings rate as squirrel and nuts anaology (Photo credit: Wikipedia)

… Many who may want to retire early, Scott thinks, will find that their savings are much less than what they will need. But that figure also depends on exactly how early they want to retire. “It’s really hard to just look at savings in their 401(k) and determine whether they are hopelessly far behind,” he says.

According to the Employee Benefit Research Institute’s (EBRI’s) Retirement Security Projection Model (RSPM), 44% of Baby Boomers and Generation Xers are still projected to be “at risk” of running short of money in retirement. …

The trick is helping people figure out, wherever they are, how to create a plan that works, according to Scott. …

Workers should think about how they might boost savings by working longer, and therefore saving more, or being savvier about other benefits, such as claiming Social Security at a later age, Scott says.

A brief from the Center for Retirement Research (CRR) at Boston College concludes that starting early to save for retirement and working longer are more effective levers for ensuring retirement security than earning a higher return on savings. “How Much to Save for a Secure Retirement” said this strategy of saving longer is especially effective, given the greater risk that comes from chasing investment returns.




English: In the United States, Social Security benefits compared for younger vs. older workers. According to author Joseph Fried, this graphic uses information from: C. Eugene Steuerle and Adam Carasso, "The USA Today Lifetime Social Security and Medicare Benefits Calculator," (Urban Institute, October 1, 2004), from: http://www.urban.org/publications/900746.html. Note: The calculator does not include the value or cost of the Social Security disability program. (Photo credit: Wikipedia)

… Because Social Security benefits are actuarially adjusted, they are more than 75% higher when he is age
70 than age 62. As a result, they replace a much larger share of preretirement earnings if workers wait to apply—29% if they are 62 and 52% if 70, in the CRR’s example—reducing the amount they would need to take from savings­. And, by postponing retirement, people have additional years to contribute to their 401(k) and allow their balances to grow. Finally, a later retirement age means that people will have fewer years of dependence on their accumulated retirement assets. 

Plan sponsors can help with reporting, to show how far behind workers are, Cohen says. Then decisions can be made, …

“You can’t invest your way out of a savings problem. There may be different asset allocations that would be better, but, at the end of the day, investments can only do so much,” Cohen says. “It’s all about savings patterns, how long you work and reasonable expectations.”

According to Cohen, plan sponsors can set goals for partic­ipants and use the match formula as an incentive. For example, if a participant needs 15% put away each year and the company is willing to contribute 5%, the match formula would be 50 cents on the dollar, up to 10% of compensation. At the same time, plan sponsors can help participants get to that 10% by using automatic­ enrollment and automatic escalation.
“It takes a well-designed plan and the smart use of … auto-features and qualified default investment alternatives [QDIAs] [which], if implemented, [can give] the typical American worker … a very successful retirement,” Scott concludes.

Kristi Mitchem, head of global defined contribution at State Street Global Advisors, says workers today are in a much better position than before because the introduction of auto-enrollment has been incredibly powerful in getting participants of different income levels into retirement plans early and saving at an appropriate level. “We have put mechanisms into place to help people get on the right path and be successful,” she says.

Mitchem recommends plan sponsors auto-enroll at a 4% to 6% employee deferral range. They can pair that with auto-escalation up to 10%. And, as always, plan sponsors should communicate the importance of deferring substantial savings for retirement, according to Mitchem.

Advaney suggests retirement plan sponsors use service provider resources to help participants save more. …

“This is an incredibly important topic because the reality is, the biggest contributor of what you have in retirement is how much you put away,” Mitchem says. “So, getting people comfortable at an appropriate savings rate is the most important thing to ensure [they] have appropriate retirement savings.”

Everyone needs guidance on saving for retirement, but this is especially true for middle-income workers, says Kristi Mitchem, head of global defined contribution at State Street Global Advisors. While high-income workers will have less income replaced by Social Security, they presumably will have more personal savings to supplement their retirement income, and lower-income workers will have a higher percentage of income replaced by Social Security.




English: This is a chart outlining the historical personal savings rates in United States as compiled by the US Department of Commerce, Bureau of Economic Analysis (Photo credit: Wikipedia)

So, where does that leave middle-income workers? Sources of retirement income are important for this group. Baby Boomer and Generation X households that have a defined benefit (DB) pension plan accrual at retirement age are, overall, almost 12 percentage points less likely to be “at risk” of running short of money for basic needs and uninsured health costs in retirement, according to a report by the Employee Benefit Research Institute (EBRI). The report, “Retirement Income Adequacy for Boomers and Gen Xers,” finds that, while having a defined benefit plan is particularly valuable for those with the lowest income in both age groups, it also has a “strong impact” on reducing at-risk rates for those in the middle class: ...

More than any other group, middle-income workers­ should take advantage of all resources available, says Patricia Advaney, senior vice president of participant solutions­ at Diversified. … Middle-income workers need to start thinking about what they will need and should hold onto retirement paperwork until positive­ they can retire. Retirement plan advisers need to have conversations­ early enough for middle­-income workers­ to understand the implications of any decisions they will have to make.

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Seven common attributes of retirement plans

Employee Benefit News

 According to Robert Lawton, the best retirement plans have seven common attributes of success. Based on these characteristics, is your plan a winner?

