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Defined Contribution

Drawdown strategies on retirement income gain attention in U.K.

Mark Rowlands said an annuity component could become part of the default pathway.

(updated with correction)

Executives say they would like to provide in-plan drawdown strategies as investment defaults in defined contribution plans, as the U.K. government looks to induce a more coherent post-retirement market.

These so-called drawdown strategies are tools to providing income in retirement. They are used in the decumulation phase of participants' lives, allowing a participant to gradually withdraw savings while leaving the remainder of assets invested throughout retirement.

Sources said drawdown strategies need to become more flexible to adapt to changing circumstances of plan participants, as more people are expected to delay full retirement by working part-time for brief stints. But plan executives said they aren't seeing enough innovation, even after U.K. regulators in 2015 removed the requirement that participants buy an annuity upon retirement.

A recent proposal from the U.K. government could help spur innovation, sources said.

Earlier this month, the U.K. Work and Pensions Committee proposed that National Employment Savings Trust, London — the government-backed 2.7 billion ($3.8 billion) multiemployer defined contribution plan — start providing a default drawdown option for participants going into retirement. NEST, by law, is barred from offering a drawdown strategy.

The committee also asked the U.K. government to mandate that all plan sponsors default participants into drawdown products starting in April 2019, in efforts to protect their savings and prod sponsors to get involved with helping participants choose a strategy for their decumulation phase. Such default strategies would be subject to a 0.75% charge cap, similar to the charge cap on accumulation products, according to the proposed changes.

"A default pathway will enable (participants) to move smoothly from savings to income with the same level of (sponsor) governance. And the pathway could also have an annuity component," said Mark Rowlands, director of customer engagement at NEST.

Many U.S. plan sponsors are grappling with similar concerns over participants' decumulation phase. Proposed legislation in the U.S., the Retirement Enhancement and Savings Act, aims to broaden the safe-harbor provision that ​ would protect sponsors from fiduciary risk when they select a provider for in-plan retirement income solutions.

Record-keeping issues

Record-keeping challenges, though, are an issue.

"Drawdown is becoming the dominant decumulation strategy in the U.K., but administration of decumulation options is problematic for plan sponsors," said Roger Breeden, workplace savings proposition lead at Mercer in London. Other issues include the cost and tax implications, he said.

"Managing drawdown incurs cost (for the participant) and probably means a lower fund value for participants with small pots at payout date," Mr. Breeden said.

Some plan sponsors have assumed the responsibility for participants to pay for the governance and administration of decumulation options in the aftermath of the pension freedoms regulation. But many participants still have to bear the cost of paying for an independent adviser and a decumulation option from an insurance provider.

As a result, they end up taking their retirement savings as cash, especially if they still have a large defined benefit fund to rely on.

The lack of options prevents some plan sponsors from introducing a default drawdown strategy, despite having done significant due diligence, said Debbie Falvey, Europe, Middle East and Africa defined contribution proposition leader at Aon in Bristol, England.

Decumulation offerings will need to become more compatible with the existing setup of DC plans, easily transferring participants into a drawdown strategy, sources said.

"We see more workplace plan sponsors introducing a default drawdown option but we need to make the connections as seamless as possible," Mercer's Mr. Breeden said. "At the moment, for many plans the transition from accumulation to decumulation is not that elegant."

To be sure, some DC plan executives already have taken steps to introduce drawdown into their defaults.

"Our default investment fund has always targeted income drawdown as the intended method of decumulation," said Ivan Laws, pensions director at the 31 million ($44 million) Ensign Retirement Plan, Gatwick, England, a multiemployer plan. "However, the participants until now have had to transfer their funds into an appropriate income drawdown policy in order to achieve this."

In the past, the fund recommended participants take a drawdown strategy, but rather than handling the matter in-house, it sent participants to an insurer. Now BlackRock (BLK) Inc. (BLK), its manager, is managing the decumulation strategy, he said.

The plan now, he said, is to default all participants into the drawdown option; participants may opt out.

Executives at NEST are concerned that they are not required to offer a decumulation option to their participants. Instead, participants need to seek advice and solutions independently.

"We have spent a few months talking to the market and we found that building a platform (for the participants) with an insurance company doesn't solve the problem," Mr. Rowlands said.

"Participants going into decumulation pay on average 50 basis points on the products they are enrolled in," Mr. Rowlands said. By comparison, NEST could charge them 30 basis points, as it does in the accumulation phase, sources said.

Many of the decumulation strategies available in the market replicate investment strategies used by plans in the accumulation phase. "But they do not offer the same level of governance," Mr. Rowlands added, as participants need to choose separate products.

Need for governance

Managers that offer target-date funds in the U.K. share the view that governance is lacking.

"The thinking about decumulation isn't very joined-up," said David Hutchins, senior vice president and head of multiasset solutions business in EMEA at AllianceBernstein (AB) in London. Target-date funds could go into equities beyond the original retirement data and could ensure that smooth transition into decumulation, he said. AllianceBernstein offers target-date funds just for decumulation, and has clients who buy only that strategy. AB has a few million pounds sterling in its Retirement Bridge strategy, according to the firm, which would not provide specifics.

Sources added that because the number of people working part time beyond their retirement date is growing, those looking to provide strategies should pay closer attention to participant communication and education, in addition to operational concerns.

"We need more development in technology to advise people and to help them understand how their plan's value is going down and when," Mr. Breeden said. "And to make that advice affordable."

Mr. Rowlands said officials at NEST envisage a much more holistic plan design for participants that would include a decumulation strategy and a rainy-day account as retirement for many people will become extended in time.

But the U.K. market could see a number of proposals, sources said: a collaboration among a number of master trusts could be one outcome; participants moving their savings pot into an account with NEST just for the decumulation phase is another.