Saturday, October 01, 2016

Rescuing Retirement from the ‘Rescuers’

Delegates to last week’s NAPA DC Fly-In Forum were treated to a discussion about a proposal touted as “rescuing retirement.” But the math (still) doesn’t seem to work. And it’s likely to kill the 401(k) (or at least its tax benefits). Here’s how.

The proposal itself isn’t new – its the Guaranteed Retirement Account (GRA) concept initially introduced by the New School’s Professor Teresa Ghilarducci, now somewhat modified, and embraced by Hamilton E. (Tony) James, President and COO of money management Blackstone. This newest version was rolled out earlier this year. Writ large there seem to be two significant differences in this newest version (packaged in a nice 119-page softbound book, Rescuing Retirement):
  • James’ involvement, which lends some investment cred to the assumptions of the proposal; and
  • a reduction in the mandatory contributions from employer and employee (the original proposal called for 5%, the new one only 3%).
The Ghilarducci/James team firmly believes that the current tax preferences inordinately benefit higher-paid workers, and therefore they have no trouble taking those away from all workers (they’ll let employers keep their current preferences for sponsoring the plan) in order to “pay” for the $600 non-refundable tax credit that is supposed to make the mandatory 1.5% employee contribution “free” for lower-income workers.

Under the GRA proposal, workers won’t be able to access the money prior to retirement – no more loans or hardship withdrawals. They assume, and perhaps rightly so, that emergency savings shouldn’t be taking place in your retirement account. Additionally, when you do retire, you will have to access the money in an annuity form – no more lump sums, and no bequests. You annuitize the payment at retirement (it can be a joint and survivor), but once you pass, any residual amount stays in the pool.

Ghilarducci and James actually seem to think they are doing employers a favor by giving them a way “out” of the bother (and expense) of providing workplace retirement plans. (James went so far as to refer to some conversations he’s had with some Fortune 500 CEOs, and apparently they’d love nothing more than to be done with these plans.) Oh sure, for those who have not previously offered a plan their new 1.5% mandatory contribution will represent an additional cost – but for everyone else, that 1.5% is likely a drop in the bucket compared to what they are spending now – and they won’t have to deal with the administrative responsibilities or fiduciary liability of a qualified plan.

But aside from my very real sense that killing the tax preferences for 401(k) savers would also serve to “kill” the 401(k), policymakers can’t help but be drawn to the notion of a proposal that purports to “rescue” retirement without costing the taxpayers. Well, without “costing” the taxpayers more, anyway (remembering, of course, that these are deferrals – a postponement of taxation, not a permanent deduction).

But does the proposal actually do what it claims?

First off, it does nothing for Boomers. As James aptly noted at the Fly-In, “It’s too late for them.” So whose retirement is being rescued? Well, younger workers – Millennials particularly, but more specifically, lower income workers – who in some cases are also part-time, part-year. Those workers are less likely to have access to a plan at work, and – likely because of their lower incomes — are certainly less likely to take full advantage of it.

Still, if today’s savings rates are deemed insufficient to help today’s retirement savers achieve their goals, how in the world can a combined 3% savings rate (employer and employee) possibly “rescue” retirement?

Well, despite their book’s auspicious title, from our discussion last week (and there were a couple of hundred witnesses), the only people who are being “rescued” are those who aren’t saving anything at all now (they’d be forced to save under this proposal) who also happen to be making $46,000 a year or less. That’s the group that Ghilarducci and James say will, under this proposal, achieve a 70% replacement rate (assuming Social Security, and no reductions there) in retirement. Everybody else? Well, you can keep saving for retirement, but Ghilarducci and James don’t see any reason to “underwrite” that responsible behavior by allowing you to defer paying taxes on compensation you haven’t yet received.

But even if you’re only focused on shoring up the prospects of lower-income workers, could a 3% contribution be enough? Even with the 7% return1 that Ghilarducci and James assume for their GRAs, I just couldn’t see it adding up.

So I asked Employee Benefit Research Institute (EBRI) Research Director Jack VanDerhei to run the GRA program assumptions – for younger workers only (ages 26-30) – and asked him to compare that to what those same workers might get if they simply continued in their 401(k)s.

