Our plan sponsor clients have been calling our team with increased frequency due to the passing of the SECURE Act (Setting Every Community Up for Retirement Enhancement Act of 2019). The biggest point of confusion and request for clarity has been around a lifetime income provision that allows for participants to buy individual annuities at retail prices within the retirement plan while giving the plan sponsor a safe harbor to allow for this activity. The following questions are frequently asked of us:
- I hear there is a safe harbor for allowing in-plan annuities for participants. What safe harbor protection does the Act actually provide, and to whom?
- What would be the due diligence process that our Committee in conjunction with you, our Plan Consultant, should undertake?
- Are only individual annuities being considered for guaranteed income?
- What are the practical issues that recordkeeping platforms will have to examine in order to offer these products?
- How can you as my Plan Consultant help us with this process?
The Due Diligence Process & Benefiting from the Safe Harbor on Contract Selection
ERISA Attorney Fred Reish does a fantastic job of breaking down the Due Diligence process in a series of recent blog posts that he has published. You can find #1 here, #2 here, and #3 here. To summarize, the SECURE Act has two requirements for including insured "guaranteed retirement income contracts" in retirement plans.
- The plan fiduciaries shall consider "the financial capability of such insurer to satisfy its obligations" under the contract. Fiduciaries are being asked whether the insurance company is strong enough to pay the promised income to the participant over the contracts' promised time period. Interestingly, the legislation's safe harbor requires that fiduciaries are only required to obtain certain information from the insurance companies, not to evaluate it. What is helpful is that the SECURE Act spells out what information is required to collect of the financial conditions of insurers in order to obtain the benefit of the safe harbor. Otherwise known as "the checklist", you can find the checklist below: A fiduciary will be deemed to satisfy the requirements…if—
- (A) the fiduciary obtains written representations from the insurer that—
- (i) the insurer is licensed to offer guaranteed retirement income contracts;
- (ii) the insurer, at the time of selection and for each of the immediately preceding 7 plan years—
- (I) operates under a certificate of authority from the insurance commissioner of its domiciliary State which has not been revoked or suspended;
- (II) has filed audited financial statements in accordance with the laws of its domiciliary State under applicable statutory accounting principles;
- (III) maintains (and has maintained) reserves which satisfies all the statutory requirements of all States where the insurer does business; and
- (IV) is not operating under an order of supervision, rehabilitation, or liquidation;
- (iii) the insurer undergoes, at least every 5 years, a financial examination (within the meaning of the law of its domiciliary State) by the insurance commissioner of the domiciliary State (or representative, designee, or other party approved by such commissioner); and
- (iv) the insurer will notify the fiduciary of any change in circumstances occurring after the provision of the representations in clauses (i), (ii), and (iii) which would preclude the insurer from making such representations at the time of issuance of the guaranteed retirement income contract; and
- (B) after receiving such representations and as of the time of selection, the fiduciary has not received any notice described in subparagraph (A)(iv) and is in possession of no other information which would cause the fiduciary to question the representations provided.
From our conversations with mutual fund companies, insurers, and investment providers, most insurance companies should have a standard package of answers that satisfies the required information from the SECURE Act.
2. The second requirement is that plan fiduciaries consider "the cost (including fees and commissions) of the guaranteed retirement income contract offered by the insurer in relation to the benefits and product features of the contract and administrative services to be provided under such contract" AND determine that the cost is reasonable relative to the features and services offered. Cost reasonableness should not be a surprise to plan sponsors as benchmarking of costs and services is a standard expectation in much of the plan fiduciary role. However, this is a high hurdle for many plan sponsors to achieve. Plan fiduciaries will then have to gather information about competing costs, features and services to decide reasonableness. Additionally, fiduciaries should not offer contracts that include features which are deemed not valuable to participants, thus increasing cost without additional benefit.
In addition to the SECURE Act requirements, for plan sponsors to select a guaranteed income contract, they will have to tackle the practicality of what products are actually available to them on their chosen recordkeeping platform. Will the recordkeepers have their own hurdle, financial and legal, to offer insurance products of a certain quality? What about recordkeepers owned by insurance companies - what products will they offer?
Are only individual annuities being considered for guaranteed income?
The answer to that question is "no." There are a few products that are interesting, but have had very low adoption over the past decade. Our investment team has kicked the tires on a few GMWBs - guaranteed minimum withdrawal benefits - in recent years. This idea places a guarantee wrapped around a target date fund (TDF) or some stock / bond balanced fund and charge a fee in addition to the TDF. The plan sponsor picks certain allowed TDF suites allowed by the insurer, and the GMWB guarantees that as long as the retiree doesn't withdraw more than a certain amount from their account, the money will last the life of the participant. Generally, the GMWB resets to a high watermark with investment appreciation and guarantees income from that watermark value. Insurers have had difficulty getting this idea off the ground due to the liability risk to the plan fiduciary if this doesn't actually work in favor of the participant. Perhaps with this safe harbor offered by the SECURE Act, it'll become more prevalent.
Another interesting premise is to what extent the retirement plan assets dictate better cost terms for annuity products, like what happens on the investment menu offered? Will there be better pricing on the recordkeeper platform for larger plans than smaller? Will there eventually evolve an annuity marketplace to shop rates, prices, and contract provisions as a participant retires? Obviously, these are questions to observe the answer to over time.
What are the practical issues that recordkeeping platforms will have to figure out in order to offer these products?
Similar to how many retirement plans offer investment options for investing a participant's savings, the fiduciaries will have to select a guaranteed income product. As its not practical to offer a participant thousands of choices, fiduciaries will have to decide whether they should add one (or more) guaranteed income options in their plan menu lineup. Once added, participants will have to decide if they want to add the guarantee option to their account. So structurally, recordkeeper platforms will have to adjust their services to meet these new rules (change their participant and sponsor web platforms, educate their call centers, revamp their communication platform, etc.). But first things first, insurance providers will be working quickly to get their guaranteed products available to plans on recordkeeping platforms and supplying all the necessary disclosure documents and contracts.
How can you, as my Plan Consultant, help us with this process?
- We can help you evaluate the guaranteed product by weighing features and cost.
- We're able to assist with the data gathering process for guaranteed product evaluation. Our industry connections will allow us to put together the proper information for our plan sponsors and satisfy this compliance requirement.
- We're able to assist with the evaluation on whether the insurance company is financially strong as we already do for our plan sponsors on stable value products offered to participants.
If you would like to discuss this topic further with our team, please reach out to us!