Saturday, September 23, 2017

"Checks" and Balances

In about a month, the IRS will announce the new contribution and benefit limits for 2018 – and that could be good news even for those who don’t bump against those thresholds.

These are limits that are adjusted for inflation, after all – designed to help retirement savings (and benefits) keep pace with increases in the cost of living. In other words, if today you could only defer on a pre-tax basis that same $7,000 that highly compensated workers were permitted in 1986 – well, let’s just say that you’d lose a lot of purchasing power in retirement.

But since industry surveys suggest that “only” about 9%-12% currently contribute to the maximum levels, one might well wonder if raising the current limits matters. Indeed, one of the comments you hear frequently from those who want to do away with the current retirement system is that the tax incentives for 401(k)s are “upside down,” that they go primarily to those at higher income levels, who perhaps don’t need the encouragement to save. Certainly from a pure financial economics perspective, those who pay taxes at higher rates might reasonably be seen as receiving a greater benefit from the deferral of those taxes.

Drawing on the actual account balance data from the EBRI/ICI 401(k) database, and specifically focusing on workers in their 60s (broken down by tenure and salary), the nonpartisan Employee Benefit Research Institute has found that those ratios were relatively steady. In fact, those ratios are relatively flat for salaries between $30,000 and $100,000, before dropping substantially for those with salaries in excess of $100,000. (See chart.) In other words, while higher-income individuals have higher account balances, those balances are in rough proportion to their incomes – and not “upside down.”

And yet, according to Vanguard’s How America Saves 2017, only about a third of workers making more than $100,000 a year maxed out their contributions. If these limits and incentives work only to the advantage of the rich, why aren’t more maxing out?

Arguably, what keeps these potential disparities in check is the series of limits and nondiscrimination test requirements: the boundaries established by Internal Revenue Code Sections 402(g) and 415(c), combined with ADP and ACP nondiscrimination tests. Those plan constraints were, of course, specifically designed (and refined) over time to do just that – to maintain a certain parity between highly compensated and non-highly compensated workers in the benefits available from these programs. The data suggest they are having exactly that impact.

Those who look only at the external contribution dollar limits of the current tax incentives generally gloss over the reality of the benefit/contribution limits and nondiscrimination test requirements at play inside the plan – and yet surely those limits are working to “bound in” the contributions of individuals who would surely like to put more aside, if the combination of laws and limits allowed.

One need only look back to the impact that the Tax Reform Act of 1986 had on retirement plan formation following the imposition of strict and significantly lower contribution limits – as well as a dramatic reduction in the rate of cost-of-living adjustments to those limits – to appreciate the relief that came in 2001 with EGTRRA.

Anyone who has ever had a conversation with a business owner – particularly a small business owner – about establishing or maintaining a workplace retirement plan knows how important it is that those decision-makers have “skin in the game.”

While we don’t yet know what the limits for 2018 will be, gradually increasing the limits of these programs to keep pace with inflation helps assure that these programs will be retained and supported by those who, as a result, continue to have a shared interest in their success.

And that’s good news for all of us.

- Nevin E. Adams, JD

Saturday, September 16, 2017

Are You (Just) a Retirement Plan Monitor?

A recent ad campaign focuses on the distinction between identifying a problem and actually doing something about it.

In one version a so-called “dental monitor” tells a concerned patient that he has “one of the worst cavities that I’ve ever seen” before heading out to lunch, leaving that cavity unattended. Another features a “security monitor” who looks like a bank guard, but only notifies people when there is a robbery.

As an industry, we have long worried about the plight of the average retirement plan participant, who doesn’t know much (if anything) about investing, who doesn’t have time to deal with issues about their retirement investments, and who, perhaps as a result, would really just prefer that someone else take care of it.

What gets less attention — but is just as real a phenomenon — is how many plan sponsors don’t know anything about investments, don’t have time to deal with issues about their retirement plan investments, and who, perhaps as a result, would — yes, also really just prefer that someone else take care of it.

Of course, if many plan sponsors lack the expertise (or time) to prudently construct such a plan menu, one might well wonder at their acumen at choosing an advisor to do so, particularly when you consider that surveys routinely show that plan sponsors choose an advisor primarily based on the quality of the advice they provide. One can’t help but wonder how that advice is quantified (certainly not in the same way that investment funds can be), and doubtless, that helps explain why so many advisors are (apparently) hired not on what they know, but on who they know.

But for many plan fiduciaries, the obstacle to hiring a retirement plan advisor is financial, not intellectual. Particularly for a plan sponsor who has not previously employed those services — or, more ominously, in the case of one who has hired an advisor that didn’t hold up their end of the bargain — the additional costs of hiring an advisor can be problematic. The question asked of a prospective advisor may be, “Why should I hire you?” But one can well imagine that the question that is often unarticulated, and perhaps the real heart of the matter is, “Why should I pay you (that much)?”

There are ways, of course, to quantify the value of those services, ways that quantify not only what that advisor is worth, but why those fees are what they are. Some advisors promote their services as a shield against litigation, or at least some kind of buffer against the financial impact of such an event, but in my experience, while most employers are glad to get/take the “warranty” (implied or explicit), they often aren’t willing to pay very much extra for it.

In the most obvious case, you can walk in and demonstrate the ability to save a plan money by upgrades to the menu, a change in providers, or perhaps even a better negotiation of the current arrangement. That’s clearly added value, and value that is readily measured (though it has a finite shelf life). Assuming, of course, that the plan sponsor is ready, willing (and in some cases, able) to act on those recommendations.

Indeed, most of the attempts to affix a value to having an advisor tend to focus on investment returns or cost savings for the plan. Both are valid, objective measures that can have a real, substantive impact on retirement security for participants, and fiduciary peace of mind for the plan sponsor.

Similarly, the ability to increase plan levels of participation, deferral, and investment diversification also adds value — quantifiable value, particularly measured against goals and an action plan for achieving them that is clearly articulated, and updated, up front. Ultimately, it’s about more than identifying issues and problems, it’s about having a plan for the plan, and being willing to be an agent for change in pursuit of it.

The “monitor” ad closes with the admonition, “Why monitor a problem if you don’t fix it?”
Indeed.

- Nevin E. Adams, JD

See also: “The Value of Good Advice.”

Saturday, September 09, 2017

A "Real Life" Example

In addition to the books, reference guides, and a few personal “knick knacks,” I have for years had in my office a couple of model cars – but not for the reason people generally think.

These models happen to be Studebakers (a 1950 Champion, a 1953 Starliner and a 1963 Avanti). I’d wager that a majority of Americans have never even heard of a Studebaker, and the notion that a major U.S. automobile maker once operated out of South Bend, Indiana would likely come as a surprise to most. I keep them in my office not because I have an appreciation for classic cars (though I do), but because of the role the automaker played in ERISA’s formation.

Born into a wagon-making family, the Studebaker brothers (there were five of them) went from being blacksmiths in the 1850s to making parts for wagons, to making wheelbarrows (that were in great demand during the 1849 Gold Rush) to building wagons used by the Union Army during the Civil War, before turning to making cars (first electric, then gasoline) after the turn of the century. Indeed, they had a good, long run making automobiles that were generally well regarded for their quality and reliability (their finances, not so much) until a combination of factors (including, ironically, pension funding) resulted in the cessation of production at the South Bend plant on Dec. 20, 1963. Shortly thereafter Studebaker terminated its retirement plan for hourly workers, and the plan defaulted on its obligations.

At the time, the plan covered roughly 10,500 workers, 3,600 of whom had already retired and who – despite the stories you sometimes hear about Studebaker – received their full benefits when the plan was terminated. However, some 4,000 workers between the ages of 40 and 59 – didn’t. They only got about 15 cents for each dollar of benefit they had been promised, though the average age of this group of workers was 52 years with an average of 23 years of service (another 2,900 employees, who all had less than 10 years of service, received nothing).

ERISA did not create pensions, of course; they existed in significant numbers prior to 1974, as the workers at Studebaker surely knew (they certainly had reason to – Studebaker-Packard had terminated the retirement plan for employees of the former Packard Motor Car company in 1958, and they got even less than the Studebaker workers wound up with in 1964). But armed with the real life example of those Studebaker pensions, highlighting what had been a growing concern about the default risk of private sector plans (public sector programs weren’t seen as being vulnerable to the same risk at that time) – well, it may have been a decade before ERISA was to become a reality, but the example of Studebaker’s pensions provided a powerful and on-going “real life” reminder of the need for reform.