The EBRI analysis took actual balances, contribution rates and investment choices across multiple recordkeepers from more than 600,000 401(k) participants, looking at those currently ages 26-30, including those with zero contributions, with 1,000 alternative simulated outcomes for stochastic rate of returns based on Ibbotson time series (with fees between 43 and 54 bps), including the impact of job change (an assumption was made that 401(k) participants would continue to work for employers who sponsored 401(k) plans), cashouts, hardship distributions, loan defaults, and with contributions based on observed participant data as a function of age and income and asset allocation based on observed participant data as a function of age. For the Ghillarducci/James GRA, EBRI assumed no cashouts, hardship distributions or loan defaults (they aren’t allowed), assumed a deterministic 7% nominal return with no fees, and took their assumptions about the 3% mandatory contributions. And then compared the two outcomes at age 65.

The result? Well, as you can see in the chart to the right , the median for all income quartiles fares worse under the GRA proposal than under their current 401(k) path. (To download a full-page pdf of the chart, click here.) That’s not to say that every 401(k) path will provide sufficient income in retirement, of course – but it does affirm the common sense logic that if current rates of saving aren’t sufficient, 3% – even mandatory, and even with no leakage – won’t match the performance of the 401(k).

Of course, we know that today not everyone has access to a 401(k), and we’re all working to change that. But those truly trying to rescue retirement should probably do so with a life preserver, not an anchor.

- Nevin E. Adams, JD

  1. They view this return as conservative next to the 8.5% returns assumed by public pension plans, and think 401(k) investors only get 3-4%.

Saturday, September 24, 2016

The Fourth Quarter

In most professional sports, the clock – the time remaining in the contest – is a factor (baseball being a notable exception – those nine innings are going to be played, regardless of how long it takes).

The clock can be your enemy if you’re trying to hang on to a slender lead – or it can be your friend – if your team needs some extra time to catch up.

Retirement also has a clock – the problem is, we generally can’t see it. Little wonder that time – our retirement clock – is perhaps the biggest uncertainty when it comes to retirement planning. Not just the when it starts, but mostly the “how long” aspect. Surveys suggest that fear of outliving one’s assets is a primary concern about retirement – little wonder since so few have stopped to figure out how much they have, not to mention the uncertainty as to how long it has to last.

I recently read an interesting article by Dr. Joe Coughlin, founder and director of the Massachusetts Institute of Technology AgeLab (and closing keynoter at the 2016 NAPA 401(k) Summit). He notes that if we assume that a person with some or more college education and good income is now likely to live to about 85 or 87 years old, that person’s life can be divided into four periods.

Birth to college graduation is about 7,700 days. College graduation to midlife crisis at about 45 years old is another 8,700 days. Midlife to the retirement age of 65 is another 7,300 days.

Oh – how long for retirement? Well, based on the foregoing assumptions, Coughlin suggests that you can – and for planning purposes I would argue should – add about another 8,000 days from your retirement party to life’s end.

Said another way, for a large, and growing number of individuals, retirement is, in a very real sense, their fourth quarter. One that you “coast” through at your peril, and only if you have built up a large, comfortable, and perhaps unassailable cushion.

For those who tend to see arriving at retirement as a finish line, it may instead be more appropriate to be thinking – and planning – as though we still have another quarter to play.

And the clock… is ticking.

- Nevin E. Adams, JD

Saturday, September 17, 2016

Retirement Plans and Retirement Income: It’s Complicated

One of the great concerns of our industry — when we aren’t worrying if people have saved enough for retirement — is worrying about how those savings are going to last through retirement.

Enter to that debate a recent report from the Government Accountability Office (GAO) that basically takes the Labor Department to task for not doing enough to encourage the use of lifetime income options in workplace retirement plans.

Sure enough, it’s been hard for lifetime income options to get traction with retirement plans. The GAO rightly outlines a number of the concerns typically articulated with these options — which are well known to those who have looked to remedy the situation (see “5 Reasons Why More Plans Don’t Offer Retirement Income Options”).