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Time to update ERISA fiduciary rule--OPINION

Currently, some advice, however conflicted, is seldom actionable

Pensions & Investments
By Phyllis C. Borzi
April 18, 2011, 12:01 AM ET

Image via WikipediaPension plans and participants routinely depend on experts for guidance in making important investment decisions. They turn to these investment professionals for reliable advice on how best to manage and safeguard retirement assets. Most would assume that these experts give their advice as fiduciaries, obligated to act with prudence and undivided loyalty to the plans' financial interests, rather than in their own interests — and that's exactly what the Employee Retirement Income Security Act of 1974 provides. However, a regulation issued in 1975 by the Department of Labor substantially narrowed the statutory fiduciary definition, making it far too easy for today's advisers to avoid fiduciary responsibility. We are now working to update this rule.

John Dean
Phyllis C. Borzi is assistant secretary of labor for the Employee Benefits Security Administration, Washington

So much has changed over the last three decades and the concepts and interpretations developed long ago often need to evolve or they risk becoming irrelevant. … The department's plan to update its 36-year old fiduciary regulation is necessary to ensure its relevance in today's environment of participant-directed investments.

… ERISA provides that a retirement plan fiduciary must act with prudence and undivided loyalty to the participants in that plan. Among other things, the law says that anyone providing investment advice for a fee, either direct or indirect, is a fiduciary. The department's 1975 rule restricted this definition by creating a five-part test for the definition to be met. At the time, … 401(k) plans didn't exist and individual retirement accounts were just starting up. Now the majority of retirement plan assets are in 401(k) plans where participants shoulder most of the investment responsibility, regardless of their financial sophistication. Additionally, IRA assets now exceed those in 401(k) plans. As a result, good investment advice is in greater demand, both by participants and by the plan sponsors who select plan investments.

Among the key elements of the five-part test was the requirement that the advice had to be given on a regular basis and that it had to be given pursuant to a mutual understanding that the advice would be the primary basis for the investment decision. This means that advice given infrequently, however flawed or conflicted, is seldom actionable by the department. … Moreover, unless both the plan official and the adviser understand that the advice serves as a primary basis for the investment decision, advisers who base their advice on their own financial interests rather than the plan's can't be held accountable under ERISA for the resulting losses.
Consequently, plan sponsors and participants are often left holding the bag for damages caused by conflicted advice, even in cases where the adviser might have represented that the advice was covered under ERISA. Plan officials who relied on that advice, as a result, are often the sole targets of legal actions that may follow.

… Plan sponsors hire their advisers with the expectation that the advice will be free of conflicts of interest and that these advisers will be held to the same legal standard of care that any fiduciary would.
To fix this problem, we have proposed a new rule that more closely reflects Congress' decision in 1974 as to when investment advisers are “fiduciaries” to the plans they serve. The new rule would remove the “regular basis” and “primary basis” requirements to give added protection to both employees who participate in retirement plans and to the businesses that offer them. ...

Image via WikipediaIn developing this rule, we are working collaboratively with the Securities and Exchange Commission and the Commodities Futures Trade Commission to harmonize our respective regulatory activities. We want to ensure that compliance with one regulatory regime does not create violations of the other. … We also have broad authority to issue exemptions from ERISA's prohibited transaction rules, so we can make sure that beneficial advice practices are permitted, even if they would otherwise be technical violations of the statute. While we recognize that most advisers act in good faith, the new rule would permit us better to protect plans from abusive practices and to address them when they occur. We will, however, continue to evaluate the scope, terms, conditions and exceptions in the proposed rule to ensure that the final regulation is as clear and effective as possible, and to make sure that we avoid any unintended consequences.

Our actions will benefit America's businesses and their employees nationwide. The proposed rule would hold financial professionals who present themselves as expert purveyors of investment advice more accountable for that advice, allowing plan sponsors to be secure in the knowledge that outside advisers are giving them the best possible guidance. Shouldn't advisers who provide such crucial advice be held to the same standard of care as those who are paying them for it?

Phyllis C. Borzi is assistant secretary of labor for the Employee Benefits Security Administration, Washington.

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SIFMA Asks DoL to Reconsider Fiduciary Definition Change

February 3, 2011 (PLANSPONSOR.com) - The Securities Industry and Financial Markets Association (SIFMA) has asked the Department of Labor (DoL) to reconsider its proposed rule that would redefine the term “fiduciary” under the Employee Retirement Income Security Act (ERISA).

Image via WikipediaIn its letter to the DoL, SIFMA noted that the proposal could critically impact the ability of individuals to reach a successful retirement, because the financial institutions most able to efficiently deliver investment assistance will no longer be able to do so without added cost to the plan participant or IRA account holder. If the agency will not reconsider its proposed rule, SIFMA requested that it carve out IRAs at this time to determine whether the unique costs and structure of IRAs would support a different fiduciary standard. …

Image via Wikipedia“In the midst of other regulatory initiatives in this area, we ask the Department to reconsider this proposal and work with other regulators to ensure regulatory consistency,” said Tim Ryan, president and CEO of SIFMA, in the letter.