Has ERISA “worked”? Well, in signing that legislation – 43 years ago this past weekend – President Ford noted that from 1960 to 1970, private pension coverage increased from 21.2 million employees to approximately 30 million workers, while during that same period, assets of these private plans increased from $52 billion to $138 billion, acknowledging that “[i]t will not be long before such assets become the largest source of capital in our economy.” His words were prophetic; today that system has grown to exceed $17 trillion, covering more than 85 million workers in more than 700,000 plans.

The composition of the plans, like the composition of the workforce those plans cover, has changed considerably over time, as has ERISA’s original framework. Today much is made about the shortcomings in coverage and protections of the current system, the projections of multitrillion-dollar shortfalls of retirement income, the pining for the “good old days” when everyone had a pension (that never really existed for most), the reality is that ERISA – and its progeny – have unquestionably allowed more Americans to be better financially prepared for retirement than ever before.

It’s a real life example I think about every time I look at those model cars – and every time I have the opportunity to explain the story behind them.

- Nevin E. Adams, JD

Saturday, September 02, 2017

Storm "Warnings"

Watching the incredible, heart-rending coverage this past weekend of Hurricane Harvey’s devastation, I was reminded of a personal experience with nature’s fury.

It was 2011, and we had just deposited our youngest off for his first semester of college, stopped off long enough in Washington, DC to visit our daughters (both in college there at the time), and then sped home up the East Coast with reports of Hurricane Irene’s potential destruction and probable landfall(s) close behind. We arrived home, unloaded in record time, and rushed straight to the local hardware store to stock up for the coming storm.

We weren’t the only ones to do so, of course. And what we had most hoped to acquire (a generator) was not to be found – there, or at that moment, apparently anywhere in the state.
What made that situation all the more infuriating was that, while the prospect of a hurricane landfall near our Connecticut home was relatively rare, we’d already had one narrow miss with an earlier hurricane and 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, and reasoning that I had plenty of time to do so when it was more convenient, I simply (and repeatedly) postponed taking action. Thankfully my dear wife wasn’t inclined to remind me of those opportunities, but they loomed large in my mind.

Retirement Ratings?

People often talk about the retirement crisis in this country, but like a tropical storm still well out to sea, there are widely varying assessments as to just how big it is, and – to borrow some hurricane terminology – when it will make “landfall,” and with what force.

Most of the predictions are dire, of course – and while they often rely on arguably unreliable measures like uninformed levels of confidence (or lack thereof), self-reported financials and savings averages – it’s hard to escape a pervasive sense that as a nation we’re in for some rough weather, particularly in view of objective data like coverage statistics and retirement readiness projections based on actual participant data.

Indeed, in a recent op-ed in the Wall Street Journal, Andrew Biggs, Resident Scholar at the American Enterprise Institute offers what is certainly a contrarian perspective these days: assuring President Trump (and us) that there is no retirement crisis (subscription required), at least not a “looming” one. And yet his point is basically little more than things are better than many would have us believe, based largely on data that indicates things are better now than they were before we worried about such things. Biggs, who previously testified before Congress that the use of the term “crisis” to describe the current situation was an “overblown non-solution to a non-crisis,” maintained that 75% of today’s retirees are “doing well,” and that Boomers are having a better retirement than their parents, who ostensibly lived during the “golden age” of pensions.

Another reassuring perspective was published earlier this year by the Investment Company Institute’s Peter J. Brady & Steven Bass, and Jessica Holland & Kevin Pierce of the Internal Revenue Service – who found, based on IRS tax filings, that most individuals were able to maintain their inflation‐adjusted net work‐related income after claiming Social Security. Not exactly an affirmation that the income was enough to sustain retirement expenses, but at least it showed that individuals were maintaining (and most improving upon) their pre-retirement income levels, at least for a three-year period into retirement.

Life is full of uncertainty, and events and circumstances, as often as not, happen with little if any warning. Even though hurricanes are something you can see coming a long way off, there’s always the chance that they will peter out sooner than expected, that landfall will result in a dramatic shift in course and/or intensity, or that, as with Hurricane Katrina – and apparently Harvey – the most devastating impact is what happens afterward. In theory, at least, that provides time to prepare – but, as I was reminded when Irene struck, sometimes you don’t have as much time as you think you have.1

Doubtless, a lot of retirement plan participants are going to look back at their working lives as they near the threshold of retirement, the same way I thought about that generator. They’ll likely remember the admonitions about (and their good intentions to) saving sooner, saving more, and the importance of regular, prudent reallocations of investment portfolios. Thankfully – and surely because of the hard work of advisors and plan sponsors – many will have heeded those warnings in time. But others, surely – and particularly those without access to a retirement plan at work – will find those post-retirement years (if indeed they can retire) to be a time of regret.

Those who work with individuals trying to make those preparations know that the end of our working lives inevitably hits different people at different times, and in different states of readiness.
But we all know that it’s a “landfall” for which we need to prepare while time remains to do so.

- Nevin E. Adams, JD

Footnote
  1. As it turned out, we got lucky. An apparently random and unexpected delivery of generators happened at our local hardware store where my wife had only hoped to be able to stock up on batteries. We got it home, and in record time learned enough to run it, managed to get in a supply of gasoline (before the pumps and cash registers ran out of juice), got our windows covered with plywood, and hunkered down for what still feels like the longest night of my life.

Saturday, August 19, 2017

Hypothetically Speaking

A new academic study offers some insights on taxpayer preferences for pre-tax versus Roth savings – at least in certain conditions.

The study – which carries the somewhat unwieldy title “The Relative Effects of Economic and Non-Economic Factors on Taxpayers’ Preferences Between Front-Loaded and Back-Loaded Retirement Savings Plans” – takes a look at the various factors influencing preferences for paying taxes “up front” on retirement savings (this is termed “back-loaded by the researchers, in that the tax advantages come in retirement) versus pre-tax treatment as with a 401(k).

Writ large, and pretty much across the board, the researchers – Andrew D. Cuccia, associate professor and a Grant Thornton faculty fellow at the University of Oklahoma, and Marcus M. Doxey and Shane R. Stinson, both assistant professors at the University of Alabama – found that individuals preferred Roth (back-loaded) – even in circumstances in which they thought a rational determination would favor a pre-tax option.

“Consistent with prior research, our results suggest that individuals, on average, do not respond rationally to the relative economic incentives associated with alternatively structured plans,” they wrote. And while “at least part” of the “failure to connect relative tax rates – those paid now versus those in the future – was attributed to “a lack of awareness and/or understanding,” the researchers found individuals largely reluctant to embrace the pre-tax approach, even when education specifically designed to help frame that understanding was employed. Or, as the researchers explained, “… although errors can be reduced with increased awareness, our evidence illustrates that individuals systematically incorporate non-economic factors into their retirement plan choices, often leading to a preference for [pre-tax deferrals] even when such a choice is economically adverse.”

The researchers determined that “participants do not incorporate expected tax rate changes into their plan choice without an explicit explanation of the impact tax rate changes have on relative after-tax returns,” and “even when participants were educated about the tax rate change-return relation, 49% who reported that they expected their tax rates to be lower in retirement nonetheless elected to make their contributions to a back-loaded (Roth) plan.”

Now, in fairness the research wasn’t based on actual administrative data – rather they constructed several scenarios to test responses to various factors, and ran a group of online survey respondents through those scenarios to evaluate and weigh those responses. So, it was basically asking individuals about their (hypothetical) response to a variety of conditions regarding (hypothetical) tax rates, market conditions, as well as non-economic attitudes and preferences.

While they found a general preference for the back-loaded Roth accounts, they found “mixed evidence regarding whether individuals appropriately weight expected tax rate changes in their plan choices,” even though tax rates were seen as the primary factor driving the relative after-tax returns of front- and back-loaded plans. Indeed, the certainty of knowing the tax rate that would be paid, even if paid “now” seemed to outweigh the concerns associated with the uncertainty of future tax rates, though those who did expect to pay higher taxes in the future were – as one might expect – inclined toward the back-loaded (Roth) option.