GAO Alternatives

So, what suggestions does the GAO have for the DOL? Well, the GAO has several specific suggestions, including that the DOL:
  • do more to clarify the safe harbor for selecting an annuity provider;
  • consider providing legal relief for plan fiduciaries offering an appropriate mix of annuity and withdrawal options;
  • help encourage the use by incorporating references to selecting a lifetime income/annuity provider in both its current publications, or by issuing new guidance to do so;
  • include participant access to advice on the plan’s lifetime income options from an expert in retirement income strategies; and
  • consider providing required minimum distribution (RMD)-based default income plan distributions as a default stream of lifetime income based on the RMD methodology beginning, unless they opt out, when retirement-age participants separate from employment, rather than after age 70½.
The GAO goes so far as to suggest that the Labor Department encourage plan sponsors to use a record keeper that includes annuities from multiple providers on their record keeping platform (as if one wasn’t complicated enough), to encourage them to offer participants the option to partially annuitize their account balance, and to take into account changing providers that could put the current lifetime income products at risk.

The Logic

The thinking, of course, is that if you made it (feel) safer for plan sponsors to offer lifetime income options, more would do so. And that if you had more plan sponsors offering the options, more participants would have a chance to, and ultimately would, choose them. And that if you set up those options as a default, even more participants would “choose” them, or at least wind up with them. It’s hard to rationally argue with that logic. And yet, for years I’ve watched a number of truly innovative and objection-responsive solutions come to market — and, for the most part, fail to live up to expectations. Why? Well, it’s complicated.

Consider that, unlike automatic enrollment — around which the Pension Protection Act so carefully crafted provisions that provided an exit path for participants who had second thoughts — unwinding lifetime income options is generally seen as more… complicated. Not impossible, mind you — but “complicated.”

As for the enhancements to the current safe harbor that GAO recommends — well, if plan sponsors are to be believed, that would certainly help. But let’s not ignore the reality that the DOL has already taken some pretty significant steps in that direction (and seems reluctant to go further). Despite those steps, I think it’s fair to say that plan fiduciaries still find it their responsibilities with regard to those options… complicated, certainly compared to the other providers/services for which they are accountable.

Behavioral Barriers

There’s little question that participants need help structuring their income in retirement — and little doubt that a lifetime income option could help them do that. That said, the biggest impediment to adoption may simply be that (industry surveys notwithstanding) participants don’t seem to be asking for the option — and when they do have access, mostly don’t take advantage, even when defined participants have a choice, they opt for the lump sum. Not that those dynamics can’t be influenced by plan design or advisor input, but justifiable concerns remain about fees, portability and provider sustainability. Moreover, there are significant behavioral finance impediments — be it the overweighting of small probabilities, or mental accounting — or simply the fear of losing control of finances, a desire to leave something to heirs, or simple risk aversion. It’s often not just one thing. It’s… complicated.

Ultimately, while the GAO’s recommendations would surely expand the availability of these options, would it have an impact on participant adoption? An income option with all the features participants want will be even more complex (and expensive) — and, if there were to be a default withdrawal option into a lifetime income option, I suspect that the opt-out rates would be high, for (all) the reasons noted above.

Why? Well, because it’s (still) complicated.

- Nevin E. Adams, JD

Sunday, September 11, 2016

Never Forget

Early on a bright Tuesday morning in 2001, I was in the middle of a cross-country flight, literally running from one terminal to another in Dallas, when my cell phone rang.

It was my wife. I had been on an American Airlines flight heading for L.A., after all — and at that time, not much else was known about the first plane that struck the World Trade Center. I thought she had to be misunderstanding what she had seen on TV. Would that she had…

That day, when family and friends were so dear and precious to us all, I spent in a hotel room in Dallas. It was perhaps the longest day — and loneliest night — of my life. In fact, I was to spend the next several days in Dallas — there were no planes flying, no rental cars to be had — separated from home and family by hundreds of insurmountable miles for three interminably long days. As that week drew to a close, I finally was able to get a rental car and begin a long two-day journey home. While it was a long, lonely drive, it gave me a lot of time to think, though most of that drive was a blur, just mile after endless mile of open road.

