As defined contribution (DC) plan sponsors and consultants shift their attention to the payout phase, I’ve been receiving more questions about the potential role of in-plan annuities.
In theory, a payout annuity could be readily offered alongside other distribution options available in U.S. DC plans, including staying in the plan, starting installments, taking a lump sum distribution or rolling over to an IRA. Yet in-plan annuities aren’t widely offered. For example, about 15% of Vanguard-administered DC plans currently offer an active in-plan annuity.
Why aren’t in-plan annuities more prevalent? One reason is sponsor concerns about fiduciary oversight. Committees often worry about the process for selecting and monitoring insurers. Do we have the expertise to do it ourselves, or should we hire a consultant? What’s the nature of our liability? These questions dissuade many committees from moving ahead, especially since expected demand from participants is typically low.
Because of this fiduciary concern, most sponsors prefer to offer annuities outside the plan as an IRA rollover option. A good example is the recent announcement of a partnership between General Motors and the Hueler Income Solutions Annuity Marketplace. The GM annuity mart option is structured as a rollover option, like Vanguard’s own IRA annuity marketplace with Hueler.¹
Various experts from government, academia, or industry would like to see more usage of annuity options to help participants mitigate longevity risk. A rollover annuity option may be appealing from a fiduciary perspective, but it’s likely to be “out of sight, out of mind” for most participants. Concerns about barriers to in-plan annuities have led the Department of Labor to clarify its rules for in-plan annuity selection. So far, the rule clarification hasn’t changed employer sentiment.
A more fundamental issue here is that individual demand for annuities is quite low. Academic economists call this the “annuity puzzle.” It could be due to individuals’ lack of understanding and financial literacy. It could be the complexity of the purchasing process—some say annuities are sold, not bought—or how the decision is framed, whether in investment or insurance terms. Finally, many households may prefer liquid assets over guaranteed income streams to respond to uncertainties in retirement, including unexpected future health-care costs.
Independent of the annuity issue, many plan sponsors remain interested in helping participants with the drawdown phase of retirement. They realize participants need help creating income streams from their savings. They’re concerned participants may overlook the lower investment costs their plan may offer. They also worry about participants incurring high fees and bad advice in the retail marketplace, undermining the good work they’ve done in the accumulation phase.
To help, some plan sponsors are taking the following steps, all designed to make a plan a more attractive destination for participants in retirement:
- Promoting the plan’s low-cost investment options.
- Adding tools for establishing regular installment payments.
- Providing a managed income service, which manages assets and provides a monthly paycheck for an added fee.
- Amending plan documents to permit flexible, ad hoc withdrawals.
- Allowing post-retirement rollovers into their plan.
These seem like plausible first steps to accommodate the growing number of participants reaching retirement age in DC plans. And these steps avoid the added fiduciary oversight of in-plan annuities. Vanguard research shows that within 5 years, 80% of DC plan participants leave their employer plan at retirement. The hope is that a more attractive DC plan in retirement will help slow or reverse this trend.
Meanwhile, the debate over in-plan annuities continues. For now, most employers’ answer to the question “annuity—or not?” is simple: “not in the plan, but in an IRA rollover.” And plan sponsors continue to work on other ways to make their plans more hospitable to retirees to create an attractive retirement destination for participants.
¹Hueler separately provides the annuity marketplace for Vanguard IRA investors and for Vanguard DC participants who choose a Vanguard IRA.
- All investing is subject to risk, including the possible loss of the money you invest.
- There are important factors to consider when rolling over assets to an IRA or leaving assets in an employer retirement plan account. These factors include, but are not limited to, investment options in each type of account, fees and expenses, available services, potential withdrawal penalties, protection from creditors and legal judgments, required minimum distributions, and tax consequences of rolling over employer stock to an IRA.
- Vanguard Annuity Access™ is offered in collaboration with Hueler Investment Services, Inc., through the Income Solutions platform. Income Solutions is a registered trademark of Hueler Investment Services, Inc., and used under license. United States Patent No. 7,653,560. Vanguard Annuity Access is provided by Vanguard Marketing Corporation, d/b/a VMC Insurance Services in California.
- Guarantees are subject to the claims-paying ability of the issuing insurance company. The issuing insurance company is responsible for its own financial condition and contractual obligations.