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Retirement income In-plan vs Out-of-Plan Solutions
Retirement income In-plan vs Out-of-Plan Solutions
Retirement income In-plan vs Out-of-Plan Solutions
Retirement income In-plan vs Out-of-Plan Solutions
Retirement income In-plan vs Out-of-Plan Solutions
Retirement income In-plan vs Out-of-Plan Solutions
Retirement income In-plan vs Out-of-Plan Solutions
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Retirement income In-plan vs Out-of-Plan Solutions

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  • 1. Retirement Income—In-Plan vs. Out-of-Plan Solutions, Which Is Better? Dr. Gregory W. Kasten* and Jason E. Grantz Unified Trust Company, NA** The deŽned contribution re- In the average 401(k) plan of the plan participants. In thetirement plan model has re- only one in four plan partici- deŽned contribution structureplaced the deŽned beneŽt pants (25%) will achieve retire- the plan participant must bemodel plan as the employer ment success—deŽned as hav- their own economist, actuary,preferred, privately funded, re- ing enough assets to match the investment manager and con-tirement plan for Americas future liability of their retirement sultant in order to achieve anworkers. Since participants are costs. 2 This is a poor value adequate stream of income tobecomingly increasingly re- proposition in relation to the Žnance the remainder of theirsponsible for their own retire- amount of money spent to run lives. Not only must they makement planning, it is now recog- 401(k) plans which can be quite the correct calculations but theynized that a successful deŽned expensive. must also implement the actionscontribution plan must do much that are required. Workingmore than simply provide an at- In the deŽned-beneŽt plan against the participant is thetractive website and good in- structure the employee was not high probability that they willvestment choices. The plan required to make any decisions. not have the expertise to makemust actually serve as a retire- Decisions such as whether or the calculations and the pres-ment plan to adequately replace not to enroll in the plan, how ence of behavioral inertia in thethe workers paycheck for as much to save, how to invest the form of disinterest, procrastina-long as they live in retirement.1 portfolio, economic assump- tion or simply feelingIn other words, deŽned contri- tions, expected rates of return, overwhelmed. Since plan par-bution plans must function more expected ination and most ticipants face these barriers,like traditional deŽned beneŽt importantly the future beneŽt even if they make the correctplans in order to improve the goal that was targeted were all calculations, they rarely imple-outcomes of plan participants. done by professionals on behalf ment the required steps. These *GREGORY W. KASTEN, MD, MBA, CFP®, CPC, AIFA®, is the Founder and CEO of Unified Trust Company. He haspublished more than 75 papers on financial planning and investment-related topics in various financial and business journals;written two editions of the book Retirement Success; and in 2005 he co-authored the first place winning paper entitled: “PostModern Portfolio Theory” and presented the paper at the Financial Planning Association national meeting. Dr. Kasten has givendozens of lectures on fiduciary best practices to pension professionals and Federal banking regulators. In 2007–2009, MedicalEconomics listed Dr. Kasten as one of “The 150 Best Financial Advisers for Doctors” in the country. In 2011 Dr. Kasten wasinducted into the Advisor Hall of Fame by Research Magazine. He has more than twenty-five years of investment experience andhas been with the company since he founded it in 1985. **JASON E. GRANTZ, QPA, QKA, AIF® is an Institutional Consultant for Unified Trust Company. He is highly specialized inall areas of retirement plan and pension consulting including plan design, operations, asset management, investments, fiduciarybasics and advanced fiduciary plan governance. Mr. Grantz has spoken at many industry conferences and events for groupssuch as the Financial Planning Association, the Society of Financial Service Professionals and the American Society of PensionProfessionals & Actuaries where his main focus is providing clarity on often misunderstood retirement plan topics. Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 18
  • 2. Retirement Income—In-Plan vs. Out-of-Plan Solutionsfactors have historically pro- throughout the savings accumu- as target date retirement funds.duced the high failure rates in lation process, the retiree will They can be oered in a guar-the traditional 401(k) plan. now face the new risk of anteed or non-guaranteed longevity. They do not know structure. Realistically, 401(k) partici- how long they will live nor whatpants face not one, but two im- the future market returns will IS THERE REALLY Amense challenges. The Žrst, as be. There is a large amount of DEMAND FOR IN-PLANdescribed above, is to simply uncertainty in trying to obtain RETIREMENT INCOMEidentify and then to remain on retirement income security. The SOLUTIONS?track for an adequate amount Žnancial services industry hasof asset savings sucient to recognized this need and is at- A dichotomy exists betweencover future liabilities. The