SIFMA contended that the DoL has not fully considered the costs of this proposal on small plans and IRAs and the manner in which their investment choices will be curtailed, or the costs on large plans that may be unable to engage in swaps, prime broker their assets, invest in alternatives, obtain futures execution and otherwise have their investment choices limited by the proposal. …
A copy of the letter can be found at http://www.sifma.org/issues/item.aspx?id=23239.
Rebecca Moore
editors@plansponsor.com

PLANSPONSOR.com - SIFMA Asks DoL to Reconsider Fiduciary Definition Change

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The Costs of Having Employees Who Are Unable to Retire

401khelpcenter.com
Guest submission

Question: Our company is trying to decide whether a retirement preparedness program is worth the cost. What are the costs to an employer of having employees who aren't able to retire?

Image via WikipediaAnswer: The biggest cost is when you have employees who want to retire but cannot. …[Those] who do want to retire but cannot can cost the company dearly. It is nearly impossible to arrive at a set dollar amount, but you can at least get a better understanding of the costs by looking at the impacts in the following areas:

• Increased health care costs. A key reason employees want to retire, rather than work the rest of their lives, is for the health benefits of a more relaxed lifestyle as they get older. Those who want to retire but are unable to do so for financial reasons are likely to have significantly higher health care costs than average-which translates directly into costs for your company in terms of increased health insurance premiums and indirectly impacts the bottom line in terms of greater absenteeism and lower productivity.
• Higher costs in the event you need to lay employees off-… . Imagine if no one was ever able to retire due to poor retirement preparedness and your company was shrinking due to financial difficulties. You'd have to lay more people off due to the fact that there was no attrition due to retirement. And you'd probably end up spending more money on severance; especially to the extent the layoff impacted those with more years of service.
• Declines in performance among older employees who do not want to be working, or cannot effectively handle their job responsibilities but have no choice but continue to work for financial reasons.
• Declines in performance among those younger employees unable to move up the career ladder, which causes lower morale and decreased motivation-a "mailing it in" kind of mentality rather than the engagement required to take the company to the next level.

Your CFO could run the numbers associated with the increase in health care costs and potential layoffs in a bad economy. Performance declines are harder to measure, but they are often much more expensive over the long run as they compound over time and damage the culture of your organization and its ability to effectively compete.

About Financial Finesse: Financial Finesse was founded with a single mission: Provide people with the information they need to become financially independent and secure. Today, we are the leading provider of unbiased financial education for large companies and municipalities. Our financial education services are fully integrated programs designed to address the strategic goals of the organizations we service and are delivered by on-staff Certified Financial Planner™ professionals as an employee benefit. If you are interested in learning more about workplace financial education programs, contact one of our education consultants at mailto:AskFF@financialfinesse.com?subject=Question%20From%20401khelpcenter.com.
The Ask Financial Finesse Q&A service is designed to provide general information on trends and developments in workplace financial education programs and participant education strategies. Due to the complex nature of financial benefits and/or workplace financial issues, the information contained in this document is not to be construed as advice.

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The ideal DC plan: auto-enrollment, escalator and quicker vesting

Employee Benefit Adviser

Posted November 8, 2010 by Editorial Staff at 10:43AM.

Image by Getty Images via @daylifeThe ideal defined contribution plan should be mandatory, and include auto-enrollment, savings escalation and employer contributions, sponsors of large retirement plans believe.

That’s the conclusion of a new study from Northern Trust Global Investments, “The Path Forward: Designing the Ideal Defined Contribution Plan.” Northern Trust surveyed 50 large DC plan sponsors, representing more than 970,000 participants and over $100 billion in plan assets, as well as five leading investment consultants.
The survey found that 63% of plan sponsors and four out of five consultants think participation in DC plans should not be optional. Forty-nine of the 50 plan sponsors and all of the investment consultants believe automatic enrollment should be a key feature of DC plan construction. Currently, federal data indicate that only 19% of private industry workers are enrolled in plans with automatic enrollment, according to Northern Trust.
Seventy-five percent of the plan sponsors and all of the consultants support automatic escalation, which would build on the default level of between 3% and 7% for employee salary contributions to auto-enrollment plans.
Almost all plan sponsors and consultants report that the ideal DC plan structure would include significant contributions from employers, while 60% of plan sponsors believe employer contributions should vest immediately, instead of waiting until an employee works for one year or more at the company.
The majority of those surveyed also said they were in favor of government and employer policies, including tax incentives, restrictions on taking loans against plan balances and transparent fee structures, to strengthen plans.

Image via Wikipedia“The study participants describe the ideal DC plan as simple, automatic and cost effective,” says Jim Danaher, senior investment product manager for Defined Contribution Solutions at Northern Trust. “These traits are necessary to satisfy the requirements of three different constituencies: employees who need an efficient means of accumulating assets for retirement; employers in need of a cost-effective benefit to attract and retain valuable employees; and policymakers in need of a reliable savings vehicle in an age of lengthening life spans, pension funding crises, and chronic under-saving.”

— By Ruthie Ackerman, an online editor for Financial Planning, a SourceMedia publication.

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DoL Broadens Fiduciary Net

Image via WikipediaOctober 21, 2010 (PLANSPONSOR.com) – For the first time in a generation, the Labor Department has taken another crack at the definition of a fiduciary under the Employee Retirement Income Security Act (ERISA).

The proposed rule was unveiled today by the Department of Labor (DoL), which noted that its adoption “would protect beneficiaries of pension plans and individual retirement accounts by more broadly defining the circumstances under which a person is considered to be a ‘fiduciary’ by reason of giving investment advice to an employee benefit plan or a plan’s participants.”
The proposed rule is designed to “take account of significant changes” in both the financial industry and what was described as “the expectations of plan officials and participants who receive investment advice,” as well as to protect participants from “conflicts of interest and self-dealing.”

