A package of U.S. Treasury Department proposals released on Feb. 2, 2012, is intended to reduce regulatory burdens so that retirees can receive retirement plan income in regular payments for as long as they live. Easing the use of annuities, which provide fixed lifetime payments in return for a lump sum, for retirement plan distributions is meant to provide greater certainty in retirement by minimizing the risk of retirees outliving their savings—an increasing challenge as Americans live longer and retirement plans increasingly trend away from the traditional defined benefit structure.
“When American workers take the responsible step of saving for retirement, we should do all we can to provide them with sensible, accessible choices for managing their hard-earned savings. Having the ability to choose from expanded options will help retirees and their families achieve both greater value and security,” said Treasury Secretary Tim Geithner in a released statement.
"Americans face unprecedented retirement income challenges today that are compounded by longer life spans, the rising cost of health care and a shift from defined benefit to defined contribution plans," said Cathy Weatherford, president and CEO of the Insured Retirement Institute (IRI), an industry group representing annuity providers, which welcomed the Treasury's proposals.
“Treasury wisely recognized the need to help people secure a stream of income they could not outlive,” added Dirk Kempthorne, president and CEO of the American Council of Life Insurers, which also represents the annuity industry. “Our common goal should be to help assure the financial security of American workers throughout their retirement years.”
New Proposals and Rulings
The guidance package aims to help Americans meet their need for income during retirement by:
Often, traditional pension plan participants are confronted with a “cash or annuity” decision on retirement. Given an all-or-nothing choice, many opt for a lump sum and decline the lifetime income stream because they are unaware that they have the option to combine approaches. The proposed regulation, Modifications to Minimum Present Value Requirements for Partial Annuity Distribution Options Under Defined Benefit Pension Plans, changes regulatory requirements to make it simpler for defined benefit plans to offer combinations of lifetime income and a single-sum cash payment. This is designed to encourage more retirees to consider partial annuities, which allow for retirees to receive a steady stream of income for their lifetimes while keeping a portion of their savings invested in assets with the flexibility to respond to liquidity needs.
• Encouraging partial annuity options.
• Removing a key obstacle to “longevity” annuities. Another proposed regulation, Longevity Annuity Contracts, expands on the combination approach by removing regulatory impediments to purchasing a deferred “longevity” annuity, which don't start making guaranteed payments until the investor reaches an advanced age. Annuities of this type would provide an efficient way for savers to address the risk of outliving their assets by purchasing a predictable income stream that begins making payments at age 80 or 85. Once longevity risk is addressed, a retiree’s task of generating income from the remaining assets is more manageable because it is limited to a fixed period. The proposal, among other changes, would remove funds in a longevity annuity from calculations to determine required minimum distributions that must be taken after age 70 in a traditional 401(k) plan.
• Clarifying rules for plan rollovers to purchase annuities and spousal protection rules for 401(k) deferred annuities. Two new revenue rulings issued by the Internal Revenue Service address how rules protecting employees and spouses apply when plan sponsors allow rollovers to or purchases of annuities from the plan:
-- Revenue Ruling 2012-3 clarifies that employers can offer their employees the option to use 401(k) savings to purchase deferred annuities and still satisfy spousal protection rules with minimal administrative burdens.
-- Revenue Ruling 2012-4 will allow employees receiving lump-sum cash payments from their employer’s 401(k) plan to roll over some or all of those amounts to the employer’s defined benefit pension plan, if the employer will allow it, in order to receive an annuity from that plan.
"We are encouraged by the guidance package that includes steps to encourage partial annuity options, remove barriers to purchasing annuities and clarify rules that apply when plan sponsors offer lifetime income options under their plans," said IRI's Weatherford.
Issues to Weigh
Despite the appeal of a lifetime income stream, plan sponsors have been hesitant about incorporating annuities into their plans not only because of regulatory roadblocks and liability issues, but because of the products' sometimes high fees and design complexity—issues raised in particular with regard to variable annuities. Another concern has been that annuity payments can lose purchasing power amid future inflation, especially with regard to fixed income annuities.
Additional information on the proposals is available in a Treasury fact sheet, Helping American Families Achieve Retirement Security by Expanding Lifetime Income Choices.
Stephen Miller, CEBS, is an online editor/manager for SHRM.
IRS Guidance Facilitates Annuitization of Retirement Benefits, HRS Insight (PricewaterhouseCoopers), February 2012
Feds’ 401(k) Annuity Proposals: Baby Steps, CFO, February 2012
Retirement Income Menus: Next Step for 401(k)s?, SHRM Online Benefits Discipline, September 2011
Income-Replacement Goals Overlooked by Plan Sponsors, SHRM Online Benefits Discipline, January 2011
Americans Wish They Had a Pension, Would Consider Annuities, SHRM Online Benefits Discipline, August 2010
Reconsidering Annuities in Retirement Plans, SHRM Online Benefits Discipline, June 2010
401(k) Distributions: Easing Into Annuities, SHRM Online Benefits Discipline, June 2008
The 401(k) Annuity Rollover Option at Ericsson, SHRM Online Benefits Discipline, June 2008
Adding Annuities Called 'Next Frontier' in 401(k) Plans, SHRM Online Benefits Discipline, November 2007
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