There was, however, one incident I will never forget. Somewhere in the middle of Arkansas, a group of Hell’s Angels bikers was coming up around me. A particularly scruffy looking guy with a long beard led the pack on a big bike — rough looking. But unfurled behind him on the bike was an enormous American flag. At that moment, for the first time in 72 hours, I felt a sense of peace — the comfort you feel inside when you know you are going home.

Fifteen years later, I can still feel that ache of being separated from those I love — and yet still remember the warmth I felt when I saw that biker gang drive by me flying our nation’s flag. On not a few mornings since that awful day, I’ve thought about how many went to work, how many boarded a plane, not realizing that they would not get to come home again. How many sacrificed their lives so that others could go home. How many still put their lives on the line every day, here and abroad, to help keep us and our loved ones safe.

We take a lot for granted in this life, nothing more cavalierly than that there will be a tomorrow to set the record straight, to right wrongs inflicted, to tell our loved ones just how precious they are. As we remember that most awful of days, and the loss of those no longer with us, let’s all take a moment to treasure what we have — and those we have to share it with still.


- Nevin E. Adams, JD

Saturday, September 10, 2016

An Educated ‘Guess’

It’s not hard to find scary headlines about 401(k)s – seems as though every week you read how people aren’t saving enough, are worried that they aren’t saving enough, aren’t saving enough and aren’t worried that they aren’t saving enough… Then in the past couple of weeks, a new twist.

First a headline that proclaims that “The 401(k) is Wreaking Havoc on Retirement.” Then one that purports to share “Why 401(k)s are bad for people without a college degree.” As it turns out, the articles are both about the same study, “Disadvantages of the Less Educated: Education and Contributory Pensions at Work.”

The authors of that study (ChangHwan Kim of the University of Kansas and Christopher Tamborini of the Social Security Administration) offer a basic premise – that less educated workers aren’t as well served as college graduates by the current defined contribution-centric plan structures (notably 401(k)s) that predominate the retirement landscape today – which is to say that they are less likely to be covered by those plans, less likely to take advantage when they are covered, and inclined to save less than their degreed counterparts even when they do take advantage.

They present evidence that less-educated workers save less, even when they make the same money as those with college educations. How much less? They say that college-educated people are 1.2 times more likely to be enrolled in a DC plan than high-school graduates are – and that’s even after controlling for income, access to a retirement plan, occupation, job tenure and other factors. Those with college degrees also contribute 26% more to their retirement, on average, according to the report.

But, not content to leave it there, they go on to suggest that less-educated workers were better off in a defined benefit structured environment where they didn’t have to make the decision to participate, and where they didn’t have to decide how much to save. (The most significant distinction – that in the private sector they generally didn’t have to contribute – isn’t mentioned.) Indeed, if the DB system had been as pervasive as many assume – or as generous in result as it was in design – they might have a point.

Wreaked Wrought?

But has that result – and the very existence of the 401(k) – truly “wreaked havoc” on the nation’s retirement system? In fairness, the authors of the study don’t make that claim – that’s left to the journalists looking for a catchy headline (or hoping to press a specific agenda). But those who retain this fond notion of the way things were tend to gloss over the reality that it’s one thing to be covered by, or even to participate in a DB plan, something else altogether to work there long enough to accumulate any real benefit. While some workers did spend their working career at a single employer (and some still do, especially in the public sector), the data show that for the most part we have long been a nation of relatively short-tenured workers.

How short? Well, the median job tenure in the United States has hovered around five years for the past three decades. Indeed, according to the nonpartisan Employee Benefit Research Institute (EBRI), in recent years it has ticked up, to about 5.5 years, but that’s because women are staying in their jobs longer; job tenure for men has actually been dropping. What that means is that even workers who were “covered” by a pension plan in the private sector – particularly back in the time before there weren’t 401(k)s – were highly likely to walk away with… nothing.

While I get that a system which relies on workers to take action, to make decisions and, yes, even to set money aside from their pay to fund their retirement, might not work as well for those who don’t take advantage of it as a system that asked nothing of them other than to remain employed, the realities of American job tenure probably undermined those advantages – and then some.

