Creating a retirement paycheck
We met with representatives from retirement plan sponsors to discuss how they can help participants to not just save but also spend those retirement savings. According to Capital Group’s latest Wisdom of Experience survey of 1,200 retail investors, nine out of 10 Americans would like to be able to use their savings and retirement funds to create a monthly “paycheck,” but few know how. Can plan sponsors create a more straightforward way for participants to just that?
Key sources of income that can contribute to the “paycheck”
It’s important that any retirement income plan considers all possible sources of income:
- Protected income from Social Security and traditional defined benefit (DB) pensions can provide dependable income that underpins the overall income plan. Some participants may consider increasing their floor of protected income with an annuity.
- Unprotected or flexible income from defined contribution (DC) plan assets, IRAs and savings can provide additional income when invested for total return and systematically spent down or invested in purpose-built products that provide an income stream.
- Such products could include in- or out-of-plan annuities, target date funds with an annuity, or a custom “piggyback” solution that adds a payout option to a current Qualified Default Investment Alternative (QDIA).
Many plan sponsors are considering or have begun adding in-plan retirement income plans
- Industry support and adoption of dedicated retirement income strategies are still in nascent stages compared to retirement strategies for saving and accumulation.
- Sponsors are interested in offering participants in-plan retirement income options, but getting there — creating education programs, choosing income solutions, recordkeeper cooperation — can be complicated.
- Plan sponsors should consider educating employees about the trajectory of their savings by providing estimates of how their account balances might translate into monthly retirement spending. The SECURE Act embraced this concept, but we will have to wait for the U.S. Department of Labor to provide guidance on assumptions.
- To be successful, in-plan retirement income options need to be automatic and flexible. Participants need a built-in retirement option, drawing on the lessons learned from the default options in the Pension Protection Act. The most basic approach would be to include an annuity wrapper in a target date fund.
For participants approaching and entering retirement, making the switch from saving and accumulating to income and spending can be a challenge:
- Participants often approach retirement with no clear picture of their assets (which may be spread across several accounts) and little education on how these assets equate to income.
- The income and spending needs of retirees are very different, and they will be more open to retirement income solutions if there are multiple options available.
Possible impediments in the way
- For participants, interest in retirement income is rising. However, many participants may still be reluctant to embrace strategies that actively decumulate assets — bringing their accumulation mindset with them into retirement.
- For sponsors, overcoming the costs, complexity and uncertainty of launching and maintaining an in-plan retirement income platform requires considerable internal alignment, coordination with recordkeepers and vendors, and additional participant communication and support.
- Most recently, COVID-19 fears may override longer-term plan goals, especially for younger workers. Addressing this challenge, including leakage in the form of increased hardship loans, could cause in-plan retirement income efforts to backslide.
Steps plan sponsors and retirement industry can take to move plans beyond supplemental savings and toward providing a retirement paycheck
- Provide engaging, age-based education programs that motivate participants to look at retirement income holistically and take action: identify sources of protected income, consolidate retirement assets, and choose a retirement income approach that seeks to meet spending needs and goals.
- Avoid one-size-fits-all income options that are unlikely to address the unique in-retirement needs of participants. Plans should seek retirement income solutions such as target date funds, annuities, and pay-out funds — that can be customized.
- An ambitious program might provide retirees with automatic monthly payments based on an individualized estimated sustainable withdrawal rate, which could be adjusted periodically for market fluctuations. Although this is a promising solution, the program would only be practicable if it were offered to participants on an opt-in basis only. And it would have to be revocable. A lot of work would have to go into the assumptions used in providing the recommended withdrawal rate
- Along with developing new and innovative retirement income solutions, the industry needs to help solve the common issue of complexity:
- Develop a “retirement clearing house” that could simplify and streamline the process of consolidating assets and choosing income solutions.
- Offer app-based tools that can help participants track assets, calculate projected income and research/identify income solutions that match their goals.
- Design more robust, just-in-time financial education programs that can be further tailored to plan demographics, incomes and ages of cohorts to help move the needle beyond just saving.
- Partner with sponsors to develop “white label” offerings with simple naming conventions customized to the needs of participants.