Perspective: The Secret to a Happy Retirement

Bobby Layne, the Hall of Fame quarterback for the Detroit Lions, once described the perfect plan for generating an income in retirement: “The secret to a happy life,” Layne mused, “is to run out of cash and air at the same time.”

Unfortunately, most Americans can only aspire – or should we say “expire” – to this fate.  As life spans continue to increase, many people sincerely worry about running out of money long before they run out of breath.  Increasingly, financial advisers are working to tackle the problem of how to create income that their clients won’t outlive in retirement.

In the past few years, retirement plan providers have introduced new solutions to this problem, often in the form of annuities imbedded within the retirement plans themselves. These annuities are available as an alternative investment option into which plan participants can direct their contributions and earnings, or both.

The best solutions allow plan participants to accomplish the overriding goal of generating a guaranteed income in retirement that will last as long as they do. In Bobby Layne parlance, they would never take a breath without at least another dollar in their pocket. This concept is particularly important for plan participants who may not have other sources of guaranteed income such as a defined benefit pension plan.

Research from The Hartford in 2010 found that 82.6% of Americans age 45 and older do not have a pension plan from either a current or former employer. Two-thirds said they were uncertain about how to determine their income needs in retirement.

So what is the best solution for a defined contribution-based income annuity?  What makes the most sense for plan participants?

Some of the first products on the market were decidedly complicated and could be difficult to understand.  Perhaps that’s one reason why the take-up rate on annuity income options within defined contribution plans has been relatively disappointing to date.

Newer products have focused on simplicity.  The simplest allow each participant to purchase a unit or share of monthly income that is guaranteed to last for as long as he or she lives.  The cost of the unit or share is based on the age of the annuitant, current interest rates, and an assumption that he or she will retire at age 65.

Participants should be able to easily purchase or cash out their income annuity before they start taking income, exchanging money in and out as their financial needs change or become more concrete over time.  If they leave their current employer, they can leave the shares within their previous retirement plan or redeem the income shares with the intent of rolling over the proceeds into a new employer’s retirement plan or IRA. Or, in certain circumstances, they may receive a distribution of the annuity shares as a nontaxable qualified plan distributed annuity (QPDA).

The most flexible plans allow purchases of income shares through regular payroll deduction, from exchanges of other investment options, or from rollovers from other retirement plans.  Over the long term, a participant can direct retirement plan contributions into the income shares on a regular basis, in effect employing a dollar-cost-averaging strategy for guaranteed income.  The actual cost of the shares varies over time based on prevailing interest rates and the participant’s age.

Of course, participants often decide to retire before or after age 65.  An income product must be flexible enough to accommodate those decisions, adjusting the payout accordingly.  Once the benefit payment begins, however, participants typically cannot change the form of their income payment or cash out of their investment in the annuity.

Ultimately, the No. 1 priority of income annuities is to provide the “biggest bang for the buck,” maximizing income payments for the life of the retiree.  That’s something Bobby Layne could relate to because no one lived life with more gusto or competed harder or longer.

“I never lost a game but sometimes I just ran out of time.” Layne once famously said.  With the right income option within a defined contribution retirement plan, plan sponsors can help ensure the plan’s participants don’t run out of money before they run out of time.

E. Thomas Foster Jr., Esq., is The Hartford’s national spokesperson for qualified retirement plans. Foster works directly with broker/dealer firms and advisers to help them build their qualified retirement plan business and educate them about industry issues.

This information is written in connection with the promotion or marketing of the matter(s) addressed in this material. This information cannot be used or relied upon for the purpose of avoiding IRS penalties. This material is not intended to provide tax, accounting or legal advice. As with all matters of a tax or legal nature, you should consult your own tax or legal counsel for advice.

Many tax planning strategies emphasize the deferral of current income taxes, on the basis that your federal income tax rate may be lower at retirement.  Please keep in mind that federal income tax rates are unpredictable and may be higher when you take a distribution than at the time of deferral.  Other factors, including state tax rates and your income, may also affect your overall tax rate upon distribution.  Please consult with your tax advisor for individual tax planning strategy and advice.  The Hartford does not predict or in any way guarantee favorable tax results.

Taxable distributions (and certain deemed distributions) are subject to ordinary income tax and, if made prior to age 59-1/2, may also be subject to a 10 percent federal income tax.

RPS #107743