SECURE Act’s New Rules Loosen Regulations Governing Income Products in Defined Contribution Plans
BY: Brad Knowles, CBFA | Managing Director, Heritage Retirement Plan Advisors
More participants in company retirement plans may now be able to utilize guaranteed income instruments as part of their retirement plan thanks to passage of the Setting Every Community Up for Retirement Enhancement (SECURE) Act.
Defined contribution plans, such as 401(k) and 403(b) plans, have been the predominant way that most people accumulate wealth for retirement. Those plans, however, are not designed to turn that wealth into a predictable income stream during retirement.
Signed into law at the beginning of 2020, the SECURE Act is the most significant legislation approved by Congress in more than 10 years to improve retirement options. The act includes new rules that help Americans save more for and during retirement and is the first step toward providing plan participants with guaranteed income during retirement.
Demand for guaranteed income products, like annuities, continues to grow as individuals seek to diversify their portfolios and generate income later in their golden years. Sales increased 10 percent in 2018 to $218 billion in 2018 (the latest figures available), according to the Insured Retirement Institute.
Even though sales have increased, annuities still represent a small percentage of the assets Americans have set aside for retirement. A study by the Investment Company Institute estimated that annuities represented less than 10 percent of the $29 trillion in retirement assets in the U.S. as of March 31, 2019. That may change now that the SECURE Act is the law of the land.
Annuities have their drawbacks (see below), but when included within a comprehensive retirement plan, they can play an important role in mitigating stock market risk and providing peace of mind that comes with a guaranteed income stream during retirement. Here are three reasons why more retirement plan sponsors may begin offering participants annuities:
1. Guaranteed income products minimize market risk
Perhaps the most appealing factor of an annuity is the promise of a guaranteed income stream. A 2018 survey by Aegon found that nearly half (52 percent) of respondents were concerned about running out of money in their golden years. It’s a valid concern. Research by the World Economic Forum estimates that the average 65-year-old American will spend all their retirement savings in 10 years.
Another important benefit is that an annuity can help diversity asset allocation in retirement. The certainty of annuity income could minimize the financial impact in a market downturn so retirees are not forced to sell assets when prices have declined. Owning an annuity removes the complex decision-making process of deciding when to sell assets during retirement.
2. New rules reduce employer compliance risk
Before the SECURE Act, plan sponsors were worried about managing the complex regulations on annuities and being held legally responsible if the annuity provider could not meet the income obligations or, worse, went out of business. Only 7 percent of the respondents in the Society for Human Resource Management’s 2019 Employee Benefits survey said their companies offered lifetime income products.
New provisions in the SECURE Act have materially reduced an employer’s compliance risk and financial liability if the annuity provider passes certain tests. For example, employers are protected in the following ways: if an annuity provider has been licensed to sell guaranteed income products by their state insurance commission for the previous seven years; has filed audited financial statements with state regulators; and has maintained financial reserves that meet state requirements.
3. Annuity expenses, fees should become more affordable
One of the biggest criticisms of annuities is that the fees charged by insurance companies can be expensive. While true in some cases, not all annuities have high fees. Just as important, plan sponsors can now keep costs low by prohibiting sales commissions when participants purchase annuities as part of the employer retirement plan.
Passage of the SECURE Act will usher in a new wave of innovation in the design of guaranteed income products. New, cost-effective products will be created to help meet the income needs of American workers in retirement.
Helping save for retirement is one of the most valuable benefits an employer can provide its employees. By improving regulations on guaranteed income products, the SECURE Act has given plan sponsors another arrow in their quiver to help employees achieve their financial goals.