The biggest shift in pension plan design — especially in the U.S. — is the focus, increasingly, moving defined contribution plans back toward defined benefit features.
The change is more by evolution than revolution, with the goal of creating lifetime income, rather than creating wealth — which has been the focus for many years.
One key evolutionary move is that DC account assets should stay in the retirement plan after a participant retires. It might not seem like a big change, but it can have a significant impact on the retiree's costs and help the plan as well.
Trends in plan design aim to expand coverage and improve outcomes by shifting decisions away from participants, while avoiding what one pension expert called wealth transfers from future generations to the current generation.
The features seek to address “some of the challenges faced by defined contribution (participants and sponsors): inadequate planning and goal setting,” said Susan Czochara, senior vice president and managing director for defined contribution solutions, Northern Trust Asset Management, Chicago. “As we see baby boomers retiring, we are starting to see the ineffectiveness of the transition to retirement in a defined contribution structure.”
Key defined contribution design features that incorporate these trends include:
nautomatic enrollment designed to expand coverage;
nautomatic escalation designed to raise contributions to levels to produce better outcomes in meeting retirement income goals;
nautomatic rebalancing to keep participants on track with their risk tolerances and return objectives;
ntarget-date funds designed to determine age appropriate asset allocation for participants;
nmanaged accounts designed to customize asset allocation for participants; and
nlifetime income options designed to generate a guaranteed payment for the life of a retiree.
“401(k) plans were designed as supplemental plans really to create wealth and have not evolved to fill that void of targeting monthly income and specifically guaranteed income” as defined benefit plans would do, said Tim Walsh, managing director of investment services at TIAA-CREF, Boston.
In terms of setting contribution levels, investment mix, rebalancing allocations and withdrawing assets in retirement, “we are finding participants just aren't doing that” adequately, Ms. Czochara said.
Defined contribution plan executives are moving to address these shortcomings.
“Employers are more and more doing the thinking for employees (such as) with target-date funds, auto enrollment, auto increases (in contributions), things of that nature,” said Kevin Wagner, Detroit-based senior retirement consultant with Towers Watson & Co.
The features take their inspiration from the defined benefit plan model of sponsors enrolling all employees and sponsors contributing at levels to have the necessary funds to pay projected benefits as well as sponsors paying out benefits in the form of annuity payments for the life of the participants.
“For defined contribution plans to be an effective retirement savings vehicle, there has been recognition ... auto features need to be put in place,” Ms. Czochara added.
Many “plan sponsors have not adopted auto escalation,” said Jeff Eng, New York-based director, retirement income solutions, Russell Investment Management Co., Seattle. “We know from most research ... most plan participants are undersaving to be able to meet their retirement income needs.”
“Auto increases in contributions make total sense,” said Keith Ambachtsheer, director of the Rotman International Centre for Pension Management and adjunct professor of finance, at the Rotman School of Management, University of Toronto, and founder and president of KPA Advisory Services Ltd., a Toronto-based strategic consulting firm to pension funds and other asset owners. “Auto enrollment makes total sense” as well as providing for some lifetime income options in the decumulation phase when participants retire, he said.