Testing, Tested

Image via WikipediaIn explaining the proposal, the Labor Department noted that while Section 3(21)(A) of ERISA provided a “simple two-part test for determining fiduciary status,” a subsequent (1975) regulation served to “significantly narrow” the “plain language” of the legislation; effectively replacing the two-part test that would impose fiduciary status when a person renders investment advice with respect to any moneys or other property of a plan, or has any authority or responsibility to do so and receives payment (direct or indirect) for that advice, with a 5-part test that included conditions that: the advice regarding plan investments be rendered “on a regular basis,” that the advice would serve as a primary basis for investment decisions with respect to plan assets, that the recommendations are individualized for the plan, that the party making the recommendations receives a fee for such advice, and that it be pursuant to a mutual understanding of the parties. Moreover, the Labor Department noted that it further limited the definition of “investment advice” in a 1976 advisory opinion, when it concluded that the valuation of closely-held employer securities in an employee stock ownership plan (ESOP) relied on in purchasing those securities would not constitute investment advice.

…[The] Labor Department noted that the financial marketplace and the types and complexity of services have expanded dramatically. The proposal notes that although professionals such as consultants, advisers, and appraisers “…significantly influence the decisions of plan fiduciaries, and have a considerable impact on plan investments,” if they are not deemed fiduciaries under ERISA “…they may operate with conflicts of interest that they need not disclose to the plan fiduciaries who expect impartiality and often must rely on their expertise, and have limited liability under ERISA for the advice they provide.”
In essence, the Labor Department now says that ERISA does not compel it to apply its own five-part test, and that new facts and circumstances mean it is now time to update the investment advice definition. Specifically cited is that the proposal no longer requires that the advice be provided on a “regular” basis, not does it require that there be a mutual understanding that the advice will serve as a primary basis for plan investment decisions. [emphasis added']
Advice Description
As for what constitutes advice, the proposal now includes the provision of appraisals and fairness opinions as a type of advice [emphasis added], noting that the incorrect valuation of employer securities was a “common problem” identified in the DoL’s recent national enforcement project, including cases where plan fiduciaries have “reasonably relied on faulty valuations prepared by professional appraisers.” The proposal also makes specific reference to advice and recommendations as to the management of securities and other property, including such things as voting proxies or recommendations regarding the selection of persons to manage plan investments.
Finally, in what was described as reflecting “the Department’s longstanding interpretation of the current regulation,” the proposal makes clear that fiduciary status “may result from the provision of advice or recommendations not only to a plan fiduciary, but also to a plan participant or beneficiary.” [emphasis added]

Distribution Advice
The proposal notes that while the DoL has previously taken the position that a recommendation to a plan participant to take a permissible plan distribution would not constitute investment advice, even when combined with a recommendation as to how the distribution should be invested, “[c]oncerns have been expressed that, as a result of this position, plan participants may not be adequately protected from advisers who provide distribution recommendations that subordinate participants’ interests to the advisers’ own interests.” As a result, the Labor Department is now seeking comment “on whether and to what extent the final regulation should define the provision of investment advice to encompass recommendations related to taking a plan distribution.” [emphasis added] The proposal notes that the agency is specifically interested in:

• information on other laws that apply to the provision of these types of recommendations,
• whether and how those laws safeguard the interests of plan participants,
• the costs and benefits associated with extending the regulation to these types of recommendations.

The proposal says that the definition of advice does not include “the preparation of a general report or statement that merely reflects the value of an investment of a plan or a participant or beneficiary, provided for purposes of compliance with the reporting and disclosure requirements,…unless such report involves assets for which there is not a generally recognized market and serves as a basis on which a plan may make distributions to plan participants and beneficiaries.” [emphasis added]
Other Points
The proposal says that the DoL believes that explicitly claiming ERISA fiduciary status, orally or in writing, is sufficient to result in fiduciary status, if provided for a fee (in that it “enhances the adviser’s influence, and gives the advice recipient a reasonable expectation that the advice will be impartial and prudent”).
Consistent with existing regulations, the proposal acknowledges that the provision of investment education materials (plan information, general financial and investment information, asset allocation models, and interactive materials) would not be deemed advice.
The proposal notes that the “marketing or making available” investments or an investment menu (e.g., through a platform or similar mechanism) “without regard to the individualized needs of the plan, its participants, or beneficiaries…will not, by itself, be treated as the rendering of investment advice within the meaning of section 3(21)(A)(ii) of ERISA”—if the person making those investments available “discloses in writing to the plan fiduciary that the person is not undertaking to provide impartial investment advice.” Additionally, the provision of information and data to assist a plan fiduciary’s selection or monitoring of investments isn’t deemed to be rendering advice “if the person providing such information or data discloses in writing to the plan fiduciary that the person is not undertaking to provide impartial investment advice.”
The proposal does set aside some limitations, exempting from the fiduciary umbrella persons that can demonstrate that the advice recipient “knows or, under the circumstances, reasonably should know, that the person is providing the advice or making the recommendation in its capacity as a purchaser or seller of a security or other property, or as an agent of, or appraiser for, such a purchaser or seller, whose interests are adverse to the interests of the plan or its participants or beneficiaries, and that the person is not undertaking to provide impartial investment advice.” [emphasis added]
Finally, noting that a necessary element of fiduciary status is that the advice be rendered for a fee or other compensation, the proposal states that that includes, but is not limited to, “brokerage, mutual fund sales, and insurance sales commissions,” [emphasis added] and that it includes fees and commissions based on multiple transactions involving different parties.
Effective Dates
The proposal is set to take effect 180 days after publication in the Federal Register tomorrow, but the Labor Department is first seeking comments on the proposal. The comment period for the proposed regulations will end 90 days after publication of the proposed rule in the Federal Register. That means that the comment period will end January 20, 2011. Comments can be submitted electronically by e-mail to e-ORI@dol.gov (enter into subject line: Definition of Fiduciary Proposed Rule) or by using the Federal eRulemaking portal at http://www.regulations.gov/.

