Archive for the ‘Defined contribution’ Category

Target date funds – a fiduciary the review process is crucial

July 2nd, 2014 No comments

Jeff_MarzinskyRetirement plan participants are often told that target date funds (TDFs) are a “set it and forget it” investment. Many sponsors have similar feelings when selecting a TDF series. Still, it is important for them to constantly monitor the fund series subsequent to its initial review. Sponsors need to focus on fees, asset allocation along the glide path, performance, and expenses. Looking at a combination of indexes and peer groups can offers sponsors better perspective on a suitable investment philosophy.

Plan Sponsor recently published an article focusing on four areas to re-valuating TDFs. In the following excerpt from the article I discussed the importance of reviewing a fund’s investment strategy.

That sort of analysis is especially important because some target-date funds have made significant changes in recent years. Look for issues such as alterations to the glide path, a move from active management to enhanced index or indexing strategies, or switches in the underlying funds, suggests Jeff Marzinsky, a principal at consultant Milliman Inc. in Albany, New York. He has seen sponsors actually replace their target-date funds, mainly in cases of investment underperformance or changes in the funds’ underlying philosophy.

I also provided perspective regarding an increased interest in custom target date funds which offer sponsors control over investment options and asset allocation changes.

…It may be less about many having an employee base different enough to warrant a custom glide path than sponsors seeing it as “a better way to pick the investments,” because sponsors have more control than with off-the-shelf funds.

In a prior article “Considerations in choosing a target date fund” I explored some key aspects of TDFs and issues plan sponsors should bear in mind when selecting and the ongoing monitoring of a TDF series.

Auto enrollment errors are expensive

May 15th, 2014 No comments

Auto enrollment is becoming more popular with employers that sponsor defined contribution (DC) plans. This feature can help increase plan participation, enhance retirement outcomes among participants, and improve discrimination testing results. On the other hand, administrative oversights can prove costly.

In this article, Milliman’s Kari Jakobe identifies two common errors administrators commit related to auto enrollment. She also provides two examples showing the monetary effects that result from these mistakes.

Here is an excerpt from the article:

The two most common failures for auto enrollment plans are: 1) failure to notify employees of the plan provision, and 2) failure to enact the auto enrollment and withhold deferrals on a timely basis, or at all. These failures nearly always result from bad data—incorrect date of hire on a payroll file, for example, a miscoded rehire, or a keying error when entering deferral changes into a payroll system. The possibilities are numerous and the corrections can be costly.

In general, the Internal Revenue Service (IRS) has prescribed corrective action for missed deferrals with less than nine months remaining in the year, requiring the plan sponsor to deposit:

• 50% of missed deferrals
• 100% of missed match
• Earnings at a reasonable interest rate

Consider the scenario shown in Figure 1 of missed deferrals that are due to failure to start the withholding on a timely basis, for a client with a 4% auto enrollment rate and a match formula of 100% up to a maximum of 6% deferred.

Auto enrollment_figure 1

The full correction of $8,937.00 is funded by the employer (not the employee) in the form of a qualified non-elective contribution (QNEC). That means the money is 100% vested immediately and does not count against the 402(g) limit for the participant. Most plan sponsors will choose to communicate the specifics about these corrections via correspondence letters to the affected participants and should be prepared to field an array of resulting questions.

Retirement plans and fees: Get some satisfaction

March 19th, 2014 No comments

Guanella-Jay-EThe balance between value and expense is often a large part of our daily considerations. As a consumer, when we look at the cost of a jar of peanut butter, we consider the quality of the product and the opportunity for satisfaction. The same rationale is true with retirement plans, though satisfaction as it relates to value in a retirement plan product is more difficult to define. At a base level, it could be as simple as answering the question, “Are the participants in the plan satisfied with their projected retirements?” At termination of employment, why does a participant feel the need to move their assets out of the retirement plan that they had previously relied on for several years?

With the new fee disclosure requirements, most plan sponsors are well aware of the costs involved to maintain their plans, including administration and trust/custody fees. These expenses are clearly defined in communications to the plan sponsor and participants. Also included is a listing of fund returns along with operating expense ratios (OERs) for the investments. The OER is the expense charged by the investment to the participant and can vary significantly, not only from fund family to fund family but by similar investments as well.

