An Overview of, and How to Assess, Retirement Income Options

The passage of the Setting Every Community Up for Retirement Enhancement (SECURE) Act in December brought retirement income options, both in-plan and out-of-plan, front and center for many retirement plan sponsors and advisers. In light of that, PLANSPONSOR is taking a look at the various retirement income options available and how to evaluate them. In the weeks ahead, we will take a deeper dive into each of the options, examining their pros and cons.

Newport Retirement Services’ fiduciary consulting team recently published a helpful white paper, “Evaluation Scorecard for Retirement Income Products,” that outlines a set of metrics plan sponsors and advisers can use in assessing the suitability of a retirement income strategy as an investment option within a retirement plan, meeting the prudent process and standard of loyalty requirements of the Employee Retirement Income Security Act (ERISA).

While there are many insurance-oriented solutions, the most notable are immediate or deferred, fixed or variable annuities; guaranteed minimum income benefits (GMIBs); and guaranteed monthly withdrawal benefits (GMWBs). Non-insurance solutions include managed payout funds, dividend-paying equities and laddered bonds.

Newport says there are five major criteria that sponsors should evaluate when considering their options and recommends that sponsors assign a score between 1 and 5 to help them rank their choices, with 5 being the highest quality score. Sponsors and advisers can then compute the average to arrive at a composite score.

The five criteria are:

1.) Efficacy of the underlying investment process;
2.) Nature of the lifetime income guarantee;
3.) Counterparty strength, in the case of an insured product;
4.) Cost of the product; and
5.) Operational flexibility.

When examining the underlying investment process, sponsors should look at how the investments have fared relative to an appropriate benchmark and whether participants can select investments that meet their risk tolerance.

When looking at the nature of the lifetime income guarantee, Newport notes that non-insurance products, such as managed payout funds, do not have any guarantee. GMWB strategies, on the other hand, not only offer guarantees, but even provide annual step-ups or annual guaranteed increases, Newport notes. A choice that lays somewhere in between these two choices would be a deferred annuity that kicks in at age 80 or 85, Newport says.

Newport notes that when it comes to the counterparty strength of insured products, “currently available products may have either one or multiple insurers backing the guarantee. … We recommend that satisfactory ratings be reserved for counterparties that maintain ratings in the top third of financial strength rankings. For instance, from a rating agency with a range of 21 scores, the insurer should stay within the top seven.”

When evaluating the cost of the product, Newport says, sponsors and advisers should compare the expenses to similar products. As a guide, Newport says, “the average current benefit cost of the [guaranteed] products included in our research is 80 basis points [bps], with a range from 50 to 100 basis points.”

Finally, with regards to operational flexibility for insured products, Newport says, “if a participant departs the plan, there should be an available vehicle for retaining the product’s guaranteed. Most insurers offer a rollover product where the guaranteed benefit base is carried over to a new product.”

Retirement Income Options

The four main ways to deliver retirement income, either in-plan or out of plan, says Tim Walsh, senior managing director at TIAA, are managed payout funds, qualified minimum withdrawal benefits, longevity insurance and pure annuities.

“From TIAA’s perspective, our experience has been that any option offered inside of a plan is much better because of its lower cost and actual adoption,” Walsh says. TIAA’s institutional annuities, for example, are one-quarter the cost of retail pricing, he says.

Walsh says that even before the SECURE Act was signed into law last December, plan sponsors were already beginning to research the retirement income options available to them. The passing of the SECURE Act and the market volatility that has ensued since the advent of COVID-19 have had the effect of putting “lighter fluid” on that interest, he says.

Doug McIntosh, vice president at Prudential Retirement, concurs that with the passage of the SECURE Act and the Coronavirus Aid, Relief and Economic Security (CARES) Act, “plan sponsors that were on the sidelines are now saying, ‘We are ready to go, to expand our retirement income options.’ Among those that are not yet ready, their goal is to become educated about retirement income options. On the adviser side, there has been a similar response.”

Walsh says one solution that sponsors could consider is pairing a fixed annuity with systematic withdrawals and a strategy to maximize Social Security benefits.

Another viable solution, Walsh says, is for “advisers to build custom TDFs [target-date funds] that include annuities” or to recommend off-the-shelf TDFs that have guaranteed income embedded in them. McIntosh’s experience mirrors Walsh’s, with the sponsors McIntosh works with also looking into how to make retirement income options a qualified default investment alternative (QDIA) option. Sponsors are also interested in how to shift a portion of pre-retirees’, i.e., those within 10 years of retiring, portfolios into guaranteed income to help them withstand market volatility, McIntosh says.

Bob Melia, executive director of the Institutional Retirement Income Council (IRIC), notes that plan sponsors could also permit retirees to take periodic payments or systematic withdrawals from their plan.

Sponsors that do not want to offer retirement income options within their plan could offer their participants access to what he calls an “annuity platform” or “annuity marketplace” that gives them the ability to tap into guaranteed income products at institutional prices. Participants would need to work with an adviser or wealth manager to make these selections, Melia says.

Retirement income executives agree on one thing, however: There will be more product innovation in the retirement plan universe and there will be new hybrid solutions that haven’t yet been invented.

“The next wave of innovation will be a hybrid living benefit that provides income for the rest of your life and access to the underlying assets,” McIntosh predicts. “There are a lot of smart minds working hard on those options. We might be one of them.”