Data and Research May 14, 2020

Vanguard Data Supports Adage of Taking Long-Term View With Investing

During the first quarter of 2020, most Vanguard investors saw declines in wealth, but over three years, 89% of DC and 76% of retail households had increases in wealth.

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During the first quarter of 2020, the majority of defined contribution (DC) plan and retail investors saw wealth declines, but widening the view revealed a different picture, according to Vanguard data.

Vanguard examined the changes in U.S. household wealth during the first quarter of 2020 and then “widened” or broadened the frame of to include one- and three-year perspectives. Changes in wealth are a function of market returns, new contributions and any withdrawals. Data is based on 6.5 million Vanguard DC plan and retail investor households that were continuous investors between March 31, 2017, and March 31, 2020.

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During the first quarter of 2020, both DC and retail households experienced wealth declines of 14%—a figure nearly identical to the return of a 70% stock/30% bond benchmark portfolio during that time, the study report says. Vanguard notes that DC and retail households with zero equity had essentially no change in wealth. At the other extreme, both DC and retail investors with all-equity allocations had wealth declines of 20%—nearly identical to the 19% decline of the S&P 500 Index. Generational wealth declines were highest for the Millennial and Generation X cohorts, which tend to hold higher equity allocations than the early Baby Boomer and Silent Generation cohorts.

When Vanguard extended the time frame to cover the one-year period that ended March 31, declines were more muted. DC investors with equity allocations of less than 75% saw their wealth increase or stay the same. Vanguard says this was partly due to ongoing contributions. DC and retail investors with 100% equity allocations had wealth declines of 7% to 8%.

When it widened the study’s time frame to three years, nearly all investors saw increases in wealth. Over three years, 89% of DC and 76% of retail households had increases in wealth. Vanguard says DC investors had higher increases because most received ongoing employee and employer contributions. The data shows wealth generally climbed along with allocations to equities.

Millennials (88%) and Gen X (34%) experienced the highest increases in wealth over the three-year period, while the Silent Generation saw DC wealth decline 5% over the period. Vanguard explains that the youngest members of the Silent Generation were born in 1945 and, at the end of 2019, would have been 74 years old. It attributes the decline to required minimum distributions (RMDs) leaving DC accounts and those from traditional individual retirement accounts (IRAs) perhaps being invested in another taxable account.

The firm notes that Vanguard U.S. individual investors who tended to hold balanced portfolios experienced smaller wealth declines than the headline market statistics indicated.

“These figures suggest that investors should take a long view in thinking about market shocks and portfolio wealth. Widening the time frame can provide the psychological peace of mind necessary to avoid overreacting to short-term market declines, including those associated with the current pandemic,” the report concludes.

Compliance May 14, 2020

The IRS Will Be Looking at Catch-Up Contributions in 403(b) Plans

The agency published an issue snapshot explaining special catch-up contribution rules after issuing a program letter saying such contributions will be a focus of examinations.

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The IRS has published an issue snapshot discussing catch-up contributions in 403(b) plans.

403(b) plans may permit participants to make age-50 catch-up contributions, which are also allowed in 401(k) and governmental 457(b) plans, but they may also allow a special 15-year catch-up contributions for participants.

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The issue snapshot explains that under the special 403(b) catch-up, employees of a qualified organization may contribute an increased dollar amount under Internal Revenue Code (IRC) Section 402(g)(1) if they’ve completed at least 15 years of service with the organization. This special 403(b) catch-up is the least of:

  • $3,000;
  • $15,000, reduced by the sum of:
    • amounts not included in gross income for prior taxable years by reason of this special 403(b) catch-up and
    • the aggregate amount of designated Roth contributions (per IRC Section 402A(c)) permitted for prior taxable years by reason of this special 403(b) catch-up; or
  • $5,000 multiplied by the employee’s years of service with the qualified employer, less all elective deferrals the employee made in prior years to the organization’s plans. Elective deferrals include those made to a 401(k) plan, SARSEP [salary reduction simplified employee pension plan], SIMPLE [savings incentive match plan for employees] or 403(b) plan maintained by the organization.

The special 403(b) catch-up formula imposes a lifetime limit of $15,000 of elective deferrals.

The issue snapshot explains how to calculate years of service for the special 15-year catch-up contributions. It notes that a 403(b) plan that permits the special 403(b) catch-up must keep detailed records. The plan must keep participant information for the increased limit formula, including a participant’s:

  • elective deferrals made to any of the organization’s plans,
  • prior elective deferrals under the special 403(b) catch-up, and
  • designated Roth contributions.

The plan must also keep employment records to calculate an employee’s years of service.

The calculation of the 15-year catch-up contribution can be extremely difficult. See “Tips for Correctly Calculating 15-Year Catch-Up.”

The IRS points out that if a 403(b) plan permits both the age 50 catch-up and the special 403(b) catch-up, it must consider the special 403(b) catch-up first to apply the annual limits. Then, apply the age 50 catch-up to any remaining amount, up to the IRC Section 414(v) limit. For example, the issue snapshot says, if a participant eligible for both the age 50 catch-up and $3,000 of the special 403(b) catch-up made an additional $7,000 in catch-up contributions during 2019, $3,000 of the $7,000 would be applied to the special 403(b) catch-up and the remaining $4,000 would be applied to the age 50 catch-up.

The publication of the issue snapshot comes after a program letter from IRS Tax Exempt and Government Entities Commissioner Tamera Ripperda which explained the agency’s priorities for fiscal year 2020. It says it will examine 403(b) plans for universal availability, excessive contributions and proper use of catch-up contributions under IRC Section 414(v); and examine 457(b) plans for excessive contributions and proper use of the special three-year catch-up contribution rule. According to the IRS, this strategy was delayed from fiscal year 2019 and will begin in fiscal year 2020.

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