There are two retirement risks that cannot be addressed by the asset allocation glidepath of a TDF: longevity risk (the risk that I will outlive my savings) and sequence of payments risk (the risk that markets will tank just when I need my funds). These two risks can, however, be addressed by the pooling that is inherent in any insurance vehicle. That is because pooling puts us in an actuarial situation, where the group can invest and spend as if we will all live to be 85; whereas in an individual situation, we must each invest and spend as if we will live to 100.
A 65-year-old in an individual situation needs to save over 40% more to generate the same income in retirement as an individual who purchases a pooled annuity. This is because the annuity purchaser is pooled with thousands of others.
Fortunately, the SECURE Act's encouragement for annuities not only provides a safe harbor for the selection of the insurance carrier; it also allows for the pooling of resources in "open MEPs" — vehicles that will allow small, otherwise unrelated businesses to pool administrative cost in managing 401(k)s. And when those open MEPs are up and running, they will also be able to use the SECURE Act safe harbor to pool sequence of payments risk and longevity risk.
So imagine you are an employee of a firm with a defined benefit plan that was frozen before you arrived. You know that many of your colleagues have guaranteed lifetime income, provided — in the extreme version of a default option — by the employer's pension plan. So just as your employer can now "default" you into a TDF, don't you think that the TDF should also include lifetime income?
Imagine you are a corporate treasurer or the head of benefits for a company with such a frozen defined benefit plan. How do you answer employees who reach retirement age and say they never saw the fine print that allowed them to buy in-plan annuities. They say, you defaulted me into a TDF; why not into one with a built-in annuity?
Congress has made it easier. It is time for employers and their advisers to act.
Charles E.F. Millard is the former director of the U.S. Pension Benefit Guaranty Corp., and now serves as an adviser to multiple companies. He is based in New York. This content represents the views of the author. It was submitted and edited under Pensions & Investments guidelines, but is not a product of P&I's editorial team.