The House Ways and Means Committee recently passed the Family Savings Act of 2018, one of three bills comprising House Republicans’ “Tax Reform 2.0” legislative effort. One of the provisions in the Family Savings Act (FSA) would allow participants in defined contribution (DC) plans to take a distribution of a lifetime income investment without the current withdrawal restrictions of the Internal Revenue Code when a plan sponsor elects to remove the lifetime income investment as a plan option. A direct rollover to an IRA or other retirement plan would be required or—for annuity contracts—a direct distribution of the contract could be made to the plan participant. Participants would be able to preserve the benefits of their lifetime income investments, for which they have likely incurred additional expenses.
This welcome provision is also included in the Retirement Enhancement and Savings Act (RESA), a bill that was reintroduced by the Senate Finance Committee earlier this year. RESA includes two additional provisions related to retirement income. The first modifies the ERISA fiduciary safe harbor for the selection of a lifetime income provider with respect to satisfying ERISA’s fiduciary prudence requirement. This modification would provide more certainty to plan sponsors by clarifying that the safe harbor is solely for the selection of the insurer and the insurer’s future ability to make payments due under the contract. Uncertainty about the scope of the current safe harbor is often cited as a roadblock to more widespread adoption of in-plan guaranteed income options.
The second provision requires benefit statements provided to DC plan participants include a lifetime income disclosure illustrating the monthly payments the participant would receive if the entire account balance was used to generate a lifetime income stream. Some research indicates that visualizing how an accumulated pool of assets might translate to monthly income at retirement encourages increased savings. Yet many plan sponsors worry that providing retirement income estimates may instead instill confusion or despair, leading to less positive behavior. There are also concerns about the perception that retirement income estimates might be perceived as guaranteed amounts.
In Real Life
Last time I wrote about how—once again—the topic of lifetime income seems to have seeped into the collective psyche of DC industry practitioners. Much energy is now being spent both in the private sector and on Capitol Hill to reposition the accumulation-oriented 401(k) as a retirement-income generating plan. Seems like the right time for advisors to broach this discussion with their clients.
Where to Start
- Has the plan sponsor given adequate thought to their corporate preferences with respect to employees remaining in the 401(k) plan after they retire? For many plan sponsors, the last time they considered this issue was when deciding between a “to” glidepath or a “through” glidepath for their target date fund, and that decision was likely based on the plan’s then-current view of how their participants behaved when they separated from service—did they usually take a lump-sum distribution? —or whether they had a high level of employee turnover.
This is a good place to start. Are their employees behaving the way they have assumed? The plan’s recordkeeper should be able to shed some light on actual participant experience.
- What percentage of plan participants might be expected to retire in the next 5 to 10 years? This is an important consideration, since participants closest to retirement tend to have larger balances. The potential distribution of these assets will likely have an impact on recordkeeping fees, and may also cause investment expenses to increase. Will the plan economics influence the sponsor’s perspective on distribution options in order to keep assets in the plan?
- What distribution options does your plan allow? And what alternatives are available from the plan’s recordkeeper? The ability to take withdrawals on a periodic basis or as-needed provides retirees with a flexible alternative to a lump-sum distribution of their entire balance, but some recordkeepers have not yet developed full functionality for retirement income, and the fees associated with withdrawals may be a drawback. And automatically providing a distribution kit when a participant terminates certainly whispers “take a lump sum,” so consider the plan’s default communication upon participant termination.
Notice that I have not uttered a peep about the plan’s investment menu or lifetime income products. Plan sponsors who recognize that change is afoot may be open to all elements of a plan redesign to evolve their 401(k) as a retirement income plan, including core menu enhancements and specialty income products and services.
The modest approaches I describe here are simple first steps in creating a 401(k) plan that is friendlier for retirees, and may nudge all participants to make smarter distribution choices.
OppenheimerFunds is not undertaking to provide impartial investment advice or to provide advice in a fiduciary capacity.
Mutual funds and exchange traded funds are subject to market risk and volatility. Shares may gain or lose value.
These views represent the opinions OppenheimerFunds’ Head of Retirement and Third-Party Distribution and are not intended as investment advice or to predict or depict the performance of any investment. These views are as of the publication date, and are subject to change based on subsequent developments.
Discussion of retirement plans and retirement income generation is not intended to represent advice that is appropriate for all plans or plan participants. OppenheimerFunds does not recommend any specific retirement strategies.