By: Eric Sondergeld
It has become all but impossible for many employers to offer a traditional defined benefit pension plan. Instead of employers forming new pension plans, they have worked to reduce the strain on both their income statements and balance sheets by freezing pensions and, if they can reach full funded status, terminate the plan. Evidence of this trend is the growth in pension risk transfer activity, which recent increases in interest rates will only accelerate. Higher interest rates improve pension funding by reducing the value of liabilities, thereby improving funded status. By March 2020, just 18% of private industry workers had access to a defined benefit plan, while 64% had access to a defined contribution plan. The result is fewer workers will retire with at least a floor of income beyond Social Security. Results from Greenwald’s latest In-Plan Insights research program suggest defined contribution plans can help reverse this trend without adding the financial strain of a traditional defined benefit plan.
Employers and employees surveyed agree on the role employers should play in their retirements, with employers expressing stronger sentiment than plan participants (a.k.a. employees). Nearly 9 in 10 employers and half of plan participants feel the company should have a high or very high level of responsibility for the overall retirement preparedness of their employees. And more than 8 in 10 employers and 4 in 10 employees feel the same way about retired employees’ long-term financial security. Further, 3 in 5 participants are highly interested in an option that “pension-izes” their retirement plan savings (regardless of the source of contributions).
Incorporating Retirement Income into a DC Plan
The retirement industry is working to incorporate retirement income features into DC retirement savings plans. Gaining adoption is a three-level sale. First, plan advisors must be convinced of the value in adding income options to define contribution plans they sell and manage. Second, they need to convince the plan sponsors they work with to add one or more income options to their plan. Third, plan participants need to be educated and, ultimately, convinced to participate in an income option.
The third step can be eliminated by employers allocating their (matching) contributions to an in-plan income option. Interest in doing so is high, with 8 in 10 employers saying they’d be comfortable directing employer contributions to a guaranteed lifetime income solution, regardless of how participants direct their contributions. Similarly, nearly 2 in 3 participants whose company makes matching contributions would be comfortable if their employer directed employer contributions to a guaranteed lifetime income solution.
Benefits of GLI in Workplace Retirement Plans
The benefits of having employers direct their contributions to a guaranteed lifetime income option are many. For organizations building income features, adoption becomes a 2-step, rather than 3-step sale, and using the employer match has the potential to rapidly accelerate the growth of in-plan income. Employers benefit as it supports feeling of responsibility for their employees’ retirement preparedness. And, for those who once offered a (or have a frozen) traditional pension plan, it enables them to offer pension-like income to their retiring employees. Employees benefit by building a base of retirement income without having to do anything (kind of the point of pensions in the first place), and it fulfills their desire for pension-like income in retirement. In general, making in-plan income a standard part of retirement funding further reinforces the notion that retirement plans are intended to help workers to replace income in retirement.
Challenges in Offering GLI in a Workplace Retirement Plan
With all opportunities come challenges. In this case, I see two potential challenges. Educating plan sponsors should help with both. First, plan sponsors may be concerned about fiduciary risk. The good news is the (first) Secure Act included safe harbor provisions for including annuities in retirement plans, and the recently-passed Secure Act 2.0 eliminated some barriers in using qualified life annuity contracts (QLACs). The second potential obstacle may come from plan sponsor concerns regarding portability of an income feature. Again, the Secure Act included a provision allowing plan participants to move their annuity from their 401(k) to another 401(k) or an IRA. While not all plan recordkeepers or IRA custodians are currently able to accept such transfers/rollovers, this capability should increase over time.
U.S. Bureau of Labor Statistics
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