The DoL notes that persons submitting comments electronically are encouraged not to submit paper copies. More information on paper submissions is available (along with the proposal itself) at http://www.ofr.gov/OFRUpload/OFRData/2010-26236_PI.pdf

Judy Ward
editors@plansponsor.com

Making Retirement Savings Last

Insurers and plan sponsors want the government to make it easier to offer annuities in 401(k) plans.

Alix Stuart - CFO.com | US

September 28, 2010
With companies continuing to shift away from pensions toward 401(k)s, many CFOs no longer have to worry about a long stream of future obligations draining their corporate coffers. They may, however, find themselves with a new worry: retired employees draining their own coffers.
Among the first waves of 401(k) holders retiring, most are taking the lump sum of their savings and putting it into IRAs. That's good news in that they're still saving, says Betsy Dill, senior partner at Mercer. The bad news, though, is that "there's a high probability they could outlive whatever money they've accumulated," since "there's not a good awareness of how to take that lump sum and create an income stream out of it."
However much companies might want to help, though, the Obama Administration's suggestion last January that annuities should be an option within 401(k) plans struck fear in the heart of some CFOs. Right now, only about 2% of employers offer such an option among investment choices, according to Hewitt data, in large part because the rest are daunted by the liability that seems to accompany it.
… The problem that plan sponsors may face in offering annuities is with vetting the insurance companies that sell them. The big question: if an insurance company goes under 20 or 30 years after the investment is made, is a plan sponsor liable for continuing the payments?
A recent joint hearing by the Labor and Treasury departments on the topic — broadly known as "lifetime income" — should help plan sponsors breathe easier. After gathering input from various entities in the retirement industry, including insurance companies, 401(k) plan providers …, consultants, and a group representing plan sponsors, "it is clear that the government is not going to mandate" the inclusion of annuities in 401(k) plans, says Alan Vorchheimer, a principal in Buck Consultants's retirement practice.
Vorchheimer believes the government is not even likely to mandate some suggested educational illustrations, such as what a person's savings would look like as a stream of annuitized payments. Rather, he and others expect the DoL to make things easier for companies that offer 401(k)s.
"For any CFOs considering a solution [to how their employees draw down retirement savings], there's the potential for new rules that will make it easier," says Alison Borland, retirement outsourcing strategy leader at Hewitt. Those rules could include a safe harbor around annuity products that would clearly delineate that plan sponsors are not liable for any failures on an insurance company's part to pay out.
Currently, the most involved a typical company will get in helping employees tap into retirement savings postemployment is to point them toward a number of rollover options, including IRAs and annuities. Dill says she sees more plan sponsors getting interested in "creating a menu of spend-down options," possibly including basic annuities, more-complex products such as an annuity wrap based on a target-date fund, or structured payouts from a target-date fund designed to cover the lifetime of a retiree.
The main benefit of having an annuity offered within a plan is that companies with larger numbers of employees could potentially negotiate for lower fees, notes Borland. The approach would also make it easier for employees to purchase annuity assets over time rather than buying all at once.
However, consultants say that even if the government makes it easier for companies to offer annuities, there isn't likely to be a stampede of employers or employees to them. "Employees are not asking for it at this point," says Vorchheimer, in part because the financial crisis has squelched trust in the big insurance companies that offer annuity products.

Annuities could get boost from small business legislation

Employee Benefit News

By Donna Mitchell
September 29, 2010
The battered annuity industry seemed to have found a powerful ally in President Obama’s administration, when the Middle Class Task Force issued a report in January saying the executive branch would work to promote the availability of annuities and other forms of guaranteed income.

Image via WikipediaPart of that promise was fulfilled Monday, after President Obama signed the Small Business Jobs Act into law.