If the researchers seemed puzzled about some of the preferences for the Roth option, they also found that a sense of urgency regarding saving for retirement was “positively associated” with savings rates, and that perhaps what they saw as “the current crisis in retirement preparedness” suggested to them that “current marketing and education campaigns are not sufficiently stoking investors’ sense of urgency.”

Those of us who work with retirement plans – and retirement plan participants – might not be quite so perplexed by the notion that individuals don’t always act in their financial best interest.  Additionally, while the researchers seemed to be quite thorough in outlining (and doubtless executing) their test scenarios, it is arguably one thing in a “laboratory environment” to make a choice with someone else’s money, and perhaps something else again to make those same choices with your own retirement savings.

Still, those concerned about a negative response by participants to the imposition of a Roth choice, might find some comfort in these findings.

Hypothetically speaking, of course.

- Nevin E. Adams, JD

Saturday, August 12, 2017

Pay Me Now, or Pay Me Later

Many years ago, there was a commercial (for car oil filters, as I recall) that cautioned, “You can pay me now, or pay me later” – in other words, spend a little now on an oil filter, or pay lots later on to fix the damage done by not doing so. It’s a mantra that I’ve heard employed to encourage retirement savings – but these days it might have a new twist.

We now have a second survey of plan sponsors expressing concern about the impact that switch from the current pre-tax preferences accorded 401(k)s would have on participation.

That member survey by the Committee on Investment of Employee Benefit Assets (CIEBA) found that 78% of the 61 member respondents believed that a switch to an all-Roth system would negatively affect participation rates in their 401(k) plans. In that sense, it roughly mirrored the findings of a survey by the Plan Sponsor Council of America (PSCA) which found that more than three-quarters of the 443 employer respondents to the survey said they strongly agreed with the statement that eliminating or reducing the pre-tax benefits of 401(k) or 403(b) retirement savings plans would discourage employee savings in workplace retirement plans.1

While at least two other employer surveys are reportedly in the field and/or pending release, we (still) don’t know how participants will actually respond. However, it doesn’t require a massive leap of imagination to think that there might be a negative response of some magnitude to the federal government “taking away” the benefit of saving on a pre-tax basis that is, after all, what Section 401(k) of the Internal Revenue Code was all about.

Roth Rising?

Ironically, we find ourselves at a time when the availability of the Roth option in plans is at an all-time high, when providers like T. Rowe Price note that they have seen the biggest one-year increase in Roth contribution offerings in its clients’ 401(k) plans in 2016 – 61% of the plans for which it provides recordkeeping services – while Vanguard notes that two-thirds of the plans it recordkeeps now offer the feature, compared with 49% as recently as 2012.

Now, I realize that there is a difference between having the opportunity to contribute on a Roth basis, and having no option but to contribute on that basis. I’ve no doubt that there are individuals living paycheck-to-paycheck who would find the loss of the here-and-now tax preference to be a hardship. Individuals who, confronted with a Roth mandate, might indeed reduce their retirement savings in order to put food on the table, pay the rent, or put gas in the car so they can get to work.

Those concerns aren’t new, of course. For years they were – and in many cases still are – invoked as reasons to go slow, or go “low” on embracing automatic enrollment. Real as they may be, we also know what that means for retirement security.

Indeed, the surveys that have asked individuals about tax preferences – to the extent they are specific at all – nearly always focus on one particular aspect: deferring current taxes on contributions. The Roth advantages of not paying taxes on the accumulated earnings and the freedom from being forced to take RMDs aren’t even mentioned. Nor do most discussions about post-retirement drawdowns acknowledge that some large chunk of those retirement savings will be due Uncle Sam.

That said, it’s not as though the Roth doesn’t have its own set of tax preferences – and the closer one gets to retirement, the better they look. The odds that tax rates in retirement will be lower, particularly for younger workers, these days seems a quaint notion. Not surprisingly, Vanguard notes that nearly a third (30%) of Roth participants in Vanguard plans were in the age cohort of 34 or younger – and that’s without being defaulted in that direction.

Don’t get me wrong – like most of us, I’d rather have the choice than not. Nor would I diminish the communication challenge ahead if the long-standing 401(k) pre-tax preferences were capped or eliminated.

But of late, every time I see one of those reports about the average 401(k) account balances of those in their 60s, I can’t help but think that somewhere between 15% and 30%, and perhaps more, won’t go toward financing retirement, but will instead go to Uncle Sam and his state and municipal counterparts. And on a frequency dictated by the required minimum distribution schedules of the IRS.

And I can’t help but wonder how many plans for retirement don’t factor in that tax “cut.”

Nevin E. Adams, JD
  1.  I draw comfort from the findings in both surveys that very few employers indicate that they would discontinue or diminish their current programs if a shift, full or partial, to Roth would occur.

Saturday, July 29, 2017

Why Your Recordkeeper Might Not Be an Automatic Enrollment Fan

I recently wrote about what’s wrong with automatic enrollment. Turns out there’s more – and it has to do with when things actually go “wrong” with automatic enrollment.

See, it’s one thing to say that eligible employees should be automatically enrolled – and yet another to actually get them enrolled automatically. Even the Internal Revenue Service (IRS) goes so far as to acknowledge that two common errors found in 401(k) plans are: (1) not giving an eligible employee the opportunity to make elective contributions; and (2) failing to execute an employee’s salary deferral election.

Now, as it turns out, both are “fixable” – through the Employee Plans Compliance Resolution System (EPCRS). But that’s only the start of things. See, in both of those situations you’re looking at a corrective contribution of 50% of the missed deferral (adjusted for earnings) for the affected employee. And then fully vesting the employee in those contributions – contributions that are subject to the same restrictions on withdrawal that apply to elective deferrals.

The only difference in the correction for the two situations outlined is the calculation of the amount of the missed deferral. In the case of an erroneously excluded employee, the missed deferral is based on the average of the deferral percentages (ADPs) for other employees in the employee’s category (for example, non-highly compensated employees), whereas if the error involves failing to implement an employee’s election, the missed deferral is based on the employee’s elected deferral percentage, or in the case of missed automatic contributions, the automatic contribution percentage. For plans with automatic contributions, however, the corrective contribution for the missed deferrals is reduced to 0% or 25% of the missed deferrals, depending upon how soon the error is corrected.

Your head starting to hurt?

Hold on – those corrective contributions also need to be adjusted for earnings – from the date that the elective deferrals should have been made through the date of the corrective contribution.1 In all cases the employer must contribute any missed matching contributions, adjusted for earnings.

‘Tell’ Tales

Now, in addition to the regular array of plan notices that will now be required for those new participants, automatic enrollment has its own special set of notices. While most larger plans rely on what is called an eligible automatic contribution arrangement (EACA), smaller programs may have in place what is called a qualified automatic contribution arrangement (QACA), a type of automatic enrollment 401(k) plan that automatically passes certain kinds of annual required testing (generally referred to as a safe harbor plan). A QACA must include certain features, such as a fixed schedule of automatic employee contributions, employer contributions, a special vesting schedule and specific notice requirements.

The automatic enrollment notice details the plan’s automatic enrollment process and participant rights. The notice must specify the deferral percentage, the participant’s right to change that percentage or not to make automatic contributions, and the default investment. The participant generally must receive the initial notice at least 30 days, but not more than 90 days, before eligibility to participate in the plan or the first investment. Subject to certain conditions, the notice may be provided, and an employee may be enrolled in the plan, on the first day of work. An annual notice must be provided to participants and all eligible employees at least 30 days, but not more than 90 days, prior to the beginning of each subsequent plan year. And guess what happens if those notices don’t go out when they are supposed to?

So, it’s not as though you just have to flip a switch on payroll and you’re done.

Even When It Works

There are, of course, issues, even if there are no processing missteps. Cost, particularly as it relates to the match – which may have been designed to encourage workers to sign up, and which, with automatic enrollment, may no longer need to – and which may have been budgeted for a 70% participation rate that, thanks to automatic enrollment, may be more like 95%. Turnover can leave behind smaller 401(k) balances, which incur additional recordkeeping costs, and which can prove to be a real administrative burden with ongoing notice and communication requirements. Which again, if those notices aren’t going out when they should…

The bottom line is that automatic enrollment is an important component of helping more Americans save, and save effectively. But as is often the case, it’s not as easy as it sounds, and plan sponsors looking to embrace this design – and advisors who tout it – should do so with a full awareness and appreciation of all the implications.

