Participant Distribution Decisions Have Implications for Plan Design

A Vanguard update to its analysis of older retirement plan participants’ distribution behavior has implications for the design of target-date funds and retirement income programs.

In an update to its December 2013 analysis of retirement-age (age 60 or older) defined contribution (DC) plan participant distribution decisions, Vanguard found more than two-thirds of participants take steps to preserve assets, and nine in 10 plan dollars are preserved for retirement.

According to Vanguard’s report, “Retirement distribution decisions among DC participants—An update,” specifically, 2% of participants remained in the plan with no installments, 7% remained in the plan with installment payments, and 57% completed an individual retirement account (IRA) rollover. Four percent of assets remained in the plan with no installment payments, 12% of assets remained in the plan with installment payments, and 72% of assets rolled over to an IRA. The analysis finds the recession of 2008 and 2009 and more recent financial market volatility did not appear to have had an impact on the distribution decisions made by retirement-age plan participants.

Vanguard observed that most retirement-age participants and most participant assets leave employer plans within five calendar years following the year of termination of employment. This termination behavior may be linked to plan rules that inhibit ad hoc or flexible withdrawals from DC plans. Only 13% of plans allow terminated participants to take ad hoc partial distributions, and these tend to be larger plans.

Vanguard noted that other research has found most retirement-age IRA-owning households and most IRA assets are not accessed until after age 70 when the required minimum distribution (RMD) rules apply.

NEXT: Implications for plan design

The tendency of participants to preserve plan assets at retirement supports the notion of “through” glide paths in target-date fund (TDF) design, Vanguard suggests. In other words, target-date designs should encourage an investment strategy at retirement that recognizes assets are generally preserved for several years post-retirement.

Also, with the rising importance of lump-sum distributions, participants will need assistance in translating these pools of savings into a regular income stream. Based on current retirement-age participant behavior, most of these retirement income decisions will be made in the IRA marketplace, not within employer-sponsored qualified plans, although this may evolve gradually with the growing incidence of in-plan payout structures.

One way sponsors might encourage greater use of in-plan distributions is by eliminating rules that preclude partial ad hoc distributions from accounts, Vanguard suggests. Eighty-seven percent of Vanguard DC plans require terminated participants to take a distribution of their entire account balance if an ad hoc partial distribution is desired. For example, if a terminated participant has $100,000 in savings and wishes to make a one-time $100 withdrawal, he or she must withdraw all savings from the plan—either by rolling over the entire $100,000 to an IRA and withdrawing the $100 from the IRA, or by executing an IRA rollover of $99,900 and taking a $100 cash distribution.

The latest Vanguard report is here.