The legislation includes a provision that allows holders of non-qualified annuities to carve out some of the funds from a deferred annuity and buy an immediate annuity contract with those proceeds.
The original deferred annuity will continue to grow and accumulate tax-deferred income. Designated as an offset, it is designed to promote retirement preparedness. …
Small employers
Because of their size, some small business owners are not able to directly offer qualified retirement savings plans. For employees of these companies who happen to own a deferred annuity contract, the new law gives them greater flexibility to save outside of the workplace toward a secure retirement, according to Cathy Weatherford, president and chief executive officer of the Insured Retirement Institute, based in the nation’s capital.
Currently, if an individual wants to pull a portion of money out of his or her single guaranteed annuity and buy a separate contract, that investor would have to cancel the original contract and buy two separate annuities. They would incur a surrender charge beginning at 5% of the invested amount, at least, and ranging to 7% and up, Weatherford explains.
"This is a giant step forward that will allow Americans to have annuities … as they build out their retirement savings strategies going forward," Weatherford says. "It will save money on fees for exchanges or those types of things. It is a way for people to get one more option to continue to grow next egg at time when might need guaranteed lifetime income."
There could be more to come from the current administration, in terms of supporting the annuity industry. In February, the Departments of Labor and Treasury requested information for how to encourage 401(k) plans to offer annuities to their participants, which has gotten many responses from insurance companies and trade groups.

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Donna Mitchell is a senior editor at Financial Planning, a SourceMedia publication.

Protection from the Storm

PLANSPONSOR.com

Thinking about investment-management outsourcing? Here are seven of the biggest myths and realities
“If it is raining, you are looking for the best umbrella,” says Joshua Dietch, Managing Director at Waltham, Massachusetts-based Chatham Partners, a market research and consulting company. Some employers—who sponsor underfunded defined benefit (DB) plans that need better risk management or defined contribution (DC) plans that need less-costly, more-customized investment options, for example—have looked to the expertise of investment-management outsourcers as that protection from the current storm.

However, this complex field is ripe for confusion among employers considering it. Sources talked about several of the most common investment-outsourcing myths:

1. It is just for mid-size sponsors. “The real sweet spot for outsourcing is mid-size companies,” says Seth Masters, CIO of AllianceBernstein Blend Strategies and Defined Contribution, and most of the first wave of deals did, in fact, happen with these plans. These employers often do not have the in-house resources to do all the work effectively, but have enough in assets to make deals scalable for an outsourcer.

Image via WikipediaWhile the mid-size market remains active, “we also see much more of a trend at the larger end,” says Joseph Gelly, Russell Investments Investment Outsourcing Practice Leader. “It is less around ‘I do not have buying power’ or ‘I do not have the resources or the technical competence’ and more around ‘I need to focus on running my company,’” he says, adding that many of those larger employers have frozen DB plans and want to devote their time and resources to core parts of their business rather than legacy benefits.

2. It is just about managing managers. Many sponsors traditionally see outsourcing in terms of investment oversight, says Clint Cary, Senior Vice President at Aon Investment Consulting. “It is not just managing assets; it is managing the funded status,” he says. Sponsors of active DB plans “are migrating to a risk-management approach, where they are trying to improve the funded status of the plan and de-risking the plan as they get better funded,” he says, “and they do not have the risk managers internally.”…

Image via Wikipedia3. Only defined benefit plans get outsourced. These plans have used outsourcing the most, but defined contribution (DC) sponsors increasingly consider it, says Jennifer Tretheway, a Senior Vice President and Managing Director at Northern Trust Global Advisors. “The most common thing we see from DC plans is an interest in having some type of oversight done, anything from overseeing the mutual fund options on a recordkeeper’s platform to something more proactive, in terms of having discretion on which investment-management firms to utilize,” she says.

DC plans may need outsourcers’ expertise even more than DB plans, Masters says. “Historically, DC plans did a kind of outsourcing by hiring recordkeepers that provided a bunch of options, mostly in mutual fund form and often, frankly, at a fairly high cost,” he says. However, DC plans have become most Americans’ primary retirement-savings vehicle, leading employers to want to limit the cost to participants as much as reasonably possible.
“The single biggest thing that people will get help with is customizing target-date funds,” Masters predicts. “In the next 10 years, virtually all growth in DC assets will be in target-date assets. So, as that unfolds, it becomes increasingly important for plan sponsors to get the target-date decision right.” Designing and implementing a customized target-date structure so that it comes as close to the cost of a DB plan as possible “is a fairly specialized task,” he says, and many employers lack that in-house expertise.
4. It costs a lot, or saves a lot. “Another primary misconception is that outsourcing is more expensive than doing it in-house,” Tretheway says. “The majority of our clients do recognize some savings, in the form of hard-dollar expenses for investment management, custody, and performance measurement. On average, clients might recognize a savings of around 10%.”…
“[Sponsors] do not go in thinking the overall fees are lower; they go in thinking they will get a more comprehensive service set,” Cary says. “They see it as a cost-neutral solution. Cost is not a main driver, and is also not a hindrance.”
Remember that the cost of administration for a DB plan pales compared with the cost of funding the plan, Dietch says. The argument for outsourcing a pension plan is “you reduce your cost of funding if you generate higher returns and less volatility, and reduce tracking error,” he explains.
5. Sponsors can offload their fiduciary responsibility. Dietch wonders if most employers realize that they retain significant fiduciary obligations if they outsource. Even if they think they can transfer that responsibility legally, Masters says, “I think you cannot morally: The reputational risks are too great.”
Yet, the desire to forgo as much fiduciary responsibility as possible “is a big motivator” to outsource, Dietch says. “It is certainly being aggressively marketed.” However, an ERISA plan sponsor remains a fiduciary, he adds, and has to operate with that standard in selecting and monitoring an outsourcer.
“That fiduciary role does not go away,” Gelly says. “The responsibility shifts from day-to-day to more strategic. Their involvement is extremely critical, but it is more at the strategic level,” such as approving the investment policy. The employer also still needs to evaluate the investment outsourcer’s performance regularly, Tretheway says, and most clients look at quarterly committee meetings as a good time to cover that.
6. It means giving up all control. “One thing I hear a lot is that people feel like, ‘Oh, I am giving up control,’” Gelly says of employers thinking about outsourcing. In reality, Tretheway says, clients’ ongoing involvement level really ranges. For instance, some clients delegate to Northern Trust the authority to hire and fire investment managers but, in other cases, it does not have complete discretion. For those with less day-to-day involvement, she believes, they ultimately have more control because they can track progress more closely to meet their goals.
There is no one right answer on how involved in day-to-day workings a sponsor should stay after outsourcing, Masters says. …
7. Outsourcers only sell pre-packaged solutions. “There is a little bit of a myth out there around, ‘This is a black box,’” Gelly says. “Unfortunately, some people think that everybody is treated the same.” Sometimes yes and sometimes no. For instance, Gelly says that Russell highly customizes the weighting among plan clients’ asset classes based on factors such as a plan’s liabilities.
Outsourcing has a lot of different permutations in the marketplace, Dietch says, but to do this business profitably, outsourcers have to create something scalable. As for customizing to specific clients, he says, “a lot of it comes down to what the contractual terms say.” Some outsourcing providers take a more-standard approach: “They have one fund, and everybody goes into that fund,” Tretheway says, “but all of our clients have a unique asset allocation, and a unique investment policy statement. We really have a hard time believing that any two organizations have identical needs.”
Judy Ward
editors@plansponsor.com