For some other issues, see “Why Doesn’t Every Plan Have Automatic Enrollment?

Nevin E. Adams, JD
  1. Not that that’s not an improvement from how it used to be. Under Rev. Proc. 2015-28, if the error is detected within 9½ months after the year of the failure, no corrective qualified non-elective contribution (QNEC) is required to an affected participant’s account for the missed deferral opportunity, as long as the person is enrolled within the 9½ month period (or earlier if the affected employee notifies the employer of the mistake).

Saturday, July 22, 2017

Are SDBAs the Next Litigation Target?

Back in the 1990s, the ability to support a self-directed brokerage account (SDBA) capability was a widely utilized means of winnowing the field in a 401(k) search, and more recently, the option seemed to hold promise as a foil for excess fee litigation charges. But that could be changing.

The SDBA option allowed participants to make investment choices outside the standard retirement plan menu – a big deal at a time when you could count the number of choices on two hands. Vanguard’s 2017 “How America Saves” report notes that one in six (17%) plans offer the SDBA option, though nearly a third (30%) of plans with more than 5,000 participants do. And while this amounts to nearly 3 in 10 Vanguard participants having access to the option, only 1% of these participants used the feature in 2016, and in those plans, only about 2% of plan assets were invested in the SDBA feature that year. PLANSPONSOR’s 2017 DC Survey pretty well mirrors those findings: 18.7% of plan sponsor respondents have the option, with nearly half of plans with more than $1 billion in assets choosing to do so.

Of course, with SDBAs, it has never been about how many used the option, but who – and for the very most part, the option has its greatest appeal among those whose balances (or financial acumen, real or perceived) calls for it, particularly among closely held small businesses and professional practices, such as lawyers and doctors.

Fee Litigation

In the early days of the so-called excessive fee litigation, at least one court (the 7th Circuit, in Hecker v. Deere) found compelling the notion that the existence of the SDBA gave participants access to a sufficient variety of reasonably priced funds to refute excessive fee claims against a plan that had a “regular” fund menu comprised of nothing by the proprietary funds of its recordkeeper.

However, and while it hasn’t been a primary focus of recent litigation, several of the more recent suits do raise concerns with the existence of the SDBA, but more importantly, how it was managed.

About a year ago, in a suit brought by American Century participants against their own plan, the plaintiffs took issue with how the SDBA was administered, and while they acknowledged that usage of the SDBA is higher within than industry statistics would suggest, they went on to state that that result was “no doubt due to Defendants’ imprudence and self-dealing” (less than 7% of the plan’s assets are held in SDBAs).

In a 2015 suit involving PIMCO, the plaintiffs argued that “…those who choose to utilize an SDBA are typically assessed an account fee and a fee for each trade” — fees that they said “often make an SDBA a much more expensive option compared to investing in the core options available within the Plan.” Additionally, they claimed that because “employees investing in mutual funds within an SDBA must invest in retail mutual funds, rather than the lower-cost institutional shares typically available as core investment options,” those who do use the option again pay higher fees.

And then, just this year, in a suit brought against Schwab, the participant-plaintiffs charged that not only that Schwab received revenue sharing payments from third-party ETF and mutual fund providers whose funds were made available to via the platform, but that the SDBA’s “byzantine complexity and confusing schedule of fees alone make it inadvisable for all but the most sophisticated of investors.” The plaintiffs framed the availability of the option to all participants (rather than just more sophisticated participants) as an issue, and charged that Schwab made no effort to determine: (a) if the SDBA was a prudent option at all, or (b) if another provider’s SDBA might have been better.

All of which should remind us that plan fiduciaries have a responsibility to carefully select and monitor their SDBA provider and these services. That could include:
  • the qualifications and qualify of the provider;
  • the reasonableness of the fees; and
  • the security of the account and stability of the provider.
And just like any provider of services to a qualified plan, if the brokerage window can’t be prudently selected, the plan should not offer that window.

Something on which the plaintiffs’ bar now seems to be focusing.

- Nevin E. Adams, JD

Saturday, July 15, 2017

What’s Wrong with Automatic Enrollment?

Automatic enrollment has long been touted – and proven – to be an effective way to overcome retirement savings inertia in 401(k) plans. But these days automatic enrollment plan design seems to be suffering from its own inertia.

For all the good press and positive results that automatic enrollment gets, one might well expect that every plan would embrace it. And yet today, nearly a decade after the passage of the Pension Protection Act, many still don’t. What’s wrong with automatic enrollment?

Everybody doesn’t do it.

Only the most na├»ve industry professional ever assumed that the Pension Protection Act of 2006, even with all its incentives and encouragement (and not a few barrier removals) would transform a voluntary savings system into something that all employers everywhere would feel comfortable – or would be able to afford – automatically enrolling every eligible worker.

And yet, more than a decade later, only about two-thirds of the largest employers have embraced automatic enrollment – and only about a quarter of the smallest programs, according to PLANSPONSOR’s 2017 DC survey. Oh, you see numbers that suggest the adoption rate is higher, but those surveys tend to skewer toward larger programs, where – as the numbers above indicate – automatic enrollment is much more common.

There are legitimate concerns, mind you. Anecdotally many plan sponsors – particularly small plan sponsors – are simply unwilling to impose another financial “draw” on their workers’ paychecks, and most will tell you that they have had those “you need to participate” conversations with their workers, only to have them decline. Moreover, the costs of an employer match when you’re talking about taking participation from a 70% (or thereabouts) level to 95% or higher can be significant.

For those who worry that a higher default would trigger a higher rate of opt-outs, surveys indicate that the “stick” rate with a 6% default is largely identical to 3%.

On the workforce management front, it’s worth noting that there are surveys that show that American workers are increasingly delaying retirement (or think they will be able to) due to concerns about retirement finances. Delayed retirements may also reduce the employer’s ability to hire new employees, reducing the flow of new ideas and talent into the organization.

But even when the plan includes automatic enrollment…

There’s a fault with the default.

While you see surveys suggesting that a greater variety of default contribution rates is emerging, the most common rate today – as it was prior to the PPA – is 3%. There is some interesting history on how that 3% rate originally came to be, but the reality today is that it has been chosen because it is seen as a rate that is small enough that participants won’t be willing to go in and opt-out – and, after the PPA, we have some law to sanction that as a target.

That said, nobody thinks 3% will be “enough” – neither to maximize the employer match in most plans, nor certainly to allow workers to accumulate sufficient funds for retirement. That wouldn’t be so bad – it’s a starting point, after all – except that…

The contribution rate is set – and never “reset.”

The authors of PPA’s automatic enrollment safe harbor knew that the 3% default wouldn’t be “enough,” and they had the wisdom to include a provision that called for an automatic “escalation” of that contribution rate – 1% a year (though, weirdly, they included a cap of 10% in the law). Plan sponsors – for many of the reasons that have slowed the adoption of automatic enrollment – have been even slower to embrace automatic escalation. The PLANSPONSOR DC Survey found that only about a third (35.7%) of the largest plan sponsors automatically escalate contributions unless the participant opts out (about the same amount allow the participants to choose to automatically escalate). However, once again smaller plan sponsors are significantly less likely to embrace this plan design.

But even then…

Only the newly hired are automatically enrolled.

For years now, the standard – even among employers who embrace automatic enrollment – is to extend it only to new hires – we’re talking only about a third of plans extend this to other than new hires. The rationale is that existing workers have had their opportunity – and in all likelihood many opportunities – to participate in the plan. Moreover, while the PPA doesn’t mandate going back to older workers, plan sponsors desirous of those safe harbor protections either have to, or have to be able to establish that they have.

Regardless of safe harbor concerns, it’s hard to imagine that plan sponsors who have cared enough to embrace automatic enrollment aren’t just as concerned about the retirement well-being of their more tenured workforce as they are about those recent hires.

