Longevity risk––that is, the risk of outliving your retirement savings––is among retirees' biggest worries these days. The Obama administration is trying to nudge employers to add a special type of annuity to their investment menus that addresses that risk. But here's the response they're likely to get: "Meh."
The U.S. Treasury released rules earlier this month aimed at encouraging 401(k) plans to offer "longevity annuities"––a form of income annuity in which payouts start only after you reach an advanced age, typically 85.
Longevity annuities are a variation of a broader annuity category called deferred income annuities. DIAs let buyers pay an initial premium––or make a series of scheduled payments––and set a date to start receiving income.
Some forms of DIAs have taken off in the retail market, but longevity policies are a hard sell because of the uncertainty of ever seeing payments. And interest in annuities of any sort from 401(k) plan sponsors has been weak.
The Treasury rules aim to change that by addressing one problem with offering a DIA within tax-advantaged plans: namely, the required minimum distribution rules (RMDs).
Participants in workplace plans––and individual retirement account owners––must start taking RMDs at age 70 1/2. That directly conflicts with the design of longevity annuities.
The new rules state that so long as a longevity annuity meets certain requirements, it will be deemed a "qualified longevity annuity contract" (QLAC), effectively waiving the RMD requirements, so long as the contract value doesn’t exceed 25 percent of the buyer’s account balance or $125,000, whichever is less. {The dollar limit will be adjusted for inflation over time.) The rules apply only to annuities that provide fixed payouts - no variable or equity-indexed annuities allowed.
But 401(k) plans just aren’t all that hot to add annuities of any type. A survey of plans this year by Aon Hewitt, the employee benefits consulting firm, found that just 8 percent offer annuity options. Among those that don’t, 81 percent are unlikely to add them this year.
Employers cited worry about the fiduciary responsibility of picking annuity options from the hundreds offered by insurance companies. Another key reason is administrative complication should the plan decide to change record keepers, or if employees change jobs.
“Say your company adds an annuity and you decide to invest in it, but then you shift jobs to an employer without an annuity option,” says Rob Austin, Aon Hewitt’s director of retirement research. “How does the employer deal with that? Do you need to stay in your former employer’s plan until you start drawing on the annuity?”