By Betty Meredith, CFA®, CFP®, CRC®
In early February, The Council of Economic Advisers published a report titled “Supporting Retirement for American Families.” The paper summarized the historical shift from traditional DB to 401(k)-type plans and hybrid DB plans, highlighting the problem of decreasing lifetime retirement benefits for American workers, and the need for employer-sponsored plans to have additional opportunities for securing lifetime income streams through their workplace savings.
The Council of Economic Advisors noted that the shift away from guaranteed lifetime income is increasing the role Social Security plays when retirees outlive life expectancy and therefore outlive their assets. In 2010, six in ten Americans over age 80 depended on Social Security for at least half of their family income as compared to 3.5 in 10 between the ages of 65 and 69.1 It is clear that people are running out of personal retirement savings at older ages. Women in particular are exposed to depending solely on Social Security at older ages as they outlive insufficient retirement assets.
About the same time, the Treasury and the Internal Revenue Service (IRS) released “Helping American Families Achieve Retirement Security by Expanding Lifetime Income Choices,” a fact sheet with initial proposed rulings and regulations recommending how to remove barriers for employers to add more pension-like options into workplace retirement savings plans.
The Treasury/IRS recommendations include:2
- Allowing employers plans and IRAs to utilize “longevity annuities.” Also known as advanced life deferred annuities (ALDAs), these insurance products allow a portion of retirement savings to be carved out and set aside at a younger age, such as 60 or 65, to provide a future stream of lifetime income beginning at age 80 or 85. The Council of Economic Advisors report gives an example of a longevity annuity for a 65 year-old costing about $35,200 to provide a guaranteed stream of payments of $20,000 a year beginning at age 85; versus $277,500 for an immediate annuity that produces an annual income of $20,000 a year. Longevity annuities provide the “bookend” needed to protect women – and men – against living too long, by carving out a reasonable slice of assets today to pay a guaranteed future annual benefit, allowing the retiree to keep and manage the rest of her wealth until that time.
- Clarifying that the insurance company issuing the annuity will make sure the plan spousal consent provisions are complied with before an annuity begins paying pre-retirement and post-retirement survivor benefits, as employers have resisted administering spousal consent rules since they’re not required to do so now in DC plans.
- Allowing employees to invest their accounts in lifetime income benefits like longevity insurance all at once or over time.
- Relaxing RMDs, which obstruct the offering of longevity annuities in IRAs and employer plans, to exempt the cost of the longevity annuity from RMDs up to a cost of 25% of the account or $100,000 as long as the payments begin by age 85.
- Allowing plan administrators the option of offering employees a partial annuitization of their DB plan benefits instead of forcing the employee to choose between a lump sum or annuitization of the entire amount.
- Offering employees the opportunity to purchase DB benefits with their DC assets if their employer offers both a DB and DC plan.
The intent of the Treasury and the IRS is to encourage innovation by the stakeholders in American’s retirement savings plans – providers and insurers, employers, advisors and even employees – in order to head off likely disaster for not only retirees but also to strengthen the future capital foundation of the United States. Encouraging the cost-effective pensionization of a portion of defined contribution and IRA savings when needed to provide a floor of lifetime income, especially when pension benefits are not available, is absolutely the right step in the right direction at the right time.
Betty Meredith, CFA®, CFP®, CRC® is the Director of Education and Research for International Foundation for Retirement Education (InFRE), and Managing Member of the Int’l Retirement Resource Center, LLC.
1 2010 Current Population Survey, Annual Social and Economic Supplement
2Helping American Families Achieve Retirement Security by Expanding Lifetime Income Choices, U.S. Treasury and Internal Revenue Service, February, 2012