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The Pros and Cons of 401(k) Annuities

Retirement Income Journal

By Kerry Pechter Thu, Sep 16, 2010

One witness at the DoL/Treasury hearings this week asserted that mandatory annuitization of DC assets at retirement is needed. The government, as well as sponsors and plan providers, have largely ruled that out.
The prominence of the witnesses testified to the significance of the DoL/Treasury Department hearings this week on so-called "401k annuities" and other tools that can help plan participants turn their savings into income--either while they save, when they reach retirement, or in retirement. …
Trade, labor, and consumer advocacy groups also contributed their thoughts. The AFL-CIO, the Investment Company Institute, the Profit-Sharing and 401(k) Council of America, the American Council of Life Insurers, the American Society of Pension Professionals and Actuaries and the Spark Institute all gave testimony. Other groups and firms can contribute statements via e-mail over the next month.
Some witnesses praised in-plan annuities, while others, like Steve Utkus of Vanguard, tried to bury them. To be sure, there are plenty of good reasons for putting income options in plans, either as savings vehicles (deferred annuities) or exit options (immediate annuities, payout funds).
Big plan sponsors have economies of scale and bargaining power that lower the costs of products, administration, and education. Plan sponsors are also in a unique position to set up a program that applies the employer match to the purchase of future income… . Like contributions to a defined benefit plan, that kind of program would leverage the time value of money and mitigate the interest rate risk and timing risk associated with the lump sum purchase of an annuity at retirement.   
Counter-arguments
But there are plenty of … counter-arguments for putting annuities in DC plans. For plan sponsors, there are potentially huge expenses associated with evaluating the costs and benefits of different income product vendors and in educating employees. Above, all liability for picking the wrong provider or for giving employers bad (in retrospect) advice scares them. “Fiduciaries are paranoid and rightly so,” says Sheldon Smith, an ERISA attorney and president of ASPPA.
As for participants, most of them won’t retire from their current employer/plan sponsor. From the participant perspective, the average person spends only 4.2 years in any particular job and might participate in several 401(k) plans. There are also portability issues. Participants may want to change employers or get out of income products. Employers may want to change annuity providers.
Adapting recordkeeping systems to multiple income options, or options that might change suddenly, could also pose problems, especially for small employers. Ninety-percent of plans have fewer than 100 participants. Only the largest 10% of plans, which account for 85% of all participants, may be able to cope with the legal, educational, and recordkeeping challenges of in-plan options.  
Other problems: most 401(k) accounts, even at retirement, are too small to annuitize at all, let alone big enough to allow for the ideal solution: partial annuitization. Annuity purchases can also trigger the need for spousal approval, potentially increasing paperwork for sponsors. Gender-neutral pricing rules in 401(k) plans also mean that retail annuities, which have gender-specific pricing, can offer men much higher payout rates than in-plan annuities.
Alternate vision
The zeal for putting guaranteed income options in DC plans is limited mainly to insurers. Asset managers … which are the custodians of millions of rollover IRAs, believe that most people will consolidate their tax-deferred savings in an IRAs and then buy an annuity—or simply take systematic withdrawals. Investment advisors think along the same lines, and millions of Americans are likely to take this path.
Even if you build in-plan annuities, will they come? There’s a lot of disagreement over whether Americans want in-plan annuity options. Even in DB plans, 90% of retirees who have the option choose lump sum payouts over lifetime income streams. Shlomo Benartzi of UCLA, and an Allianz Life consultant, cited evidence of high annuitization rates in some companies, and MetLife said participants like a partial annuitization option. But the evidence is inconsistent. Most people don’t want to give up control over their assets or even part of their assets, especially not at time they stop working, when their retirement plans are still unsettled.
There’s also the crowding-out problem. Thanks to Social Security, most middle-class plan participants will get at least half of their retirement income coming from an annuity, and have no compelling reason to annuitize their DC savings. On the contrary, they may need their DC assets to stay liquid for emergencies, bequests, weddings or simply long-deferred pleasures.
To overcome this resistance or inertia, some witnesses said, the government might have to approve a qualified default annuity option, analogous to auto-enrollment and the qualified default investment options in 401(k) plans. One witness, Josh Shapiro of the National Coordinating Committee for Multiemployer Plans, asserted that nothing short of mandatory annuitization of DC assets at retirement will really change the game. The DoL and Treasury, as well as sponsors and plan providers, have already ruled that out.
© 2010 RIJ Publishing LLC. All rights reserved.

