Historic Opportunity in Solving Income Questions

With 25 years in the investment industry, Tim McCabe has participated firsthand in the dramatic rise of the defined contribution retirement system.

McCabe has been with Stadion Money Management since 2003, guiding distribution of the firm’s discretionary 401(k) management services as national sales director. Before Stadion he was a vice president at Fidelity Investments, leading the Southeast region of Fidelity’s Institutional Retirement Services Company.

McCabe says the first three decades of work in the defined contribution (DC) retirement planning sphere focused almost exclusively on questions of asset accumulation. Plan sponsors would worry about providing quality funds on the investment menu, but less attention was paid to the way participants actually used those funds—and whether the plan design as a whole could make successful outcomes likely. Advisers and service providers, too, were largely focused on issues of accumulation, McCabe says.

But with the aging and impending retirement of the Baby Boomers—basically the first generation to work something like a full career under the DC system—the industry’s attention is shifting at an accelerated rate. McCabe says decumulation is quickly becoming not just a subject of concern for older workplace retirement investors—it’s also the next frontier for industry innovators and opportunity seekers.

“This all comes out of the fact that the number one question and fear for a lot of people is, ‘Am I going to have enough money in the 401(k) to support myself for a lengthy retirement?’ ” McCabe explains. “Both for in-plan and out-of-plan lifetime income products, we’re seeing tremendous interest from literally all of the major providers in the industry, certainly all the partners we work with.”

Importantly, there is as of yet little consensus on the best way to do lifetime income, McCabe adds, both inside and outside the plan environment. This makes it difficult for participants to get affordable lifetime income, or even to get sound guidance about some reasonable incomes strategies, he says.  

And the list of hurdles goes on. A persistent low interest rate environment means any unit of lifetime income purchased today is going to be expensive in terms of the income it actually secures. What’s more, lifetime income products are complex and are not yet sufficiently portable to meet the needs of job changers and investors looking to roll their assets into a unified account. Finally, it’s far from clear how the Department of Labor (DOL) and other key regulators view the inclusion of lifetime income products on a plan menu.

“How do these products impact fiduciary liability for plan sponsors? This question is obviously top of mind for everyone involved,” McCabe says.

McCabe says the fiduciary issue will be a particuarly tough nut to crack without action from the DOL. “Many participants can be expected to draw on an in-plan lifetime income product for 20 or 30 years during retirement—would the sponsor be on the hook for paying the income if the providing insurer ever folded?” he asks.

McCabe and others in the industry say that, until there is some type of additional safe harbor established by the DOL, the take-up will remain relatively low for in-plan lifetime income. “It’s difficult to get these products to be accepted widely in the market, in spite of their appeal for participants,” McCabe continues. “We will need at least some type of initial guidance on these products first, if not an outright safe harbor.”

He says even the product providers who can usually be expected to resist new regulations from DOL are in favor of more guidance on in-plan lifetime income questions. 

“I sat in on a conversation with four major providers on this very question less than month ago. Overall, the feeling was, for all of them, that they would welcome additional legislation and regulation, and they’re actively lobbying on it so that they can get these products off the ground.”

Jeff Keller, McCabe’s colleague at Stadion and the firm’s director of defined contribution investment only (DCIO) sales, says this question always comes up in client meetings.

“No matter who we are meeting with, we are seeing a focus on the matter of fiduciary liability for in-plan lifetime income,” Keller says. “What’s the level of risk you take on when offering one of these products to plan participants? It’s somewhat unclear under current law.”

Keller anticipates that leaders in the industry will continue to push the envelope on what’s possible with in-plan and out-of-plan income guarantees. “Of course there are the questions that, as we develop the second and third generation of these products, we will need to address,” he explains. “But there is already big innovation going on, and the more innovative insurance companies will be able to solve these issues. I’m confident about that.”

Keller predicts the adoption of in-plan lifetime income will mirror the uptake of target-date funds (TDFs) within the DC industry. In the same way that TDFs exploded in popularity because they solve the specific (and critical) challenge of ensuring participants adjust their risk outlook as they age, lifetime income products can help solve the critical question of securing an income stream that won’t run out late in life. “So we know these products will be popular,” Keller says.

“We’re all familiar with the challenges that surrounded TDFs,” Keller continues. “We expect that, like TDFs, it will be difficult to name and benchmark lifetime income choices. Once we get five or 10 viable lifetime income options out there in the real world, they’re going to look very different from one another, so it will require a new literacy for the sponsors to differential these products. That could eventually be more important than the differentiation that needs to take place among the target-date fund universe today, I believe.”

Yet another important point is the timing of retirement, Keller observes.

“Where are we at in the market when that time for retirement comes and we look to purchase lifetime income for an individual?” he asks. “That’s another major topic and all the potential players in the market want to know what the other guys are doing to optimize that process. Buying lifetime income in today’s environment would not be so favorable, for example.”