Retirement Income: Key Considerations

Having evolved meaningfully over the past 40 years, today’s defined contribution (DC) plans now enable participants to accumulate and invest retirement assets even more easily than in the past. DC plans also most often allow participants to retain assets in-plan throughout retirement. Yet research indicates that most of them are ill-prepared to convert their assets into retirement income.

The conclusion for DC plan sponsors seeking to assist these participants is clear: The next step is to evolve plan design and investments by adding a benefit distribution focus to offerings and communications and/or by adding services to better address the needs of those near or in retirement. Plan participants have also identified this as an area of need.

In a presentation at the Defined Contribution Institutional Investment Association (DCIIA)’s November Academic Forum, Michael Finke of The American College of Financial Services shared research showing that in response to the question, “Once you retire, which of the following is the most important attribute of a retirement savings plan?” participants selected as their top choice, “Helps me understand how much I can safely spend in retirement.”

The lifetime (or retirement) income topic is not new—DCIIA has white papers on the topic dating back to 2015, as does this comprehensive article from the American Academy of Actuaries. However, the topic is gaining urgency given demographic trends such as:

• An increasing number of retiring Baby Boomers;
• A growing population of Americans aged 65 and older who are also living longer;
• An escalating reliance on DC plan assets versus defined benefit (DB) plan income; and
• Workers age 50 and older delaying retirement due to concerns about post-retirement finances.

Public policy developments are also helping spur retirement income discussions, namely the Setting Every Community Up for Retirement Enhancement (SECURE) Act. It addressed lifetime income disclosures, and, in September, the U.S. Department of Labor (DOL) published an interim final rule that will require 401(k) plan sponsors to annually disclose to plan participants estimates of how much income their account balance would produce if used to purchase an annuity. The SECURE Act also provided a safe harbor for selecting an in-plan annuity provider, helping to mitigate previous plan sponsor concerns that limited their ability to consider implementing an annuity component in their plans.

Plan sponsor motivations for considering retirement income solutions may include:

• Workforce management: If employees aren’t retiring on time, there is an increased benefits cost and it may prevent younger employees from advancing in their careers within the company. Productivity can be impacted when employees are worried about their finances.
• Recruiting and retention: Offering retirement income solutions as part of a plan’s total offerings may help organizations attract top talent and reward long-term employees.

Employee motivations might include:

• Seeking help to address overall concerns about low retirement savings levels and/or how to plan for retirement;
• Longing for a sense of “security” that’s missing in their DC plan combined with an awareness of the feeling of security among those with DB plans; and
• Looking for a clear path that will facilitate how to turn retirement savings into a viable income stream; assessing options on their own can be expensive and confusing.

In addition, both plan sponsors and employees have been and will continue to be impacted by COVID-19, whether through layoffs/job loss, health issues and concerns about health care costs, or other fallout from the ongoing pandemic.

Retirement Income Solutions

Retirement income solutions cover a wide spectrum of insurance and investment products and advice solutions that can address different participant needs, whether they are in the savings or spending phase. (In previous columns, we’ve touched on annuities and the retirement tier as important aspects of the plan sponsor conversation on retirement income.) The solutions are intended to help participants while maintaining the benefit of institutional oversight and pricing.

Plan sponsors may adopt plan design that allows for flexible distributions/systematic withdrawal programs, provide income tools and calculators (e.g., Social Security optimizer, financial planning and budgeting, health care planning and budgeting, etc.) or engage rollover or distribution consulting services to provide institutional or retail options for participants who are transitioning into retirement or otherwise separating from service. Participants should receive targeted and personalized communications about related educational content and resources.

Specific offerings are typically categorized as either “in-plan” or “out-of-plan” solutions:

In-plan solutions are generally characterized by the fact that assets remain in the plan, either as investment assets or, if a guaranteed product, as a group annuity contract held by the plan. Retirement income is paid from plan assets to retirees, and the underlying assets are included as a part of the plan’s assets for the purpose of government reporting.

Out-of-plan solutions are generally characterized by the transfer of participant assets from the plan directly to a selected financial institution or institutions, typically an insurance company, mutual fund company or broker firm, that generates guaranteed or non-guaranteed income for the retiree from the amounts transferred. The plan sponsor may be involved in identifying these institutions, communicating them to plan participants and facilitating the transfer of assets out of the plan upon retirement. Once assets have been transferred, the plan has no ongoing involvement with the retiree with respect to the transferred assets and the transferred assets aren’t included in the plan’s ongoing government reporting. This is not to be confused with a garden-variety individual retirement account (IRA) rollover, where the plan transfers assets to a financial institution identified by the retiree, as such transactions have not been analyzed or facilitated by the plan sponsors.

Retirement income adequacy should be one of the primary goals for DC plans today, given that participants increasingly rely on their accumulated DC assets to provide them with an income stream in retirement. Plan sponsors’ decisions about their plans’ distribution policies can play a critical role in their participants’ retirement outcomes.

Peg Knox is the chief operating officer (COO) of the Defined Contribution Institutional Investment Association (DCIIA) and is a former plan sponsor. Additional resources on this topic are available in DCIIA’s Resource Library.