Savvy investors understand the important role of OER and how different share classes of the same investment can yield different results. Participants in a retirement plan are more likely to experience lower expense ratios than if they invest by themselves in an individual retirement account (IRA). To illustrate the expense, if a plan participant invests $10,000 in a fund with an expense ratio of 0.46%, the cost per year is $46. That same investment at a retail IRA level could have an expense ratio as high as 0.85% or $85 per year. That extra 0.39% in expense directly reduces the return on investment (or satisfaction) for participants. Which raises the question, why are participants so eager to leave the employer’s retirement plan for an IRA?

Perhaps having one investment advisor watch over your all of your retirement funds can be comforting to participants. The number of investment options increase when moving from a retirement plan to a retail product. And the termination of employment can lead to a feeling of separation with the company and retirement plan.

Providing participants detailed information on their post-employment options can help them make informed decisions to maintain retirement satisfaction. It is important for participants to know they may not be required to move their money out of their retirement plans. They may want to consider the expense and features of the plan compared to other investment vehicles and decide where they see the most value for their retirement dollars to maintain that level of satisfaction.

Rewriting retirement readiness: Will the USA Retirement Funds Act amend your plan?

February 21st, 2014 No comments

Copeland-MiraDuring the State of the Union address on January 28, President Obama announced his directive to create “My Retirement Account” (MyRA), a personal savings vehicle. On January 29, Senators Susan Collins and Bill Nelson introduced the Retirement Security Act of 2014, which includes moderate changes to the existing legislative framework for employer-sponsored plans to entice more small employers to sponsor plans. On January 30, Senator Tom Harkin, chair of the Senate Health, Education, Labor, and Pensions Committee, unveiled the Universal, Secure, and Adaptable (USA) Retirement Funds Act. This act would provide for the creation of a kind of “super” multiple-employer plan and would ensure that almost every worker is covered by a retirement plan with both automatic enrollment and annuitized distribution features.

MyRA provides for a supplement to the current retirement system; the Retirement Security Act would modify it; the USA Retirement Funds Act would profoundly alter it. How?

The USA Retirement Funds Act would have a significant impact because all employers with 10 or more employees would be required to offer a retirement plan with automatic enrollment and a lifetime income option. If Milliman’s recordkeeping clients can be used as a representative sample, a quick look would tell us that only 2% of plans currently offer both features, which indicates the substantial majority of plans would be required to be amended if this core provision is enacted.

It’s possible that some employers would choose to terminate their current plans and participate in a USA Retirement Fund rather than amend their current plans. Though automatic enrollment has been gaining popularity since the Pension Protection Act (PPA) codified it in 2006, with approximately 40% of plans now offering it, plans that have not yet adopted automatic enrollment tend to have good reasons for not doing so—participant populations with especially high turnover, for example. Annuitized payment options, however, have been declining. According to one recent survey, only 6% of plans offer a lifetime income distribution option. Of this group, 82% report that less than 5% of participants elect it.

The USA Retirement Funds Act could indeed dramatically alter retirement preparedness statistics: requiring a retirement plan for companies with 10 or more employees would allow access to a workplace retirement plan for many American workers who currently don’t have one; automatic enrollment for all plans would increase the number of people saving for retirement; and requiring annuitized distribution options would reduce the risk of people outliving their savings.

Senator Harkin has designed some intriguing new tires to get Americans moving toward retirement readiness … but will the rubber hit the road? If it does, plan sponsors would be advised to make sure their ERISA attorney is along for the ride.

MyRA versus USA Retirement Funds

February 13th, 2014 No comments

Bleick-TimDuring the State of the Union address, President Obama said, “Let’s do more to help Americans save for retirement. Today, most workers don’t have a pension. A Social Security check often isn’t enough on its own.” He then announced plans to create a new government-backed savings account called MyRA, and he asked Congress to offer every American access to an automatic IRA on the job.

Two days later, Senator Tom Harkin, chairman of the Senate Health, Education, Labor, and Pensions Committee, introduced new legislation: the Universal, Secure, and Adaptable (USA) Retirement Funds Act of 2014. Senator Harkin says the legislation would create a new type of privately run retirement plan that combines the advantages of traditional pensions and 401(k)s.

