Some defined contribution plans adding annuities to 401(k) lineups

While many defined contribution plan sponsors and service providers worry about getting more regulatory guidance for including lifetime income options, a relative handful of plan executives forged ahead before the regulatory issue became a front-burner topic.

They say they are offering these options because as defined benefit plans decline in number, defined contribution plans are taking on a greater role.

"We wanted to provide employees with a vehicle for greater security via a lifetime benefit that is similar to what is available through a DB plan,” said Bonnie LeVan, senior manager for compensation and benefits at Rogers Corp., Rogers, Conn., whose 401(k) plan has $70 million in assets.

Rogers closed its DB plan to new employees in January 2008. It began offering the annuity option to 401(k) participants in May 2007.

Paychex Inc., Rochester, N.Y, added an annuity option to its now $448.5 million 401(k) plan in May 2007. “Many of our employees knew someone who had a pension, and they wanted a pension-like investment,” said Will Kuchta, vice president of organizational development. Paychex lacks a DB plan, although it looked into creating one before deciding to add the annuity option to its 401(k) plan.

Although the motivation and experiences of these early adopters can serve as case studies for hesitant plan sponsors, acceptance of annuities embedded in 401(k) plans has moved glacially.

A recent Towers Watson survey of corporate 401(k) plan executives found that about 2% of plans offer annuities as an investment option, said Robyn Credico, the Arlington, Va.-based senior retirement consultant. The survey covered 334 companies, each with 1,000 or more employees.

A survey by Callan Associates, San Francisco, said annuities embedded in DC plans were offered by 4.7% of plans in 2009, up from 2.7% of respondents in 2007 and 3.3% in 2008. The survey covered 90 DC plans, most of which are 401(k) plans.

And a 2009 Hewitt Associates survey of 302 companies showed 7% offered annuities as an investment option, while 2% said they planned to offer them in 2010.

“Sponsors say the participants aren't asking (for annuities as an investment option) and providers say the sponsors aren't educating the participants,” Ms. Credico said.

Large employers are concerned about their fiduciary responsibility as well as the financial health of insurance companies providing the annuity products, she said. “There are a lot of administrative challenges” such as how companies deal with the mobility of the U.S. work force.

“It's a big deal — a huge undertaking,” said Pam Hess, director of retirement research at Hewitt Associates Inc., Lincolnshire, Ill. “Most employers aren't sure which way to go. They don't want to be first.”

Plan executives worry about how participants will react, Ms. Hess said, and they wonder: “Will they (participants) use it the wrong way? Will they not use it? What is the cost to participants? Which insurance company will they partner with?”

Even ifsome big-name sponsors of large 401(k) plans announced they were offering an annuities investment option, Ms. Hess said she doubts such support would lead to a trend until sponsors feel comfortable through additional government guidance.

Judging from the flood of comments filed when the Department of Labor sought information about lifetime-income option ideas, there are many reasons most providers and sponsors aren't acting now. (Pensions & Investments, May 17).

“The No. 1 hurdle is the need for a clear set of objective criteria for plan sponsors to follow,” said Frederick Conley, president of the institutional retirement group at Genworth Financial Inc., Richmond, Va.

Genworth began offering the ClearCourse annuity to 401(k) plans in 2006. About 40 sponsors have signed up, including Paychex.

“We are building a market from scratch,” Mr. Conley said. “Anytime you come out with something new, some people are not as quick to act. They want see things settle out a bit. Sponsors have preconceived notions about the cost and complexity. We have had to do a real education.”

Prudential Retirement has about 200 sponsors using its IncomeFlex annuity, first offered in 2006. Pru officials also encounter many plan officials waiting for more instructions from Washington, said Jamie Kalamarides, senior vice president for Prudential Retirement, a unit of Prudential Financial Inc., Newark, N.J.

Mr. Kalamarides said the recent DOL request for information should “lay the groundwork” for greater sponsor acceptance of lifetime income options.

Many companies offering annuities as an investment option either lack a defined benefit plan or have closed the plan to new employees, consultants say.

At Rogers Corp., “the decision to freeze the DB plan was a financial one,” said Ms. LeVan. “Adding an annuity product to the DC plan was part of the long-term strategy.”

Her company added the annuity to the 401(k) lineup, which has 15 investment options, partly because employees “were passive in their investing,” she said. “We wanted to help them be better prepared for retirement.”

Ms. LeVan said about 4% of the DC assets are invested in IncomeFlex. The option is available to employees 50 and older, according to terms set by Prudential, Rogers' bundled provider.

Because many DC participants are in the frozen DB plan and because younger employees aren't eligible for the annuity, Ms. LeVan said it will take time to determine the product's acceptance. Rogers didn't set an asset goal or participant goal, and Ms. LeVan said she is pleased with the turnout so far.

A frozen DB plan and a desire to add income protection prompted Knauf Insulation, Shelbyville, Ind., to add an annuity as an investment option in its now-$83 million 401(k) plan in June 2007, said C. Ian Laswell, finance director. Knauf closed its DB plan to new employees in 2004.

Mr. Laswell estimates the annuity component accounts for about $14 million, or about one-sixth of total plan assets. Knauf uses an in-plan annuity from Prudential, which also is the company's record keeper.

Of 1,100 participants in Knauf's plan, 425 are eligible for the annuity, and 75 are investing in it. “We had no pre-set goal for a participation rate or assets (in the annuity), although I'd like to see a higher rate,” Mr. Laswell said. The average Knauf employee is 51 years old, and the company has a “heavily-tenured staff,” Mr. Laswell said. The plan is restricted to people 50 and over.

A “pleasant surprise” at Paychex was the interest in the annuity among younger workers, said Mr. Kuchta. The average age at Paychex is 37, and he figured participants most interested in choosing the in-plan annuity would be over 50. Yet employees between ages 21 and 30 account for 38% of those choosing the annuity. Those 21 to 35 account for 61%.

A series of focus groups with employees convinced Mr. Kuchta to investigate an in-plan annuity. Recalling an employee meeting in Cleveland, Mr. Kuchta said: “I asked how important is this to you and almost every hand went up. It was a real wake-up call.”

Mr. Kuchta said $5.4 million has been invested in the annuity option. “We didn't set a goal because it was so new,” he said. “We're happy with the turnout.” The Genworth annuity is one of 27 investment options in the Paychex plan.

Prudential and Genworth, meanwhile, have adjusted their offerings.

Prudential dropped the age-50 minimum for IncomeFlex Target, introduced in March 2009 — an annuity tied to a Prudential-provided asset allocation fund or a target-date fund. Genworth originally set its payments when a participant reached age 65; now it gives an early retirement option at 55 with a reduced payment.