sec- tempting to respond with prod- the perceived demand of planond is how to take that savings ucts engineered to deliver participants for retirement in-and convert the lump sum as- income. Some of these prod- come and actual usage whenset value into lifetime monthly ucts are delivered within a quali- the products are oered in theincome sucient to reliably Žed retirement plan (“in-plan” plan. Although some 82% ofreplace their paycheck. Con- solution) and others are deliv- middle income Americans agreecerning the second challenge, ered outside of the plan; for that “having a retirement incomethe need for reliable retirement example in a managed account product in their plan is a goodincome solutions has become or IRA structure (“out-of-plan” idea,” less than 1% of plan as-more evident each year. In ad- solution). The in-plan solutions sets are actually invested in thedition to market risk and ina- can be stand-alone products or products when they aretion risks which theyve faced embedded in investments such oered.3 Exhibit 1 The Žrst mutual fund to pro- was the Blackrock LifePath Žxed-income asset class with avide guaranteed monthly in- Retirement Income target date pool of unallocated deferred an-come throughout retirement fund. By replacing the traditional nuities, it was designed to auto- Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 19
  • 3. Journal of Compensation and BeneŽtsmatically build retirement in- CONCERNS OF PLAN lack of benchmarking and mon-come alongside a growth SPONSORS ARE MANY itoring guidance for the new in-portfolio. In theory, it was to be WITH IN-PLAN SOLUTIONS plan retirement income solu-easily implemented, portable tions; and (4) the risk of The primary observed ob-across record keepers and Žduciary liability for the failure stacles to inclusion of a lifetimesimple to communicate to of meeting participant income option in a deŽned con- expectations.participants. Despite a huge tribution plan are at leastmarketing campaign and the fourfold: (1) plan sponsor fear A recent survey study con-well established Blackrock of Žduciary status, particularly ducted by PIMCO identiŽedname, since its launch in 2009 regarding uncertainty as to many concerns by plan spon-it has had zero plans sponsors when a plan sponsor will be sors in addition to the signiŽ-adopt the fund. As of this writ- acting as a Žduciary; (2) the ex- cant Žduciary issues mentioneding it is not shown on the Black- penditure of time and resources above.4 Chief among those wasrock website. needed to satisfy regulatory the fear of insurance company and other legal requirements for default (perhaps many years specialized products; (3) the into the future) and higher costs. Exhibit 2REQUIRED IN-PLAN is why, unlike an accumulation vehemently opposed to a man-PRODUCT FEATURES investment decision, the deci- datory system.THAT ARE STILL MISSING sion to participate in a retire- ment income solution should be Diversify Insurance Carrier Non Mandatory Solution: an active decision on the part Risk: There is a need for mul-Many retirement income solu- of the participant rather than a tiple carriers to diversify the in-tions require a long-term com- passive decision (such as surance risk. When a risk ismitment on the part of the par- defaulting). The DOL received protected by a counter-partyticipant in order for thatparticipant to experience the many interesting comments (such as with an insurancebeneŽts of the solution. In some (nearly 1,000) in their recent product), prudence dictates thatcases, early withdrawal or can- Request for Information on re- this risk should be spreadcelation can be excessively tirement income.5 The vast ma- across multiple insurance carri-wasteful for the participant. This jority of public comments were ers, to the extent that this is Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 20
  • 4. Retirement Income—In-Plan vs. Out-of-Plan Solutionsfeasible and practical. In addi- pants will now have to be vet- Reasonableness: When solu-tion a mechanism should exist ted and discussed when mak- tions are created and distrib-to replace an insurance carrier ing platform changes. This uted to a large group, the groupif the plan Žduciaries deem it creates potentially new Ždu- should beneŽt through lowernecessary, without disrupting ciary risks. fees. Ideally, natural economiesthe retirement income solution. of scale would occur meaningThis would, in essence, mitigate Consolidating Product the buying power of the groupthe risk associated with a po- Rollovers: Currently, a major would be better than that of an stumbling block for the in-plantential insurer defaulting or be- individual. Further, there should solution is that employees can-coming less credit worthy. be clear transparency of both not roll over fragmented income implicit and explicit fees. Fee Portability: The American products into a single entity. transparency should extend toworkforce has always been The solution would be for the the discrete features of themobile and portability of in-plan employee to be able to combine solution similar to an a la carteretirement income solutions is a several retirement income prod- menu. For instance, it should besigniŽcant issue. There are two ucts into a like kind “rollover” clear what fee is being chargedportability