Are We Ready to Fund Retirement from DC Plans?
DC plans have been focused on the accumulation of assets for retirement, and the DC industry has spent considerable effort to improve investment offerings, control costs, encourage participation, and streamline the technology of the participant’s interaction with the plan. But what about the distribution of accumulated savings to retirees?
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Over the last decade, defined contribution plan participants increasingly have benefited from lower fees, a thoughtful menu of plan investment choices (including target date funds that take care of asset allocation), automatic deposit of contributions, and features that encourage participation, such as auto-enrollment and auto-escalation.
However, a substantial number of participants are now heading toward retirement, with 31% of assets held by those age 55-65. How do participants switch from accumulation to withdrawal?
Participants spend years accumulating assets in DC plans with seamless cash flows into the plan, target date funds as their investments, automatic features, and regular reporting. Participants may naïvely assume distribution will be as seamless and automatic as it was during the accumulation phase. Upon retirement, many participants will be shocked to learn that there is no similar seamless process in reverse. A participant could have had almost everything done for them for up to 40 years and suddenly at the most critical juncture in terms of their asset base and sensitivity to market volatility, wham! Here are your accumulated assets, good luck! Now what do participants do?
Are DC plans prepared to handle the impending switch to distribution? Callan’s 2017 DC Trends Survey suggests that about half of plans have a policy for retaining retiree and terminated assets. While the majority of plans that have a policy are seeking to retain retiree and terminated participant assets, some plan sponsors explicitly don’t wish for people to stay in the plan after they leave employment — for a variety of reasons.
What can plan sponsors do to help employees with their retirement within the plan? And what out-of-plan solutions are there, other than having retirees take a lump sum from a DC plan and roll it into potentially more expensive retail investment solutions that lack the oversight to which participants may have become accustomed?
What should plan sponsors do?
Callan recommends that plan sponsors start by establishing a retiree/terminated assets policy. Setting this policy involves weighing the pros and cons of retaining participant assets. On the positive side, retaining assets can afford the entire plan—including retirees and terminated employees—greater economies of scale when it comes to things like investment funds and recordkeeping/administrative fees. Conversely, terminated participants can be more expensive when it comes to plan administration (e.g., tracking down changes of address) and even lawsuits.
If the plan sponsor does decide to proactively support asset retention, the next step is to ensure that the plan’s design and delivery support participants staying in the plan. Are there any plan design elements that make it challenging for workers to leave money in the plan, such as force-out provisions? Conversely, do design elements make it easy to leave money in the plan, such as providing participants with an option to take a partial as opposed to a full distribution? It might even make sense to provide options to consolidate money within the plan by allowing IRA roll-ins, for example.
Next, the plan sponsor can turn to plan investments. This step may be as simple as highlighting to those close to retirement the value of plan investments such as a stable value fund. Plan sponsors may also want to consider investment options that can be particularly attractive to retirees, such as brokerage windows, which will increase investment flexibility. In-plan annuities and rollover annuities may also be on the table. But if plan sponsors do not seek to provide guaranteed options, managed account providers are making drawdown solutions available. These can help retirees determine how much to extract from their DC plan and how to develop a portfolio consistent with the desired income amount.
In the age of the DOL’s Fiduciary Rule, plan sponsors will wish to pay special attention to aspects their recordkeeper is comfortable supporting when it comes to retirement decision-making conversations. In addition, they will likely want to work with their own ERISA attorney to ensure that any plan sponsor-provided communication does not fall under the rubric of advice. Because the retirement decision is such a complex and emotional one, thought should be given to high-touch communication such as pre-retirement workshops and even one-on-one advice.
The bottom line is that DC plans can be made retirement ready, but the onus is on plan sponsors to take the steps that will make them so.
Callan addresses this topic of DC plan retirement readiness in an upcoming Benefits Quarterly article, “Hoping for a Miracle Is Not a Strategy: Helping Employees Make Better Retirement Decisions.” Written by Lori Lucas, CFA, defined contribution practice leader at Callan, it will be published in the first quarter of 2018.
 2016 ERBI data