However, even among the newly hired, some may have previously participated in another plan – and at a higher contribution rate. Automatically enrolling them certainly removes one of those “first day” new employee hassles – but may not be doing them any favors in terms of their retirement savings.
As with the default contribution rate, surveys have found positive movement on this front in recent years, particularly at the point of provider conversions (amongst a series of other plan changes).
Indeed, a small, but growing number of plans are…

Giving workers a second chance.

There’s a new-ish concept called reenrollment. Initially, it was a means by which plans could, at the point of conversion to a new platform, “reenroll” participants into a newly selected default investment fund, generally a balanced or target-date fund that had been chosen as the plan’s qualified default investment alternative, or QDIA (they were generally given time to opt-out of that decision before conversion). More recently, it has been expanded to basically treat all eligible non-participants as new hires – auto-enrolling them in the plan, and in some cases, reenrolling at the default rate if they happened to be contributing below that rate.

That said, this approach is not only new-ish, but not very common. Even among the largest plans (more than $1 billion in assets) responding to the PLANSPONSOR DC Survey, more than 86% don’t do any part of this.

There are, of course, good things with automatic enrollment, mostly that there are today many participants saving at 3% (and a match) who weren’t saving anything previously.

So, what’s wrong with automatic enrollment? Well, there are some participants who were auto-enrolled at 3% who would probably have enrolled at a higher rate, and some who change employers and are being auto-enrolled at a “start over” rate. In most cases the default contribution rate isn’t changed (by the employer, and certainly not by the participant), and auto-enrollment is still (mostly) limited to new hires.

What’s wrong with automatic enrollment? Nothing, once we remember that it’s (only) an effective starting point – and one that, like most good decisions, requires some follow-up.

- Nevin E. Adams, JD

See also, 3 Things You Should Know About Automatic Enrollment. And for some caveats on automatic enrollment, see Why the ‘Ideal’ Plan Isn’t.

Saturday, July 01, 2017

Fiduciary Lessons from the Founding Fathers

Anyone who has ever found their grand idea shackled to the deliberations of a committee, or who has had to kowtow to the sensibilities of a recalcitrant compliance department, can empathize with the process that produced the Declaration of Independence we’ll commemorate next week.

Indeed, there are any number of things that the experience of today’s investment/plan committees have in common with that of the forefathers who crafted and signed the document declaring our nation’s independence. Here are four:

It’s hard to break with the status quo.

By the time the Second Continental Congress convened in May of 1775, the “shot heard round the world” had already been fired at Lexington, but many of the 56 representatives there still held out hope for some kind of peaceful reconciliation, even as they authorized an army and placed George Washington at its helm. Little wonder that, even in the midst of hostilities, there was a strong inclination on the part of several key individuals to try and put things back the way they had been, to patch them over, rather than to declare independence and move into uncharted waters (not to mention taking on the world’s most accomplished military force).

As human beings we are largely predisposed to leaving things the way they are, rather than making abrupt and dramatic change. Whether this “inertia” comes from a fear of the unknown, a certain laziness about the extra work that might be required, or a sense that advocating change suggests an admission that there was something “wrong” before, it seems fair to say that plan sponsors are, in the absence of a compelling reason for change, inclined to rationalize staying put.

As a consequence, new fund options are often added, while old and unsatisfactory funds linger on the plan menu, there is a general reluctance to undertake an evaluation of long-standing providers in the absence of severe service issues, and committees often avoid adopting potentially disruptive plan features like automatic enrollment or deferral acceleration.

While many of the delegates to the Constitutional Convention were restricted by the entities that appointed them in terms of how they could vote, plan fiduciaries don’t have that “luxury.” Their decisions are bound to an obligation that those decisions be made solely in the best interests of plan participants and their beneficiaries – regardless of any other organizational or personal obligations they may have outside their committee role.

Selection of committee members is crucial.

The Second Continental Congress was comprised of representatives from what amounted to 13 different governments, with everything from extralegal conventions, ad hoc committees, and elected assemblies relied upon to name the delegates. Delegates who, despite the variety of assemblages that chose them, were in several key circumstances, bound in their voting by the instructions given to them. Needless to say, that made reaching consensus on the issues even more complicated than it might have been in “ordinary” circumstances (let’s face it – committee work is often the art of compromise).

Today the process of putting together an investment or plan committee runs the gamut – everything from simply extrapolating roles from an organization chart to a random assortment of individuals to a thoughtful consideration of individuals and their qualifications to act as a plan fiduciary. But if you want a good result, you need to have the right individuals – and if those individuals lack the requisite knowledge on a particular issue, they need to seek out that expertise from advisors who do.

It’s important to put it in writing.

While the Declaration of Independence technically had no legal effect, its impact not only on the establishment of the United States, but as a social and political inspiration for many throughout the world is unquestioned. Arguably putting that declaration – and the sentiments expressed – in writing gave it a force and influence far beyond its original purpose.

As for plan fiduciaries, there is an old ERISA adage that says, “prudence is process.” An updated version of that adage might be “prudence is process – but only if you can prove it.” To that end, a written record of the activities of plan committee(s) is an essential ingredient in validating not only the results, but also the thought process behind those deliberations. More significantly, those minutes can provide committee members – both past and future – with a sense of the environment at the time decisions were made, the alternatives presented and the rationale offered for each, as well as what those decisions were.

Committee members should understand their risks, as well as their responsibilities.

The men that gathered in Philadelphia that summer of 1776 to bring together a new nation came from all walks of life, but it seems fair to say that most had something to lose. True, many were merchants (some wealthy, including President of Congress John Hancock) already chafing under the tax burdens imposed by British rule, and perhaps they could see a day when their actions would accrue to their economic benefit. Still, they could hardly have undertaken that declaration of independence without a very real concern that in so doing they might well have signed their death warrants.

It’s not quite that serious for plan fiduciaries. However, as ERISA fiduciaries, they are personally liable, and may be required to restore any losses to the plan or to restore any profits gained through improper use of plan assets. And all fiduciaries have potential liability for the actions of their co-fiduciaries. So, it’s a good idea to know who your co-fiduciaries are – and to keep an eye on what they do, and are permitted to do.

Indeed, plan fiduciaries would be well advised to bear in mind something that Ben Franklin is said to have remarked during the deliberations in Philadelphia: “We must, indeed, all hang together or, most assuredly, we shall all hang separately.”

- Nevin E. Adams, JD

Saturday, June 17, 2017

What Plan Sponsors Want to Know About Financial Wellness

Several years back the concept of “wellness” crept into benefits planning. More recently, HR’s affinity for that wellness concept has been expanded upon by the concept of financial wellness. But as appealing as the notion is, a number of key questions linger.

With regard to wellness generally, the notion was simple: Rather than just treating the symptoms of poor health with insurance-funded trips to the doctor (or the hospital) after the damage was done, we’d get ahead of things by emphasizing healthy habit steps (smoking cessation, weight loss, etc.) programs that would reduce doctor bills (and insurance premiums).

As regards financial wellness, the notion is that bad financial health contributes to (and/or causes) a bevy of woes: stress, which can lead to things like lower productivity, bad health and higher absenteeism, and even a greater inclination toward workplace theft, not to mention deferred retirements by workers who tend to be higher salaried and who have higher health care costs.

But if the rationale is straightforward enough, and the interest somewhere between intrigued and highly committed, plan sponsors still have some questions that merit addressing.

What do you mean by ‘financial wellness’?

“Financial wellness” is a term widely bandied about these days, and by many different firms (and advisors). Unfortunately, it is a concept that is being applied somewhat inconsistently. I’ve heard stories of folks who affix it to practices that are little more than glorified enrollment meetings, to the simple inclusion of an “outcomes” analysis to the retirement plan report, to a full-blown series of workplace seminars on topics ranging from budgeting to estate planning.

So, the first question that needs to be answered is “What do you mean by financial wellness?”

What difference will it make?

The answer to the first question will, of course, have a great deal of bearing on this one. Naturally, the more modest the scope and scale, the less impact, but a lot depends on what issues the program attempts to address, not to mention the demographics (and overall financial well-being) of the workforce to which it is being applied.