The less educated may indeed be at something of a disadvantage in a voluntary savings system relative to those who are more inclined to take advantage of its opportunities – but that shouldn’t be equated with a presumption that they were better served by a system that depended on job tenure levels that never existed for most.

- Nevin E. Adams, JD

Saturday, September 03, 2016

A Matter of Time

Preparing for retirement inevitably brings up questions of time: When will you retire? How long will your retirement last? How long do you have to prepare? Often we don’t take advantage of the time we have, and sometimes we don’t have the time we thought we would.

It was just five years ago this week that my wife and I, having just deposited my youngest off for his first semester of college, spent our drive home up the East Coast with Hurricane Irene (and the reports of her potential destruction and probable landfalls) close behind.

We arrived home, unloaded in record time, and went straight to the local hardware store to stock up for the coming storm. As you might imagine, we weren’t the only ones to do so. And what we had most hoped to acquire (a generator) was not to be found — there, or at that moment, apparently anywhere in the Nutmeg State.

What made that situation all the more infuriating was that, while the prospect of a hurricane landfall in Connecticut was relatively unique, we had, on several prior occasions, been without power, and for extended periods. After each I had told myself that we really needed to invest in a generator — but, as human beings are inclined to do, thinking that I had plenty of time to do so (and when it was more convenient), I simply (and repeatedly) postponed taking action.

That uncertainty came home in a very different way to me this past week, with word of the passing of a colleague, just 55. She had spoken of retiring “early” so as to be able to spend more time with her young daughter — hoping to catch up on some of the family time she had perhaps missed due to the obligations of a professional career, or maybe just doing some of the relaxing and travelling that always seem to fall prey to the pressures of everyday life. Tragically, while riding her bike, of all things, this dear lady — a two-time cancer survivor — was struck and killed by a car.

We never know how much time we’ll have — to work, to live, to save, to prepare for the time we have left, to say and do the things we always mean to say and do.

Ultimately, of course, what matters isn’t the time you have, it’s what you do with it.

- Nevin E. Adams, JD

Saturday, August 27, 2016

How the Class of 2020’s Retirement Plans Will Be Different

Each year the good folks at Beloit College produce a “Mindset List” providing a look at the cultural touchstones that shape the lives of students about to enter college. So, in what ways will their retirement plans differ from those of their parents?

In the most recent list (they’ve been doing it since 1998), the Beloit Mindset List notes that for the class of 2020 (among other things):
  • There has always been a digital swap meet called eBay.
  • They never heard Harry Caray try to sing during the seventh inning at Wrigley Field.
  • Vladimir Putin has always been calling the shots at the Kremlin.
  • Elian Gonzalez, who would like to visit the U.S. again someday, has always been back in Cuba.
  • The Ali/Frazier boxing match for their generation was between the daughters of Muhammad and Joe.
  • NFL coaches have always had the opportunity to throw a red flag and question the ref.
  • Snowboarding has always been an Olympic sport.
  • John Elway and Wayne Gretzky have always been retired.
So, what about their retirement plans? Well, for the Class of 2020:
  • There have always been 401(k)s.
  • They’ve always had a Roth option available to them (401(k) or IRA).
  • They’ve always worried that Social Security wouldn’t be available to pay benefits (in that, they’re much like their parents at their age).
  • They’ve always had a call center to reach out to with questions about their retirement plan.
  • They’ve never had to wait to be eligible to start saving in their 401(k) (their parents generally had to wait a year).
  • They’ve never had to sign up for their 401(k) plan (their 401(k) automatically enrolls new hires).
  • They’ve never had to make an investment choice in their 401(k) plan (their 401(k) has long had a QDIA default option).
  • They’ve always had fee information available to them on their 401(k) statement (it remains to be seen if they’ll understand it any better than their parents).
  • They’ve always known what their 401(k) balance would equal in monthly installment payments.
  • They’ve always had an advisor available to answer their questions.
Most importantly, they’ll have the advantage of time, a full career to save and build, to save at higher rates, and to invest more efficiently and effectively.

- Nevin E. Adams, JD