01 Nov. 2012 | Comments (0)
Successful retirement strategies depend on managing financial resources and life situations during retirement. Although defined contribution plans have become more prominent in the retirement landscape, there is no accepted strategy with regard to helping employees focus on a paycheck replacement strategy during retirement, or even any agreement that the employer has a role in supporting a paycheck replacement strategy. New resources offer information for employees, as well as insights for employers as they consider what they should do. Three recommended resources are:
1) Hueler, Kelli and Anna Rappaport: The Role of Guidance in the Annuity Decision Making Process, Pension Research Council Working Paper 2012-11, http://www.pensionresearchcouncil.org/publications/document.php?file=1027
2) Vernon, Steve, Money for Life: Turn Your IRA and 40(k) Into a Lifetime Retirement Paycheck, Rest of Life Communications, 2012, http://www.restoflife.com/Money-for-life.htm
3) Issue Briefs: Designing a Paycheck in Retirement and Deciding When to Claim Social Security, Society of Actuaries, 2012, http://www.soa.org/research/research-projects/pension/research-managing-retirement-decisions.aspx
Important insights as employers consider their strategies include:
- For employees with limited financial assets and no defined benefit plan, Social Security is their main financial asset. Their only paths to increase income in retirement are to defer Social Security claiming and to work longer. Yet, most people claim early and many of them do not evaluate the options for claiming. Delaying Social Security is also an effective strategy for individuals who wish to increase guaranteed lifetime income. Employers can assist employees in focusing on the issue and point them to resources for looking at options. (The Social Security website offers estimates at different retirement ages, but leaves couples to investigate further considerations without support.)
- All or nothing decisions are not desirable. The best programs allow employees flexible timing to make choices and allow them to devote part of their funds to specific payout options. Timing flexibility is feasible with defined contribution plans, but it is not feasible with the choice of payout options in defined benefit plans. A desire for such flexibility may be a reason for employees to take a lump sum, roll their account balance into a retail IRA and then focus on managing retirement funds using the IRA. But this can be an expensive strategy.
- There are several different types of strategies and there are important trade-offs between the different payout methods. Many employees are hampered from making the most appropriate choices because they do not understand the options. The Issue Briefs and the book from Vernon lay out the trade-offs and Vernon provides some evaluation of them.
- The choice of payout methods and investment strategies should be considered from a bigger picture portfolio perspective. Many individuals will want to diversify during retirement, and choose multiple methods of payout. However, different advice providers and plan administration services differ with regard to whether they offer post-retirement support, and if they do, whether they offer a fair presentation of a range of options, or whether they “steer” people in a specific direction.
- Competition matters, as does access to payout options without needing to go to the retail market. For example, for immediate life annuity purchasing, the Hueler Income Solutions® platform includes competitive bidding for all quotations. An analysis of several thousand quotations indicated that the average difference between high and low quotes was 8%, and that in some cases spreads could be as high as 20%, although spreads over 15% were unusual.[i] An analysis of quotes in the United Kingdom showed considerably greater spreads.
- Active guidance matters. Advice can steer people toward investigation of annuities or away from them. The employees and retirees who wish to explore an annuity option are much more likely to complete an annuity purchase if they are able to have a conversation with a trusted person not believed to be biased. Many buyers will have multiple conversations.
- Many plan sponsors have worked hard to lower expenses in their 401(k) plans and offer very efficient investment options. In contrast, retail IRAs have much higher expense charges than plan investment options. Employees should be discouraged from taking lump sums and rolling them over into retail IRAs unless they have carefully investigated the costs involved. They should be encouraged to pay attention to expenses.
- As employers consider life income options, it is important for them to remember that guaranteed life income is an important part of retirement security. Paycheck replacement without guarantees is helpful, but it leaves an important gap. Annuitization is not a good choice for everyone, but it needs to be included in the options presented and offered. Ideally, participants will understand a range of options for the pay down phase, and they can make choices considering trade-offs and a total portfolio approach.
- Employers can play a range of roles in supporting the post-retirement period. While some will chose to opt-out of support for paycheck replacement, it is important for more employers to become engaged. A range of roles for employers includes:
- A) Create a culture focused on the importance of paycheck replacement.
- B) Provide illustrations that focus on paycheck replacement during working years.
- C) Offer in-plan income options: Lifetime income can be offered through competitive purchasing platform or through choice of a single insurance company.
- D) Serve as purchasing agent: Offer purchase of lifetime income through use of competitive purchasing platform.
- E) If DB plan is offered, permit rollover of DC money to the DB plan.
- F) Permit employees to leave their funds in the plan post-retirement and offer investment options, and/or managed accounts, and installment payouts.
- G) Offer education with regard to options and considerations – both before retirement and at time of retirement.
- H) Ensure that plan administration providers understand employer’s philosophy and are supporting it in implementation.
- I) Offer advice either through an advice service, or by hiring advisors to work individually with employees.
These roles are not mutually exclusive. An employer may choose to implement several of these steps to work together.
There is growing recognition that the post-retirement period is very important, and it is expected that more employers will offer at least some support for post-retirement planning. Both the Department of Labor and the Treasury have been working on related issues and can be expected to issue further guidance in the coming months.