Still, even if a comprehensive impact assessment can’t be completed without the collaboration of the plan sponsor, it’s important to be able to at least quantify an estimate of the potential impact(s), whether it be increased participation, improved deferral rates, or even just higher satisfaction with the program(s).

How long will it take/last?

Common sense suggests that financial wellness is a process, not an event, and one that, run well, may well run for some time following its introduction. Nonetheless, plan sponsors will, if not at the outset, at some point during the program, have some interest in knowing just how long until they can expect to see results.

How much will it cost?

Obviously, there will be a relationship between the nature and scope of the program and its cost. Anecdotally, there seems to be a fair amount of skepticism among plan sponsors – particularly on the HR side – of the cost-effectiveness of these programs. It is therefore worthy remembering that there is an “I” in ROI, and that plan sponsors will be interested in knowing what it is (or might be).

Who pays for it?

Once again, while the answer may well depend on the program envisioned, to the extent this represents new expenditures, how it will be paid for may well impact the scope and/or timing. Plan sponsors may be able to consider covering it out of general funds, but, depending on the nature of the program components, it might also be appropriate to consider tapping into health plan budgets, communications, or even retirement plan assets.

How will you measure success (or lack thereof)?

The good news is that ROI is increasingly the lead selling point in presenting these programs, and the “return” will almost certainly include some quantification, some combination of measurable deliverables. Of course, some of the deliverables of a financial wellness program are less quantifiable, but even in those situations, worker surveys can provide insights.

The bottom line is that a shared understanding and appreciation of the desired outcomes will go a long way toward achieving not only financial wellness – but customer relation wellness as well.

- Nevin E. Adams, JD

Saturday, May 06, 2017

5 Things People Get Wrong About Fidelity Bonds

One of the most important – and, in my experience, least understood – aspects of plan administration is the requirement that those who handle plan funds and other property be covered by a fidelity bond.

While ERISA requires the bond to protect the plan from losses resulting from acts of fraud or dishonesty, fiduciaries often confuse that coverage with insurance that is designed to protect them from liability.

Here are five things you (or your client) may not know about ERISA fidelity bonding – and that, as a result, they may be getting wrong.

An ERISA fidelity bond is not the same thing as fiduciary liability insurance.

The fidelity bond required under ERISA specifically insures a plan against losses due to fraud or dishonesty (e.g., theft) by persons who handle plan funds or property. Fiduciary liability insurance, on the other hand, insures fiduciaries, and in some cases the plan, against losses caused by breaches of fiduciary responsibilities.

Although many plan fiduciaries may be covered by fiduciary liability insurance, it is not required and does not satisfy the fidelity bonding required by ERISA.

You can’t get an ERISA bond from just anybody.

Bonds must be obtained from a surety or reinsurer that is named on the Department of the Treasury’s Listing of Approved Sureties, Department Circular 570. Under certain conditions, bonds may also be obtained from underwriters at Lloyds of London. Neither the plan nor any interested party may have any control or significant financial interest, either directly or indirectly, in the surety or reinsurer, or in an agent or broker, through which the bond is obtained.

Not every fiduciary needs to be bonded.

Most fiduciaries have roles and responsibilities that involve handling plan funds or other property, and generally will need to be covered by a fidelity bond (unless they satisfy one of the exemptions in ERISA or the DOL’s regulations. However, technically an ERISA fidelity bond would not be required for a fiduciary who does not handle funds or other property of an employee benefit plan.

The plan can pay for the bond out of plan assets.

The purpose of ERISA’s bonding requirements is to protect the plan, and those bonds do not protect the person handling plan funds or other property or relieve them from their obligations to the plan, so the plan’s purchase of the bond is allowed.

You can purchase a fidelity bond for more than the legally required amount.

However, note that whether a plan should spend plan assets to purchase a bond in an amount greater than that required by ERISA is a fiduciary decision.

You can find out more about this topic here.

- Nevin E. Adams, JD

Saturday, April 29, 2017

5 Things You May Not Know About Roth 401(k)s

I made the switch to Roth for my retirement savings years ago – and I have long counseled younger workers, who were likely paying the lowest tax rates of their working lives, to do so as well.

Pre-tax treatment has, of course, been the norm in 401(k) plans since their introduction in the early 1980s. On the other hand, the Roth 401(k) wasn’t introduced until the Economic Growth and Tax Relief Reconciliation Act of 2001, and even in that legislation wasn’t slated to become effective until 2006 (and at that time was still slated to sunset in 2010).

Despite that late start, according to a variety of industry surveys (Plan Sponsor Council of America, Vanguard, PLANSPONSOR), roughly 60% of 401(k) plans now offer a Roth 401(k) option, and PSCA data shows that 28.6% of 403(b) plans already allow for Roth contributions. Participant take-up, which just a few years ago hovered in the single digits, is now in the 15-20% range.

Here are five other things you may not know about the Roth 401(k):

To allow designated Roth contributions, a plan also has to offer traditional pre-tax 401(k) contributions. A plan can only offer designated Roth contributions if it also offers traditional, pre-tax elective contributions. Oh, and they can be offered by either a 401(k), 403(b) or 457 plan.

You can auto-enroll designated Roth contributions. The plan must state how the automatic contributions will be allocated between the pre-tax elective contributions and designated Roth contributions.

You can “catch up” on a Roth basis. Individuals can make age-50 catch-up contributions as a designated Roth contribution to a designated Roth account.

You have to include Roth contributions in the 401(k) plan annual nondiscrimination testing. Designated Roth contributions are treated the same as traditional, pre-tax elective contributions when performing annual nondiscrimination testing. Moreover, just like other elective deferral, they must be included when calculating the top-heavy ratio each year. You cannot allocate forfeitures, matching or any other employer contributions to any designated Roth accounts.

You can take loans from designated Roth accounts. As long as the plan permits, you can identify from which account(s) in your 401(k), 403(b) or governmental 457(b) plan you wish to draw your loan, including from a designated Roth account.

Retirement plan education has long had as a basic tenet that individuals will be paying lower tax rates in their retirement future. Of course, tax rates – and future income levels – are hard to predict. Both can rise more than anticipated in the future – and a Roth option can provide some essential flexibility to diversify tax treatment, as well as investments.

- Nevin E. Adams, JD

For more information, see Retirement Plans FAQs on Designated Roth Accounts from the IRS.

Saturday, April 22, 2017

Here We Go Again...

What were you doing in 1986?

It was a big year in my life. I got married, hit one of those birthdays with a zero in it, watched my-then hometown Chicago Bears dominate Super Bowl XX, and picked up and moved my new bride (and our menagerie) several hundred miles south to take on a new job heading up a recordkeeping operation.

Before the end of that year, that recordkeeping operation (and, thanks to a recent bank acquisition, the seven different platforms it was running on) would be struggling to understand, implement and communicate a wide array of sweeping changes associated with the Tax Reform Act of 1986. Even though it came during a period when tax code changes (ERTA, TEFRA, DEFRA, REA), were being thrown at us about every 18 months, on average, it’s still difficult to absorb the scope and breadth of the work it took to implement the changes that came with TRA 86.

For all the work that had to go into complying with the new regulatory regimen that came with TRA 86, its real impact would come in the years that followed, via the newly established 402(g) limit (back then we simply called it the $7,000 limit), not to mention the multiple iterations of the nondiscrimination testing that often produced problematic refunds for the highly compensated group. There’s little question that those changes (and others) did what they were designed to do – generate additional tax revenue in the here-and-now by limiting the deferral of taxes.

Yes, the talk is all about tax reform, but the motivation is generally tax cuts, and with a $20 trillion debt, Uncle Sam will need to find some way to offset the projected loss in revenue – and that’s where the tax incentives to establish, fund and contribute to a workplace retirement plan inevitably find themselves in the budgetary crosshairs.

While those paying attention to such things realize that most of those tax preferences are temporary – that is, taxes will be paid on those employer, pre-tax contributions and the earnings thereon when they are withdrawn – the government beancounters look at revenues and expenditures within a 10-year window, and since the payment of most retirement benefits occurs outside that window, the amount of taxes postponed looks, from a budgetary standpoint, to be taxes permanently foregone. And, on that basis, even though the retirement preferences are completely different from other tax deductions, from a budgetary scoring standpoint, it’s a big, juicy target.