problems for the par- whereby they can combine with for investment managementticipant and one for the Plan their current employer the other versus longevity protection.Sponsor. One issue for the par- in-plan income accounts from Once the fees are identiŽed andticipant is the recordkeeping of prior plans. To avoid potential clear, the plan sponsor canthe retained static asset after non-discrimination issues, and make a fair comparison acrossthe employee has left the Žrst to comply with the beneŽts, the alternatives available. In ad-company. The second issue is rights and features rules, this dition, it should explain whichwhether employees (and plan must be done in a way that is parties are being paid for pro-Žduciaries) can eectively moni- actuarially fair or equivalent. viding which features within thetor and manage small retirement The value of the combination product or solution. This will al-income retained balances in rollover should be no less than low the plan Žduciaries to meetmultiple plans as they move the value of the prior individual their obligation of feefrom employer to employer over parts. Today it is taken for reasonableness. Where multipletheir working career. Individuals granted that several IRAs hold- parties are providing beneŽtsshould be able to take their ing traditional assets can be and collecting fees, cross-retirement income solution out combined into a single large subsidies (if any) should beof the plan if they wish. On the rollover. This does not yet exist transparent. These products in the retirement income indus-plan sponsor level, portability should be transparent enough try because one insurer will notconcerns can have the conse- that any participant could un- necessarily be providing thequence of creating a substantial derstand who and how much same beneŽt as another insurer,barrier in changing from one they are paying and what ser- or use the same actuarial orprovider to the next as deemed vices they are receiving for their interest rate assumptions. Untilprudent by that plan sponsor, fee. Further, some Žxed annui- that happens portability will beretirement plan committee or ties do not carry an expense a signiŽcant issue. No cleartrustee. The considerations re- ratio and may oer many fea- solution seems anywhere neargarding lack of portability of tures and options for payments on the horizon.singular investments acquired so it can be dicult to make anby a few or less of the partici- Fee Transparency and apples-to-apples comparison. Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 21
  • 5. Journal of Compensation and BeneŽts Survivor Options: We know their retirement savings. This consent because the deferredthat many people reach retire- process was the initial step in a annuity is accounted for sepa-ment as part of a couple rather joint initiative between the Trea- rately from the rest of the indi-than as individuals and, as such, sury Department and the De- viduals account.consideration should be given partment of Labor to help in- crease savings and retirement Qualified Longevity Annuities:in the solution design for op- income. Their goal is to provide Longevity annuities provide re-tions that allow income to con- incentives for retirees to move tirees with a guaranteed streamtinue (in whole or in part) be- away from the current trend of of income for life beginning atyond the life of the Žrst-to-die taking lump-sum retirement plan an advanced age. The Treasuryof the couple. This would be a distributions instead of annuity Department issued proposedstandard Žnancial planning ex- distributions. regulations to address certainercise for any couple using a legal impediments to the oer-Žnancial planner. Why shouldnt Applying Survivor Annuity ing of longevity annuities as ait be part of one of these income Rules to Deferred Annuity distribution option under a de-solutions? Contracts: Revenue Ruling Žned contribution plan. Partici- 2012-3 dealt with the applica- pants can purchase these typesNEW REGULATORY tion of the spousal consent of annuities with a small portionGUIDANCE ON rules (qualiŽed joint and survivor of their account balance andRETIREMENT PLAN annuity or “QJSA” and qualiŽed therefore insure against outliv-LIFETIME INCOME pre-retirement survivor annuity ing their retirement savings.OPTIONS or “QPSA”) to a deŽned contri- Before these new regulations, In 2008 the DOL issued its bution plan that oers a de- oering longevity annuities in-Annuity Selection Safe Harbor ferred annuity contract as in- side a deŽned contribution planReview notice dealing with an- vestment option which is would generally have violatednuities in deŽned contribution accounted for separately from the required minimum distribu-plans. In 2012 the Internal Rev- other investment options of- tion (RMD) rules of Code Sec-enue Service and the Treasury fered under the plan. Although tion 401(a)(9).Department released three ar- spousal consent does not come The regulations tackle theeas of new guidance that aimed into play for purposes of the limitations imposed by the RMDto increase the availability of purchase of the deferred annu- rules by creating qualiŽed lon-annuities and other lifetime in- ity contract, the ruling clariŽes gevity annuity contractscome options as forms of pay- how the QJSA and