401(k) Specialist Issue 2 - 2023 - 23

401(k) BEST PRACTICES
annuities fit into a participant's total portfolio.
It is important to learn how mortality pooling
can promise income that is both guaranteed
for life and higher than the 10-year treasury
rate (while mutual funds cannot). This is true
for either one life or two (another fact to
know for the lifetime income illustration safe
harbor).
Once properly educated, some consumers
may choose annuities because they prioritize
their desire for financial independence ahead
of the possibility that good luck in risk markets
will allow them to maximize inheritances.
For this kind of retiree, selecting an annuity
as a hedge for longevity risk may be about
managing the fear of becoming a financial
burden to family.
Starting the Conversation
How to begin the first meeting? We recommend
against sponsors simply starting with
quantitative data for costs and performance
data for three reasons: 1) institutional pricing
for many products is already available to plans
(and sometimes to individuals outside plans)
so concerns about high retail costs may not
apply; 2) beginning with individual product
comparisons is the equivalent of doing a
manager search before creating an asset allocation
policy; and 3) existing institutional best
practices have long differentiated between past
performance and expected future returns-
shouldn't this standard also be applied to
annuities? Computer tools are no solution for
the qualitative research needed here.
Instead, we recommend the conversation
might start as follows: " Why should
we consider it? " " What life stage would we
solve for-accumulation, near-retirement,
decumulation-or perhaps all three? If our
participants vary in their willingness and/or
ability to digest the complexity of different
products, should we allow a default for them
inside the plan, or does this create too much
for us as fiduciaries? Perhaps a menu of different
solutions for various levels of participant
sophistication and preferences would be best,
some (or all) of which could be executed
outside the plan and accompanied by unbiased
educational content? "
Next comes the critical issue of counterparty
risk. There are substantial differences
in the use of offshore reinsurance-and the
potential risks involved. Congress is currently
evaluating this subject and it's important for
plan sponsors to be aware of it. Analysis of past
insurer insolvency events and the history of allocated
versus unallocated contracts is relevant,
as is research on state guaranty association
differences and past precedents for receivership
situations. This will all require expertise.
Should a prudent expert apply existing
standards for diversification? Participants could
allocate across multiple carriers to lower their
counterparty and guaranty association risks.
We think the institutionally priced fixed
immediate annuity platforms with multiple
issuers will help make this a best practice.
Liquidity in the
income phase-
or perhaps lack
thereof-is important
to understand.
How do withdrawal
rights of different
immediate annuities
compare based on
differences between
issuers?
Liquidity in the income phase-or perhaps
lack thereof-is important to understand.
How do withdrawal rights of different immediate
annuities compare based on differences
between issuers? How might they be
evaluated relative to income riders? A " cash
refund " or " period certain " option offered by
many (but not all) companies may allow for
immediate annuity withdrawals that are like
the liquidity features of income riders after
they are activated. In both cases, liquidity declines
over time, and may cause a reduction in
income guarantees. There is an added cost for
this option that should be part of a comparison
of the different types of annuity income
categories.
Inflation is another part of longevity risk,
and different kinds of income " ratchets "
are available. Options may be guaranteed
or variable-usually differ by annuity type.
Graduated ratchets are available in many
fixed immediate products, from 1% to 6%
annually. This lowers the initial income, but
academic research shows participants will
often choose them when properly educated
about maintaining purchasing power over a
long retirement. Other COLAs may be tied
to capital markets, offering possibly higher
future purchasing power but also have the risk
of delivering less purchasing power over time
versus the guaranteed ratchet.
Should the income available to participants
who wish to annuitize before a rider deferral
period ends be evaluated versus an immediate
annuity? What about the cost of dividend loss
in some products? Some sponsors may want
to consider a target date fund structure for
accumulation that leads to a lifetime income
guaranty. They may also want to evaluate an unbundled
structure that leaves the current target
date fund in place and has the lifetime income
piece available only at retirement. Last but not
least, costs need to be prudently benchmarked.
This article is not intended to be comprehensive
and may seem complex. However, our
conclusion is simple: institutional quality due
diligence on annuities is important for plan
sponsors to begin, and outside expertise for
plan fiduciaries is much needed.
Mark Chamberlain, BCF, is Co-Founder of Annuity
Research and Consulting, LLC and serves as an
advisor to the Insurance and Annuity Specialty Group
at the Center for Board Certified Fiduciaries.
Michael Dayton, BCF, is President, The Dayton
Company, Co-Founder, Ekstra401k and Co-Founder,
PLANALYTiQ.
Michelle Richter-Gordon, AIF, is a Co-Founder of
Annuity Research and Consulting, LLC, Owner of MRG
Advisors, and serves as the Executive Director of the
Institutional Retirement Income Council.
Don Trone is the CEO and one of the co-founders of
the Center for Board Certified Fiduciaries which is
affiliated with the Wake Forest University School of
Professional Studies.
ISSUE 2 2023 | 401kSpecialist.com
23
https://www.annuityresearch.com/ https://www.annuityresearch.com/ https://www.thedaytoncompany.com/ https://www.thedaytoncompany.com/ https://iricouncil.org/ https://www.c-bcf.com/ https://401kspecialistmag.com/richter-gordon-chamberlain-launch-firm-to-vet-lifetime-income-options-in-401ks/ https://401kspecialistmag.com/richter-gordon-chamberlain-launch-firm-to-vet-lifetime-income-options-in-401ks/ http://www.401kSpecialist.com
401(k) Specialist Issue 2 - 2023

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