How Flexible Can Annuities Be?

When Greg T. Ungerman begins mapping out a retirement income strategy for a plan sponsor, he starts by focusing on priorities and trade-offs, all while considering the big question of: What happens if circumstances change?

“What we’re really trying to do is almost think of it as different scenarios,” says Ungerman, a defined contribution practice leader for Callan, based in San Francisco. For example, “If [the plan changes] recordkeeper or [has] to change the target-date manager, there’s underperformance. Or [if the plan is] a corporate 401(k) and [the company is] bought and … [has] to close the plan, there’s a lot of different real-world things that you really want to be mindful of and consider, even if they don’t really happen every day.”

The complexities of creating a reliable retirement income option for retirees has prompted a careful review of several issues by plan sponsors and their consultants, including how portable that option is if the recordkeeper or other factors change. Plan sponsors are also trying to determine what type of retirement income options, from annuities to target-date funds, best match employee profiles. At the same time, some see retirement income portability as necessitating a greater commitment to the consolidation of retirement accounts.

“The thought and the approach that we’ve taken in partnering with our clients on this topic specific to portability and future fiduciary actions is to understand those scenarios and then build a road map,” Ungerman says.

Consider the Audience

Ungerman stresses the importance of understanding employee behavior, as that will help guide plan sponsors to choices that better fit their workforces. For instance, companies with high turnover should be thoughtful about how employees interact with the plan on a short-term basis and not leave them at a disadvantage if the plan sponsor considers an annuity option. One approach to which some plan sponsors have gravitated is the single premium immediate annuity, instead of a qualified longevity annuity contract or deferred annuity.

Alternately, some clients with largely white-collar employees who tend to change jobs less often and have strong benefits and perhaps an open pension plan, such as law firms or airlines, might be more concerned about managing longevity risk, in which case Ungerman says QLACs may be more helpful due to the associated tax benefits.

According to the American Academy of Actuaries, a SPIA starts payouts right away, a deferred annuity grows funds for future payouts, and a QLAC is a special deferred annuity bought with retirement account funds to delay required minimum distributions and insure against extreme old age.

Prepare for Multiple Stops

The plan sponsor portability question becomes more of a concern with a guaranteed lifetime withdrawal benefit, which requires more interaction between the recordkeeper, the insurer and the asset manager than a QLAC or SPIA, both of which Ungerman says are more transactional.

“Once that participant purchases that annuity, that participant now has a relationship with an insurer, and they can leave or take the rest of their assets and roll it to a future employer or to an IRA, and they’ll still always have that insurer relationship,” he says.

Thomas Hawkins, chief marketing officer of the Retirement Clearinghouse, based in Charlotte, North Carolina, is also concerned with participant behavior. He regards today’s highly mobile workforce—workers change jobs an average of 10 times over the course of their careers—as demonstrating the need to help participants consolidate retirement accounts easily.

“You’ve got a problem that retirement savings are relatively immobile,” Hawkins says of the difficulty many people have in moving their accounts from plan to plan. “Most people require assistance to do that, and what that results in is high levels of cash-out leakage, because unfortunately, when it’s difficult to move your money and you’ve left a prior plan, a lot of people take the easy route, and 30% to 40%, on average, just cash out completely following a job change.”

Guaranteed vs. Nonguaranteed Options

Improving retirement asset consolidation is also necessary to Kevin Crain, the executive director of the Institutional Retirement Income Council, who is based in New York City and Massachusetts.

“Let’s say [a] participant has only been with the company five years, and the other 35 years [elsewhere]—they [had] 401(k)s in 10 different places,” Crain says. “I reoriented our thinking around: It’s not just retirement income solutions … it’s not even great retirement income education—account aggregation’s probably in front of all of it. … People need to put things together in one place so when you look at retirement income projection planning, retirement income education, retirement income solutions, it’s looking at the totality of what someone has.”

Crain sees planning for recordkeeper change as the next obstacle to more widespread adoption of retirement income offerings.

“It’s one of the biggest holdups in terms of: Why aren’t these solutions more universally adopted in plans?” Crain says.

He points to factors such as the fiduciary responsibilities shared by plan sponsors, advisers and consultants. Once they are up to speed on retirement income as an option and are ready to put an offering in their plans, with recordkeepers adopting a set of offerings on their platform, plan sponsors still must address what happens if you change recordkeepers.

“I don’t want to call it a battle, but the dichotomy is: This is the difference between nonguaranteed retirement income solutions and guaranteed retirement income solutions,” Crain says, pointing to the portability associated with a nonguaranteed withdrawal feature, paired with a capital preservation fund investment.

Crain says he has watched increased creativity emerging in nonguaranteed offerings such as hybrid target-date or hybrid managed account options and sees greater comfort on the guaranteed side if it concerns an immediate annuity.

“When you get the embedded insurance options or stand-alone insurance options, then that question [of portability] comes up,” Crain says. “Why it’s held back plan sponsors is: that … further increases fiduciary concerns.”

Can Markets Be Super?

Another potential approach to alleviate fiduciary concerns and portability questions, according to Crain, are so-called annuity supermarkets.

“The annuity supermarket actually also probably gives the additional layer of fiduciary protection for the plan sponsor because they didn’t choose a certain type of annuity and didn’t choose a certain insurer,” Crain says.

He adds that markets for participants to purchase their own annuity outside of a plan are often paired with counseling services to help consider an individual’s unique set of circumstances, including longevity risk.

Ungerman also encourages plan sponsors to think through the participant experience, as well as how different age groups will begin to evaluate retirement income options.

“Getting that engagement on drawdown solutions is really a hard premise,” Ungerman says. “So starting early with the population—perhaps well before retirement age—is something every plan sponsor and recordkeeper should have high on their list.”

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