QPSA rules (“QLACs”) and providing thatment under deŽned contribution apply once the participant has amounts invested in QLACs areretirement plans. The guidance invested in the deferred annuity excluded for purposes of thewas issued to encourage plan contract by using three sce- RMD rules. With a QLAC, par-sponsors to oer these lifetime narios distinguished by the fea- ticipants would have the protec-income options in addition to tures of the particular deferred tion of additional retirementlump sum payments that are annuity contract. In all three income later in life in case theyparticularly prevalent in deŽned examples, the portion of a par- “outlive” their retirementcontribution plans. The guid- ticipants account balance savings.ance was also aimed at helping which is invested in optionswith the issue of many retirees other than the deferred annuity In order to qualify as a QLAC,either outliving or underutilizing is not subject to the spousal the longevity annuity must meet Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 22
  • 6. Retirement Income—In-Plan vs. Out-of-Plan Solutionscertain speciŽc requirements, tion rolled over from the deŽned ment funding should focus onincluding premium limits, a com- contribution plan. In order to ad- that individuals unique set ofmencement date of no later dress issues raised by other facts and circumstances ratherthan age 85, a death beneŽt for deŽned beneŽt plan rules (e.g., than historical data or groupsurviving spouses, being explic- Code Section 415(b) annual statistics. This is the fundamen-itly designated as a QLAC, and limit, Code Section 411(c) em- tal dierence between a “onenot having a cash refund ployee contributions being non- size Žts all” in-plan incomefeature. The proposed regula- forfeitable), the IRS stated that product based upon a hypo-tions would apply to contracts the rollover does not violate thetical person and the exibilitypurchased on or after the publi- such other rules if the deŽned obtainable via an out-of-plancation date of the Žnal beneŽt plan converts the roll-regulations. over amount to an actuarially solution. Given the needs and equivalent annuity by using the unique situation of each retiree, Rollovers to Defined Benefit applicable interest rate and ap- retirement income cannot bePlans: Revenue Ruling 2012-4 plicable mortality table under distilled into a single “product.”provides guidance to employers Code Section 417(e). Conse-who are willing to allow rollovers Since future events are al- quently, the beneŽt attributablefrom their deŽned contribution to the rollover amount is treated ways unknown to individuals,plans into their deŽned beneŽt as non-forfeitable and would the ongoing process must con-plans (including cash balance not count toward the annual stantly monitor the potentialplans) with the ultimate goal of beneŽt limit under Code Sec- surplus and the potential safetygiving participants the opportu- tion 415(b). The ruling applies of the retirement nest egg whilenity to purchase additional an- prospectively to rollovers that maintaining exibility to be ablenuity beneŽts under the deŽned are made on or after January 1, to adapt to new circumstancesbeneŽt plan. Although these 2013. as they arise. Success in retire-kinds of rollovers were not spe- ment is achieved through aciŽcally prohibited in the past, RETIREMENT INCOME IS highly personalized processthere was very little supporting BEST DELIVERED AS ANguidance available. The lack of unique to each persons individ- OUT-OF-PLAN SOLUTIONspeciŽc guidance acted as a ual goals and circumstances. THAT IS PROCESS DRIVENdeterrent for allowing these An out-of-plan solution will pro- In summary, because of the vide retirees and soon-to-betypes of rollovers. The guidance many diculties with in-plan retirees with the conŽdenceuses a model deŽned contribu- solutions as described in this they need to fully enjoy thetion plan to which joint survivor article, it is the opinion of the beneŽt of retirement knowingannuity rules do not apply and authors that retirement income that their paycheck will be reli-which does not permit after-tax is best delivered as an out-of- ably replaced for the remaindercontributions. plan solution that is process of their lives. The annuity that becomes driven rather than product-available under the deŽned ben- centric. Each retiree has only Comparison of Current In-eŽt plan is the actuarial equiva- one opportunity to retire; the Plan Solutions with Out-of-lent to the lump sum contribu- planning and executing retire- Plan Solutions Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 23
  • 7. Journal of Compensation and BeneŽts Exhibit 3 4NOTES: Dramatically Increases Retirement Exploration of Retirement Income Success and Improves Plan Cost/ Solutions and Issues, EBRI Policy 1 Kasten, G. “The DeŽned Goal BeneŽt Structure, July 2012, © UniŽed Forum, May 7, 2009 Washington DC,Retirement Plan,” Journal of Pension Trust Company, NA. Sponsored by PIMCO.BeneŽts, Autumn 2009, Vol. 17, No. 1, 3 5pp 23–44. Source: 2010 Wells Fargo Retire- http://www.dol.gov/ebsa/regs/ 2 Kasten, G. “The UniŽedPlan® ment Study. cmt-1210-AB33.html. Journal of Compensation and BeneŽts E January/February 2013 © 2013 Thomson Reuters 24

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