Retirement income is a bit of a paradox.

On one hand, retirement income is, at its core, not a particularly complicated concept; you stop working at some point during your life and begin collecting payments from different sources of accumulated assets. This can be in the form of withdrawals — either systematic or as-needed — or financial instruments such as annuities for income over your lifetime, or another predetermined timeframe. Additionally, programs like Social Security provide another potential layer of income to eligible recipients.

On the other hand, when considering the evolution in broadening and diversifying its deployment and access, retirement income has become a bit more complicated — specifically as the industry further contemplates the merits of using defined contribution (DC) plans as a conduit for its delivery. While asset managers and insurance companies have moved to curate retirement income products, early data shows that plan sponsors have been reluctant to meaningfully adopt these strategies, which has resulted in negligible participant uptake on a relative basis. This trend of plan sponsor tentativeness may be shifting as some studies have shown1, but more work is still needed, which is certainly not without its complexities.

“In a LIMRA survey of private-sector plan sponsors with at least 10 full-time employees, almost half (49%) of those that do not offer an in-plan annuity in their DC plan say that they have considered adding one at some point. About 3 in 4 claim that they will make this decision within the next 12 months…”1

While this data reveals that retirement income is undoubtedly on the minds of plan sponsors, it should be noted that consideration does not automatically translate into action or addition (whether immediate or long-term). In fact, we’ve recently seen this phenomenon with similar hot topics in the retirement plan space, where even in the face of remarkably high interest levels, adoption is muted, and that trepidation has effectively become avoidance. As a whole, retirement income is a bit different in form and function, but trends are not always absolute.

Source: J.P. Morgan Asset Management, “Navigating the Retirement Income Challenge,” 2024

We believe that there will be long-term growth in the overall adoption of retirement income solutions within DC plans along with a greater diversity of products that offer both plan sponsors and plan participants more choices. However, it will require a good deal of coordination as recordkeepers, annuity carriers, asset managers and other stakeholders face operational hurdles, such as easing portability limitation roadblocks during plan sponsors’ selections of in-plan annuities.2

Furthermore, while the SECURE Act provided a level of fiduciary safe harbor to plan sponsors who select in-plan retirement income options, according to Nicole Hong, Corporate Vice President with New York Life’s Institutional Annuity & Pension Risk Transfer team, “We’ve anecdotally heard that they (plan sponsors) want to stay away from offering something that is going to further open the door to litigation risk.” Though it’s not specifically related to retirement income litigation, 2023 saw another year-over-year rise in 401k lawsuit settlements. Investment News cites Euclid Fiduciary President Daniel Aronowitz who notes that, “In addition to the extraordinarily big settlements, there were a lot of small ones, part of a trend over the past few years as more plaintiffs’ firms have brought cases seeking quick payout.”3 Safe harbor or not, it’s fair to say that plan sponsors would have an aversion to fiduciary risk.

Operational complexities and fiduciary risks are not the only headwinds facing the evolution and acceptance of retirement income options. While the data is encouraging, and product manufacturers are eager to develop solutions, we are likely still in the early stages of this process as product developments still need more time to mature. The industry has seen a recent swell in the number of target date funds (TDFs) offering an income option, which makes sense as they have dominated shelf space in DC plans, driven in part by the qualified default investment alternative (QDIA) safe harbor provided by the Pension Protection Act (PPA). Additionally, TDFs have an inherent ease-of-use and familiarity that makes adding a retirement income component feel like a natural next step in their evolution.

Percent of private industry workers with access to and participation in defined contribution plans, March 2023

Source: U.S. Bureau of Labor Statistics, “15 Percent of Private Industry Workers Had Access to a Defined Benefit Retirement Plan,” April 19, 2024.

Due to this, Morningstar notes that, “They’re [target date funds with annuities] still fairly complicated for the average investor — especially the annuities portion.”4 Compounding this is the fact that defined benefit (DB) plans continue to represent less and less of a retiree’s access to income capital, most notably in the private sector. In fact, approximately only 15% of private industry workers had access to a DB pension plan as of March 2023.5 Therefore, not only has the burden of saving and investing for retirement been placed solely on the participant, so, too, has deciding the most optimal way to generate income for the remainder of their lives. While TDFs (specifically off-the-shelf TDFs) certainly have their merits, they generally do not fully address the individual needs, goals and ambitions of each participant, which is something that the DC space continuously works on addressing.
 
All things considered, we believe there is still a need for more innovation and, above all, education in this arena at both the plan sponsor and participant levels. It will likely be some time before the market fully matures, but until then, DC plan sponsors will continue to cautiously vet retirement income options and the ramifications for plan participants.

       

 

Coming Soon: Part 2 – The Advisor-Client Experience Matters

These retirement income complexities highlight another opportunity for long-term growth: the advisor-client relationship.

As the exploration of in-plan retirement income options continues to evolve, it’s worth highlighting another current phenomenon: the explosion of out-of-plan annuity sales. We will cover this further in Part 2, but one area that needs to be a focus within the retirement industry is the financial advisor’s role and their ability to offer personalized guidance and education to clients and prospects.

Over 99% of American businesses in the United States are small businesses, employing nearly 62 million people, which represents just over 46% of private sector employees.6 As such, we anticipate seeing a material growth in the number of small businesses offering workplace retirement options such as 401(k) plans to their employees, which is particularly true as more and more states adopt mandated retirement plan legislation.

While interest rates have been a key driver of annuity sales in recent years, we believe this underscores the importance of working with a financial advisor in creating holistic and comprehensive solutions —whether in-plan or not. Therefore, while the utilization of in-plan income options will grow, it should not come at the expense of the advisor-client relationship.

Stay tuned!

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1 https://www.limra.com/en/newsroom/industry-trends/2023/are-in-plan-annuities-at-a-tipping-point/
2 https://www.napa-net.org/news-info/daily-news/plan-annuities-gain-momentum-concerns-linger
3 https://www.investmentnews.com/retirement/news/401k-settlements-went-way-up-in-2023-247954
4 https://www.morningstar.com/retirement/target-date-funds-annuities-its-complicated
5 https://www.bls.gov/opub/ted/2024/15-percent-of-private-industry-workers-had-access-to-a-defined-benefit-retirement-plan.htm
6 https://advocacy.sba.gov/2023/03/07/frequently-asked-questions-about-small-business-2023/

This material contains general information only and does not take into account an individual's financial circumstances. This information should not be relied upon as a primary basis for an investment decision. Rather, an assessment should be made as to whether the information is appropriate in individual circumstances and consideration should be given to talking to a financial professional before making an investment decision.

Financial professionals should advise their clients to seek their own tax, legal, or accounting professionals before making any decisions regarding the establishment of a retirement plan.

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