We saw what that might mean as recently as 2014 when then-Chairman of the House Ways and Means Committee Rep. Dave Camp (R-Mich.) put forth a proposal that would pay for tax reform (or at least some of it) by freezing the COLA limits that apply to defined contribution plans for a decade and limiting the annual ceilings on elective deferrals so that only half could be made on pre-tax basis (weirdly, this would have applied only to employers with more than 100 workers). The first part of the proposal was deemed to raise $63.4 billion in revenue over 10 years, the latter an additional $144 billion, by basically forcing workers who would otherwise have taken advantage of pre-tax savings to pay taxes on those contributions upfront. And let’s not forget that those burdens would have fallen particularly harshly on those who decide to offer these plans in the first place and to match employee contributions.

For those of us who remember 1986 – or perhaps the years in between that and EGTRRA – the references to TRA 86 as a model for Tax Reform 2017 are a bit chilling. Because when it comes to winners and losers in tax reform – and make no mistake, tax reform is all about winners and losers – more often than not, retirement comes out on the short end. And every time it does, it feels more than a little bit like having to bail out your brother-in-law with a loan from your 401(k) – again.

For months now we’ve been talking about tax reform, and the potential implications for retirement policy. It was a focus at this year’s NAPA 401(k) Summit, and it will be front-and-center at this year’s NAPA DC Fly-In Forum. The reason is obvious: If you’re going to lower tax rates and be revenue neutral, the money to offset those tax reductions has to come from somewhere. And traditionally, the tax preferences that foster the growth and expansion of retirement plans and retirement savings have been a “go to” source, perhaps never more so than a generation ago with TRA 86.

The road ahead could be rocky, particularly as it comes in the wake of the application of the Labor Department’s fiduciary regulation, whether delayed or not, and perhaps modified. It’s said that being forewarned is being forearmed, and we’ve certainly worked to do that over the last several months.
If you are not already, you’ll want to stay connected on these issues in the weeks ahead.

Get informed. Get involved. Before it’s too late.

- Nevin E. Adams, JD

Saturday, April 01, 2017

View "Points"

By any measure, the just-concluded NAPA 401(k) Summit was an incredible, record-breaking success – with so much good content and networking that it was hard to choose between sessions. For those who weren’t able to be there – or who were unable to be everywhere at once – here are some random thoughts, insights and perspectives from that event.

Health savings accounts could wind up being a big deal.

One man’s loophole is another man’s incredibly important tax preference.

The most important thing is not what happened, it’s what’s going to happen.

Online gambling didn’t kill Vegas – and robo-advisors won’t kill 401(k) advice.

In tax reform, everything is about trade-offs.

84% of Millennials surveyed want their investments to make the world better.

Retirement plans are about 1/50th of what a plan sponsor does.

Fees are still a major factor in landing a new client.

Most people want to do the right thing, but they don’t know how to do it.

When the market goes down, lawsuits go up.

Claiming Social Security before age 66 permanently reduces a client’s retirement benefit. Almost
75% of Americans claim Social Security before their Full Retirement Age.

After 66, Social Security retirement benefits grow by 8% per year.

All PEPs are MEPs but not all MEPs are PEPs.

People want to be financially secure. They know what to do to become financially secure. Yet, they are not financially secure.

What do you have “in your head” that’s not on your website?

In 1835 the normal retirement age was… death.

The DOL’s been very clear that “QDIA protection evaporates” under certain circumstances.

President Trump is like a tech stock – he could fly high, or he could be a train wreck.

For a plan committee, especially when it comes to investment changes, doing nothing is often best.

For prospects, at the end of the day, client references are the ultimate value message.

Repeatability is an important key to building a practice.

Plan sponsor: “Don’t assume what’s obvious to you is obvious to me.”

So, how are you going to top this?

We heard the latter a number of times during the course of the 2017 NAPA 401(k) Summit – which admittedly set a whole new standard for what has become the nation’s retirement plan advisor convention. But we also heard that after the 2016 NAPA 401(k) Summit, and I think we managed to do so. Thanks again to our sponsors, our presenters and facilitators, and most particularly those who supported the event with your attendance and participation – who were all part of a remarkable experience!

If you were there, tell a friend. And whether you were there or not, make plans now to attend the 2018 NAPA 401(k) Summit – and see how we’ll top this year’s!

Sign up for updates at http://napasummit.org/.

- Nevin E. Adams, JD

Saturday, March 18, 2017

Preparing for the Storm

If you live (or were travelling to) the upper east coast of the U.S. this week, odds are you spent some time making preparations for what looked to be (and by the time you read this likely is) a big winter storm.

We don’t always get that much time to prepare, of course – and sometimes when we do, those big storms don’t turn out to be very big after all. But you can generally count on lots of frenzied weather forecasters predicting snow-mageddon (even if they do offer some caveats), and at least one shot of the inside of a local grocery showing empty bread and milk aisles. Because, after all, who could go 48 hours without bread and milk?

Life is full of surprises – and though most of those are unaccompanied by a friendly meteorologist to help us anticipate them, one might well wonder why we let them “sneak” up on us without making better preparations.

Perhaps the most obvious is the topic of retirement preparation. Any day now the queen mother of retirement confidence assessments – the Employee Benefit Research Institute’s Retirement Confidence Survey (RCS) – will likely, as it has for more than a quarter-century now, tell us that Americans are, writ large, uncomfortable, uncertain, and unprepared for retirement. Nor is this some external assessment based on an objective evaluation of retirement preparations and needs. Rather, this survey, as are most of the industry survey progeny it has since inspired, is a self-reflection by survey respondents. Respondents including some who do not save, and others who do not save “enough,” and many, probably most, who haven’t even tried to guess at how much “enough” might be. Most will likely be concerned about their prospects for a financially secure retirement – but apparently not concerned enough to do very much about it.

Indeed, if history is a fair guide, I think it’s fair to say that the media coverage will likely rival that of an impending environmental apocalypse. Despite the researchers best efforts to provide some perspective on the findings, you can almost certainly count on an obsession as to how many haven’t yet accumulated $1,000 in savings – albeit without regard to their age, their income, or whether they have the encouragement and incentives of a retirement plan at work. If the report finds a drop in confidence, it will almost certainly be cited as a lack of confidence in a system that isn’t working. If, on the other hand, the report finds a surge in confidence – well, then you can expect reports that talk about how unfounded the confidence is.

As complicated as weather forecasting can be, it pales in comparison to trying to figure out what the financial “weather” for the next 30 years is going to be. Little wonder that those already in retirement tend to be more confident than those with decades of preparation still ahead. Still, what all too often gets lost in our criticisms of the current system is just how well it works.

Perhaps only three-of-four eligible to participate in such programs choose to do so, but on an employer-by-employer basis, participation rates north of 90% are not impossible to find – and that’s before the adoption of mechanisms like automatic enrollment, where those kinds of rates are common. Target-date funds have, in incredibly short order, gained the favor of plan sponsors and participants alike – with as yet incalculable benefits for those retirement investments. Those, and a whole new generation of retirement income alternatives are coming to market – alternatives that, unlike the prior generation, will benefit from the scrutiny of plan fiduciaries trying to make sure that a lifetime of accumulation isn’t decimated in a single moment. These innovations have come to light, and to market, because of the employer-sponsored system. By comparison, what kinds of innovations have been brought to those disciplined enough to set aside money in a retail IRA?

In the real world, a lucky few know how to save and invest properly; somewhat more have access to the counsel and advice of a trusted adviser. But for most of us, the workplace retirement program is our first and only “investment” account. It is the one place where even those with relatively small balances can have access to professional advice, alongside the opportunity to gain the purchasing power of a group.

None of which would be possible without the involvement of their employer, the funding of that company match, and the tax incentives that underpin a structure that gets workers of modest means to do what never seems to come naturally to human beings – to prepare for the storm before it’s upon us.

For those of you in the path of this storm, stay safe – and I look forward to seeing hundreds of you in Las Vegas at the 16th Annual NAPA 401(k) Summit!

this post originally appeared here.

Saturday, February 25, 2017

Is the Prudent Man Standard Good Enough?

It’s often said that ERISA’s prudent man rule is the highest duty known to law. But is that enough?

