The decumulation phase challenges both users and providers of retirement plan services, explains Steve Vernon, a consulting research scholar at the Stanford Center on Longevity and a former actuary.
He says the Center for Longevity has tested a “portfolio” strategy for directing the drawdown of retirement assets—with good results. The strategy involves a participant building “a floor consisting of one or more sources of guaranteed income—Social Security, a pension, maybe an annuity—which won’t go down with the stock market and will last as long as you do,” he says.
Money from the secured portion of the portfolio should be earmarked to cover basic living expenses. The rest of the participant’s savings can be invested aggressively and used at discretion, say for travel, hobbies or gifts, says Vernon, who is also a retirement adviser at the nonprofit Institutional Retirement Income Council. This strategy resembles a traditional 60/40 investment portfolio of stocks and bonds, except that the bond portion is now a guaranteed lifetime income source.
This is especially effective when the market plummets, he says. Withdrawing money from investments in decline is “the worst thing you can do. The floor psychologically helps people. They can let the money ride.”
Plan sponsors can facilitate the approach, he says, by offering an annuity through the plan and educating employees about how the strategy works and how it can be implemented.
To plan sponsors that have simply put off adding a product because they’re waiting for the market to evolve, Vernon says his advice to this group is that “there are plenty of good, credible ways now to generate retirement income. Not to say there might not be more innovation in the future, but there are robust offerings now, and plan sponsors that are motivated don’t have to wait.”
NEXT: Insurance pros and cons
Basically, what plans have to choose from are deferred and immediate annuities, with fixed or variable payments—the latter, in some products, adjusted for inflation. Each manages risk in a different way. “I’d want to walk through with my client the risks the participants face in retirement, and how each of those products and services addresses those risks,” adds Bruce Ashton, a partner in the employee benefits and executive compensation practice group at Drinker Biddle & Reath LLP says.
“The insurance companies have been fairly innovative in developing insurance features that could be placed inside a plan,” says Vernon. A popular option is the guaranteed lifetime withdrawal benefit (GLWB), or guaranteed minimum withdrawal benefit (GMWB), Prudential’s IncomeFlex series being an example, he says. This provides monthly payments but gives the participant more flexibility and control than does an annuity.
Stewart Lawrence, senior vice president and national retirement practice leader with The Segal Group, says of the annuity products available, he likes longevity/deferred annuities, which generally begin to pay out when the retiree reaches 85. Today’s low interest rates make these expensive, though, he says. Assuming that rates will climb, a retiree could spread out the purchase—five payments over five years—to average out the cost. Keep in mind, however, that this will mean five execution fees, versus just the one, Lawrence says.
Lawrence is less impressed with immediate lifetime annuities, which he describes as the opposite of life insurance: Make one grand payment and immediately begin to receive small payments back. “The purchase of one requires irrevocably locking up a large amount of capital—perhaps $15 to $20 per $1 of annual annuity.”
NEXT: Products outside the plan
The plan sponsor should also investigate products available outside the plan, as well. Vernon likes managed payout funds, a systematic withdrawal strategy offered by most mutual funds. “Those might be good for someone who has money in an IRA and doesn’t want to think hard about it. You set up an IRA with Vanguard and say, ‘I want to put my money into a managed payout fund.’ Vanguard will say, ‘Tell us where to send the check.’ They automatically send a check every month and will do the asset allocation for you.”
Performing asset allocation is an important benefit, Vernon says. “It’s even more critical after retirement, compared with accumulating money before.”
If the strategy itself does not offer this service, the plan adviser can provide it, in the early stages when helping the participant arrive at a personal plan. Because an employee may have several abandoned defined contribution plans and/or IRAs, the adviser could also suggest consolidating them into one—such as the managed payout fund. He should first review the details of each with the participant to ensure the money stays where fees and expenses are most favorable.
Some plan sponsors may wish to hand off all such responsibility, though. For them, the alternative could be an advisory service. Increasingly, plan administrators supply this service, not to mention retirement income solutions, annuity products and communications, Vernon says. “That can be a feature if you’re doing a vendor search for a new plan administrator—what support does the plan administrator have for retirement income?”
Fees will always be an issue to some degree, whether participants are accumulating money or retirees drawing it down. For one final strategy, he suggests that advisers urge their clients to adopt institutionally priced funds whenever they can. “There will always be administrative or investment fees,” he says. “If retirees keep their money in a 401(k) with lower fees, that will make their money last longer.”