Administration February 27, 2018

Transamerica Requires TPAs for Small Plans, Reflecting Competitive Landscape

Our series of behind-the-scenes articles speaking with new and established retirement plan service providers about their biggest challenges and opportunities turns next to Transamerica—which has instituted a requirement that new plan sponsor clients under a certain asset size must utilize a retirement specialist third-party administrator.
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Transamerica announced recently that the services of a third-party administrator (TPA) “specializing in retirement” will be required for all new retirement plans coming onto the recordkeeping platform with less than $3 million in assets.

According to an interview with Joe Boan, senior vice president and executive director, individual and workplace distribution for Transamerica, the move is meant to be a clear signal to the defined contribution (DC) plan marketplace, underscoring what the firm sees as the clear value delivered by TPAs to small retirement plans.

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Given that Transamerica already sources much of its new small-plan business through the TPA avenue, Boan says the announcement should not be all that surprising, nor should it cause any significant client disruption. Reflecting on the evolving TPA landscape and his firm’s decision to directly promote the greater use of retirement specialist TPAs in the small-business or “micro-plan” market, Boan agrees that the use of TPAs in all market segments has increased alongside the sheer complexity of running a compliant retirement plan. While it used to be that, at say $5 million or even $10 million and up, a plan just didn’t work with a TPA anymore because they could probably do all the administration all in-house—that thinking has diminished as plan complexity has increased.

Against this backdrop, Boan says Transamerica’s decision here makes a lot of sense.

“Our experience is that smaller companies benefit significantly from the expertise of a third-party administrator who can have deep conversations about their client’s business and goals,” he tells PLANSPONSOR. “With this announcement, we are firmly stating that working with a retirement-focused third party administrator is a best practice for small retirement plans.”

So what are some of the specific ways that smaller companies benefit from the expertise of a third-party administrator? Boan stresses the fundamental importance of “having deep conversations about the client’s business and goals.”

“That’s what the TPA ultimately should deliver,” Boan explains. “And of course, they will support and promote flexible plan design customized to meet the specific needs of both the business and their employees. They promote high levels of compliance and technical expertise on issues like loans and distributions; enhanced consultative services; and they assume many important time-intensive responsibilities.”

Asked to speak further about the business growth aspects of this move for Transamerica, Boan agrees wholeheartedly that third-party administrators “are a really important source of business for us in the small- and mid-market, there’s no question.” In fact, the TPA silo helps Transamerica to source roughly 90% of all new small-plan business each year. On an annual basis, TPAs are helping the firm to source something like 65% of all new plans coming online from the plan count perspective, Boan says.

“Really the TPAs do so much to help us better deliver our product at the best possible pricing for our clients, so it is fair to say this new limit we have established is underscoring our commitment to the TPA marketplace,” Boan says. “Other firms have dipped their toes in the water here and, say, put the ceiling for requiring a TPA at $500,000, but we feel like our approach is denoting a true commitment to the TPAs. We think $3 million is a sensible limit because it helps us with our servicing model, frankly, and it really helps us create and maintain partnerships in the local communities.”

While a lot of the business coming in these days already has a TPA relationship established, not all small plans coming to Transamerica have a TPA relationship in place. What will that situation look like for clients when they come to Transamerica with a small plan and no TPA? Boan says this will not be an issue at all, from the client perspective.

“Our first task will be to educate them on why working with a TPA partner might make sense for them,” he explains. “The second part is for us to try to introduce them to a partner that makes sense for everyone involved from the cost and service perspective. We have an entire division that is focused on working with our TPA partners in just this way. It is not really our approach to pick and choose from the top down, what providers we’ll be working with. This remains a relationship-focused business, so as our wholesalers are out there in the marketplace they are naturally working with the TPAs and providers in their communities. They may have a propensity to work with certain providers in their community that they already know very well, and that’s great, from our perspective. The plan sponsor can then take the time to understand how a given relationship would work, and how we can all work together to the benefit of plan participants.”

Another important factor that Boan points out about the new move by Transamerica is how the firm continues to work closely with advisers and has no plans to move away from that approach.

“All the business that we continue to do is involving advisers, and we’re not looking to bypass that at all,” Boan confirms. “We are not moving in the other direction. If a TPA brings us a piece of business we will want to engage an adviser to help established this relationship. And we will be doing the reverse of that as well, connecting advisers to TPAs. We’re not trying to, in any way, eliminate the role of the adviser in this segment of the market.”

It should be noted that Transamerica is far from the only provider revamping its approach to this space. In a recent conversation with PLANSPONSOR, Matt Schoneman, president of The Retirement Advantage, a growing TPA and financial technology support firm based in Wisconsin, was not at all shy about his company’s plans for growth in this market segment, both organic and via merger and acquisition activity. Like Boan at Transamerica, Schoneman pointed to the torrent of regulatory changes, shifts in consumer expectations, the pace of technology development and the race to the bottom on fees as all contributing to a dramatically changing third-party administrator (TPA) market. For firms that are not having success building scale and streamlining their approach to doing business, the words “overwhelming” and “relentless” seem appropriate, he mused.

Similarly, the firm Ascensus has described in detail its plans for growth and evolution both on the TPA and recordkeeping sides of the retirement plan business. Raghav Nandagopal, executive vice president of corporate development and mergers/acquisitions, took some time to explain the firm’s strategic vision for the near- and mid-term future, and suffice it to say, Ascensus is charging full steam ahead on the goal of rapidly building scale, also partly through organic growth but with a real focus on rapidly paced mergers and acquisitions. Not only would the firm like to grow, Nandagopal explained, frankly it must grow to ensure it can continue to reinvest in its serving offerings and new technologies.