Don’t get me wrong – any law that holds human beings to the standards of an expert in any field is a pretty high standard, and one that can be difficult to meet even with the ablest of expert assistance.

I started thinking about this recently when a friend was asking my advice on what he should do regarding the options in his new 401(k) plan. I did what I often do, outlining the pros and cons of various alternatives, helping him to make what I considered to be a well informed – or at least better informed – decision.

I had stepped through all the options and considerations with his plan, a pretty standard combination of automatic enrollment provisions. But then, after asking questions throughout, when I was finished, he didn’t ask what I thought he should do. Instead, he asked what I had done with my own retirement savings.

The process of stepping through my decisions with my friend wasn’t without its limitations. It wasn’t an apples-to-apples comparison, for one thing; my plan didn’t have the same options available to him, nor were our specific financial and familial situations identical.  But it got me to thinking...

Plan fiduciaries have long been reluctant to superimpose their judgments on the participants whose benefit they are charged with overseeing, and with good cause. The financial decisions attendant to participating in a plan (including the decision to participate in the first place) are fraught with the potential for significant disruption, particularly in view of the panoply of personal circumstances that ought to be considered. And while there are doubtless situations in life for which we must do so – the imposition of our best judgments for loved ones not old enough, or no longer able, to do so – most of us have our hands full just keeping up with our own slate of critical determinations.

While we have made significant strides in implementing “automatic” plan designs that help participants get off to a better start than they might have if left to their own devices, it still seems that most fiduciaries gravitate toward the “first, do no harm” standard generally associated with the medical profession’s Hippocratic Oath.

A higher standard might arguably be the so-called “Golden Rule,” which sets as its marker that you do to others how you would like them to do to you. How might that apply to retirement plan designs?
  • If you, as a participant, wouldn’t think of setting aside only 3% of pay, even as a starting point, why would you let others do so?
  • If you, as a participant, wouldn’t think of contributing to a level that doesn’t give you the full benefit of that company match, why would you let others do so?
  • If you, as a participant, would (and do) willingly accelerate your rate of contribution annually, why do you let others pass up that opportunity?
  • If you take advantage of a qualified default investment alternative to help ensure that your investments are diversified and rebalanced on an ongoing basis, and particularly if you use that as a default option for new hires, why wouldn’t you do the same for current hires?
  • If you think overinvestment in company stock is dangerous, why do you let participants do it?
  • If you think participants need help making retirement planning decisions, why don’t you accommodate it?
I realize the answers to some, and perhaps all, of these questions are complicated. “My boss wants us to” is surely the answer in some cases, while “Because I am worried I/we will get sued” comes up frequently. The answer I hear most from plan sponsors is, “I don’t know enough about their individual situations to make the right decision,” though one might also reasonably reply, “Because I’m not required, even as an ERISA fiduciary, to do so.”

But as I said, my conversation about a friend’s new 401(k) got me to thinking about the prudent man standard, and how it’s generally applied to plan design standards.

After all, can it really be in the best interests of plan participants, if it isn’t good enough for you?

- Nevin E. Adams, JD

End Note
The original prudent man rule dates back to the common law, specifically the 1830 Massachusetts case of Harvard College v. Amory. From that case came the notion that trustees were directed “to observe how men of prudence, discretion and intelligence manage their own affairs, not in regard to speculation, but in regard to the permanent disposition of their funds, considering the probable income, as well as the probable safety of the capital to be invested.” In the absence of specific directions in the trust agreement, the trustee was to invest as he would invest his own property, taking into account the needs of beneficiaries, the need to preserve the estate (or corpus of the trust), and the amount and regularity of income.
ERISA’s prudent man rule goes further, requiring that a fiduciary must perform its duties “with the care, skill, prudence and diligence under the circumstances then prevailing, that a prudent man acting in like capacity and familiar with such matters would use…”

Saturday, February 18, 2017

6 Assumptions That Can Wreck a Retirement

The future is an uncertain thing, and planning for uncertainty inevitably involves making some assumptions.

Here are six that, done improperly, can wreck your retirement.

How Long You’ll Live

The good news we are living longer – but that means that retirements can last longer, and medical costs can run higher. But while we’re living longer, studies indicate that we tend to underestimate how much longer we will live.

The Social Security Administration notes that a man reaching age 65 today can expect to live, on average, until age 84.3, a woman turning age 65 today can expect to live, on average, until age 86.6.

But those are just averages. About one out of every four 65-year-olds today will live past age 90, and 1 out of 10 will live past age 95.

How Long You’ll Work

Perhaps the most important assumption is when you plan to quit working; today most Americans are doing so at 62, though 65 seems to be the most common assumption – and while using 70 (or later) will surely boost your projected outcomes (it both gives you more time to save, and reduces the time that you will be drawing down those savings), it may not be realistic for many individuals.
Indeed, the 2016 Retirement Confidence Survey from the nonpartisan Employee Benefit Research Institute (EBRI) notes that the age at which workers expect to retire has been slowly rising. In 1991, just 11% of workers expected to retire after age 65. Twenty-five years later, in 2016, that number had more than tripled; 37% of workers now report that they expect to retire after age 65, and 6% say they don’t plan to retire at all. At the same time, the percentage of workers who say they expect to retire before age 65 has dropped by half, from 50% in 1991 to 24% in 2016.

However, the RCS has consistently found that a large percentage of retirees leave the workforce earlier than planned – nearly half (46%) in 2016, in fact. Many who retired earlier than planned say they did so because of a hardship, such as a health problem or disability (55%), or changes at their employer such as downsizing or closure.

The bottom line: Even if you plan to work longer, the timing of your “retirement” may not be your choice.

How Fast You’ll Withdraw

For years, financial planners had touted the 4% “rule,” a rule of thumb for how much money can be withdrawn from retirement savings every year (generally adjusted for inflation) without running out of money. There’s no real magic to the 4% rule, of course – it’s just the math that allows for a systematic withdrawal of funds roughly timed to coincide with the expected lifespan of the individual. Portfolio returns can impact this, of course, so much so that that factor, coupled with the increased longevity, has these days led some to call instead for a 3% rule.

But whatever formula you use, it’s important to remember that while a low rate of withdrawals might help preserve your portfolio, it might not produce a very comfortable living.

How Much You’ll Earn on What You Save

Let’s face it – if you could predict future market returns, you probably wouldn’t have to be worrying about retirement. But as we all know – and have seen proven time and again over the past couple of decades, markets frequently defy even the expectations of experts.

There are bad investments that can cost you money, and good investments that can help your account grow faster.

So, what should a non-expert assume? It’s generally best to be conservative – one of the biggest mistakes individuals make is assuming outsized returns on their savings. But make sure that assumption is consistent with how your savings is invested. For example, if you have all your savings invested in a money market fund, it’s highly unlikely (some would say impossible in the current environment) for you to actually get an 8% return.

How Much More Things Will Cost

Twenty or 30 years from now, prices are likely to change, and for many, those prices will increase. Consider that, overall, the average inflation rate for 2016 was 1.3%. In 2015, inflation climbed 0.7% with an average running pace of 0.1%, with gasoline prices plunging that year. It’s not that all prices will always go up – but they often do, and might increase faster than your income.

There’s a calculator that you might find interesting at http://www.usinflationcalculator.com/.

How Much Differently You’ll Spend

This has two components. Some costs (notably medical) frequently increase in retirement, particularly with the longevity trends noted above. Others – such as commuting costs, and even the “cost” of saving – decrease.

But think – 10 years ago would a “fit bit” have even been on your radar, much less your arm? New products and services continue to emerge – some will make your retirement budget more manageable – others may well strain it.

With all the uncertainty and variables to consider – there is one key assumption about retirement saving that you can, to some extent, control – and that’s “How Much You’ll Save.” Because what really matters in achieving financial security for retirement is how much you save (including the amount of the employer match, if any), and some help in making solid, reality-based assumptions.

Chances are, your 401(k) plan has some resources that will help you do the calculation. If not, or if you’d like a “second opinion,” try the free Ballpark E$timate at choosetosave.org. Even better, if you don’t know what you’re doing, get help – and if there’s a professional advisor working with your 401(k) plan, that’s a great place to start.

- Nevin E. Adams, JD