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Some 401(k) Plans Are Adding an Annuity Option

NYTimes.com
By FRAN HAWTHORNE
Published: September 15, 2010

BURDENED with a reputation for being inflexible and expensive, annuities have never been popular in retirement plans. But insurance companies and Wall Street investment firms have produced a new crop of products that fiddle with the standard structure.
Enlarge This Image

Minh Uong/The New York Times

Their idea is that these products can promise employees the security of a traditional pension, while freeing employers from the task of paying for it. However, they are still having trouble breaking through the A-barrier.

Image via WikipediaOnly 2 percent of 401(k) plans include some sort of annuity or insurance option as an investment choice alongside standard stock and bond funds, according to Hewitt Associates, a benefits consulting firm in Lincolnshire, Ill. An additional 3 percent are “very likely” and 17 percent are “somewhat likely” to add the category this year, Hewitt says.

Promoters hope that hearings this week, sponsored by the Treasury and Labor Departments, will lead to federal regulations that clarify some of the administrative concerns.

“Most people would want, as they approach age 50, to have some sense of what level of income they would have at retirement,” said Thomas J. Fontaine, global head of defined contributions at the investment management firm AllianceBernstein, one of more than a half-dozen insurance companies and money managers devising these products. “And they will want to know that they will have that income for life.”

The products work in two basic ways. The most common varieties are tied to target-date funds — premixed funds that base their investment strategy on the date the employee hopes to retire, automatically changing the mix as the date draws nearer.

In the AllianceBernstein model, an increasing portion of the target-date assets are shifted to a special guaranteed fund starting at age 50, with 100 percent in that fund by five years before the retirement date. Although the product isn’t complete, Mr. Fontaine said he expected it to guarantee a 5 percent rate of return for life, for a fee of about 1 percent of the assets.

Prudential Retirement has a product that combines a group variable annuity with a target-date fund, basically insuring against market downturns, also for a 1 percent fee. It guarantees that each year for the first 20 years of retirement, an investor can withdraw an amount equal to 5 percent of the assets that were in the target-date fund at its highest year, even if the market crashed the year before retirement. After 20 years, Prudential starts paying that 5 percent.

Image via WikipediaMetLife’s Personal Pension Builder takes a wholly different approach, akin to a deferred fixed annuity. Each time someone makes a 401(k) contribution, all or part of the money essentially buys a mini-annuity (also known as a laddered annuity), getting the prevailing interest rate at that time. Thus, a person who contributed every two weeks would be purchasing 26 mini-annuities that year.

What all these products have in common is that employees use their 401(k) assets to buy a guaranteed, steady payout for the rest of their lives after they retire. The cost is usually around 1 percent of the assets guaranteed, on top of the regular 401(k) fees.
For many people, the added security is worth the price.

“We insure everything — disability, our car, our house — but we don’t insure the risk that we could outlive our assets,” said Pamela Hess, Hewitt’s director of retirement research. She recommended that people use this kind of guarantee for around half of their 401(k) assets.
There are other concerns, however. Because so many parts are movable — including the interest rate, the retirement date and the amount of the contribution — companies worry about the administrative difficulties. It is not as simple as having one small-company stock fund for the whole work force.

Like a standard annuity, some of the new products depend on a single insurance company’s staying in business long enough to keep paying out the guarantees, maybe for decades.
“How do you fix this if it’s not the right provider?” Ms. Hess asked.
Jody Strakosch, MetLife’s director of retirement products in the United States, has a ready reply for that sort of criticism: “MetLife has been meeting our financial obligations for 140 years.”

And John Kalamarides, the senior vice president of retirement strategies and solutions at Prudential, said new “safe harbor” rules from Washington could relieve some employers’ fiduciary concerns in selecting insurance companies.
On the plus side, the target-date-related products are more flexible than annuities. Investors can pull out their money at any time, although that means they will have paid the extra fee for nothing.

The firms pitching these products say demand is growing. In a survey of 1,300 companies last fall, MetLife found that 44 percent of employees “would like my employer to offer an annuity option” in their 401(k) or similar retirement plan. A MetLife spokeswoman acknowledged that the statement could refer to rolling over the 401(k) into an annuity at retirement, as well as having an investment option.

Stephen P. Utkus, who runs the Center for Retirement Research at the Vanguard Group — which does not sell any of these new products — said that trying to buy security with a 401(k) investment was a mistake. The best approach, he says, is simply to build a bigger nest egg.
“Our clients view having a portfolio of assets itself as a form of security,” he said.

A version of this article appeared in print on September 16, 2010, on page F2 of the New York edition.

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