The experts all broadly agree that industry changes, such as the introduction of a stricter Department of Labor fiduciary rule, will benefit and strengthen the role of TPAs. “Nonproducing” TPAs in particular, who do not involve themselves in the sale of investment products and perform none of the functions that a financial adviser or investment consultant would typically perform, are benefiting, as they may be able to supplement (or even win some business from) those recordkeeping or advisory firms that have not embraced flat-fee work but have favored business models based on brokerage commissions.

Administration February 26, 2018

Future Still Offers Incentives for Accelerating Pension Funding

DB plan sponsors were already accelerating funding to their plans before tax reform gave them a greater incentive to do so, and doing so in the future will still be a benefit.
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The Tax Cuts and Jobs Act of 2017 has already sparked acceleration of defined benefit (DB) plan funding by corporate plan sponsors.

Goldman Sachs Asset Management’s (GSAM’s) Senior Pension Strategist Mike Moran, based in New York City, previously noted that Kroger and Valvoline are two examples of companies that explicitly cited potential corporate tax reform as one of the reasons for making a voluntary contribution earlier in 2017.

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An article posted on October Three Consulting’s website explains the ways accelerating funding now will save DB plan sponsors money. Corporate tax rates are going down, from a top marginal rate of 35% in 2017 to 21% in 2018. DB plan contributions for 2017 must be made by the tax return due date, with extensions. For a calendar year plan/tax year, that would generally be September 15, 2018. Non-calendar year plan/tax year taxpayers have longer to execute this strategy.

October Three offers a simple example of how much DB plan sponsors will save by making an accelerated contribution now, considering a corporation that pays taxes at the highest marginal rate and sponsors a defined benefit plan with $100 million in unfunded benefits. If the sponsor contributes that $100 million for the 2017 year, it reduces its 2017 taxes by $35 million; if it contributes that $100 million for a later year, it reduces its taxes for that later year by $21 million. Making that contribution for 2017 nets the sponsor $14 million in tax savings.

But, Brian Donohue, partner at October Three Consulting, based in Chicago, points out that is not the only way DB plan sponsors will save money. DB plan sponsors must pay Pension Benefit Guaranty Corporation variable-rate premiums (VRPs) on the amount of their unfunded vested benefits (UVBs) for the prior plan year. As a general matter, contributions for 2017 will reduce VRPs for 2018, and fully funding plan liabilities will eliminate them. For the example plan with $100 million in unfunded benefits, a $100 million contribution this year saves the company $3.8 million in premiums—Donohue explains this is $3.0 million net of taxes because the company will get a tax deduction for premiums, so the cost for the company is a little less. And, “putting contributions in the plan now will eliminate a string of premiums for many years,” he points out.

The question for plan sponsors regarding whether they can pursue this strategy is, “What is the limit for how much they can contribute and deduct for 2017?” Donohue says the amount is generally larger than the appetite the plan sponsor has. One constraint he notes is that a plan sponsor won’t get the benefit of accelerated funding if it makes a contribution that eliminates taxable income and puts it in a carry forward provision—for a big company that would be a huge number. The more practical question, according to Donohue, is, “How much cash do we have or want to borrow to accelerate funding?” He says the law allows DB plan funding of up to 150% or more.

Accelerated DB plan funding had already begun to be a conversation, but the change in corporate tax rates makes it more valuable, Donohue says. “It is very rare in the pension world to have this opportunity.” Donohue feels the conversation isn’t getting the traction it should be, given its big benefits. “[The conversation] is not being driven by consultants, but within companies. One would think this is a huge conversation to have right up until September,” he says.

Accelerating funding in future years

Even before the Tax Cuts and Jobs Act, DB plan sponsors were accelerating funding. Eighty percent of defined benefit (DB) plan sponsors have accelerated funding, largely due to increasing Pension Benefit Guarantee Corporation (PBGC) fees and the prospect of lower corporate taxes, according to results of the Mercer/CFO Research 2017 Risk Survey.

“Certainly, there is incentive to do something sooner due to tax reduction, but even before, plan sponsors were doing it due to PBGC premiums,” Moran says. He expects to see a lot of activity pulled forward to the first three quarters of this year, and afterwards there may be a slow-down, but it will still make sense to accelerate funding due to premiums, he adds.

Whether now or in the future, if DB plan contributions get plans to a higher funded level and the plan sponsor doesn’t shift the plan’s allocation to lock those gains in, then plan sponsors could lose the benefit of accelerated funding, Moran warns. As contributions lead DB plans to hit triggers on a liability-driven investing (LDI) glide path, plan sponsors need to shift allocations. “It’s not just about making higher contributions; it’s also about what plan sponsors are doing as a hedging strategy not to lose benefits,” he says.

According to Moran, the DB space has hit an inflection point; more DB plan sponsors are accelerating funding than taking funding relief that was extended in the Budget Act of 2015. “Three to five years ago plan sponsors were putting in only the minimum contribution, taking advantage of funding relief,” he says. “But as [PBGC] premiums went higher, plan sponsors saw the advantage of contributing more. Now with tax rates changing, it makes even more sense.”

Moran concludes: “We have seen a lot of activity in this area already, but tax reform just adds another log on the fire of incentives to accelerate funding. We will see more activity as the window closes on this opportunity.”

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