Numerous studies have shown that Americans are not saving nearly enough for retirement—it’s not even close. So anything that helps in this regard is a good thing. Let’s compare the two proposals.

MyRA is strictly an account balance. An individual contributes after tax dollars to the fund, and the distributions are tax-free at retirement. This is the same concept as a Roth IRA. The fund is backed by U.S. Treasury securities, and the principal is guaranteed not to lose value. When the balance grows to $15,000, the individual must roll the account over to a private Roth IRA. One big stumbling block to MyRA, though, is that employers are not required to set up the mechanism to allow their employees to contribute to the account via payroll deduction. The president does intend to include this provision in his budget for employers who do not offer an employer-sponsored savings plan—a process that would require Congressional approval.

USA Retirement Funds also starts out as an account balance. During working years, it operates just like a 401(k). The principal is not guaranteed, but the funds are pooled and professionally managed. The plan shifts to a traditional pension at retirement, when the fund is converted to a lifetime income distribution with spousal death protection. Employers with more than 10 employees who do not offer a plan with automatic enrollment and a lifetime income option would be required to select a USA Retirement Fund and automatically enroll all employees at a contribution rate of 6% of pay. Employees can opt to increase, decrease, or stop contributions anytime. Employers are allowed to make additional contributions on behalf of their employees. Because it’s an account balance during working years, the plan is completely portable upon a job change.

Could these proposals make a dent in the retirement savings gap of many Americans and increase their confidence level about a secure retirement? MyRA is essentially a new way to set up a Roth IRA, which is currently underutilized. But without requiring employers to automatically enroll their employees, can it make a significant impact? The automatic enrollment feature of USA Retirement Funds can be a powerful mechanism, and some people may like the built-in lifetime income aspect. In addition, USA Retirement Funds could be appealing to small employers who would like to provide a retirement plan but have been reluctant because of the plan administration hurdles.

It’s time to move our retirement savings crisis to the forefront. Maybe MyRA or USA Retirement Funds can get it kick-started.

Guidance issued on in-plan Roth rollovers to designated Roth accounts

January 13th, 2014 No comments

The Internal Revenue Service (IRS) has issued Notice 2013-74, providing guidance on the expanded types of amounts eligible for in-plan Roth rollovers within 401(k), 403(b), or 457(b) governmental retirement plans. These amounts, which became eligible for in-plan Roth rollover treatment in 2013 under the 2012 American Taxpayer Relief Act, include sums that are otherwise not distributable to participants under the terms of the plan, such as elective deferrals, matching contributions and nonelective contributions, and annual deferrals made to 457(b) governmental plans.

The IRS’s new guidance also includes deadlines for adopting plan amendments to provide for these in-plan Roth rollovers of such otherwise nondistributable amounts, as well as rules applicable to all in-plan Roth rollovers.

For more perspective on this new guidance, read this Client Action Bulletin.

Revenue sharing creates disparities in retirement plan fee allocations

December 9th, 2013 No comments

In his paper “Fees: What no one is talking about, round 2,” Milliman’s Doug Conkel revisits the question of “what is fair?” concerning retirement plan fees paid by participants. The paper focuses on the inequalities that revenue sharing produces in retirement plan fees paid at the participant level. Here is an excerpt:

At this point, I think it is blatantly clear that revenue sharing creates disparity in fees paid across participants. But how much disparity truly exists? From time to time, I hear sponsors comment that most of their funds have revenue sharing and the rates are pretty similar, so each participant should be paying a similar fee. To test this assumption, I pulled participant data across five industry segments and calculated the participant-level revenue sharing by multiplying each participant’s fund balance by the revenue sharing percentage for that fund. I then summed the total revenue sharing generated across all funds for that participant and divided the total revenue sharing amount by the total account balance for an individual revenue sharing percentage. Figure 2 illustrates the graphical and tabular results of my findings.


Conkel’s first article, “Fees: What everyone is NOT talking about!,” offers solutions for keeping fees at the participant and fund levels fair.

Judging tax implications of Roth 401(k) contributions

October 29th, 2013 No comments

Guanella-Jay-EContributing to a retirement plan is widely considered a no-brainer if the goal is to attain a meaningful retirement. But the decision on how to invest contributions within the plan can be daunting. Determining what type of contributions to make further complicates things. While tax-deferred contributions reduce taxable income in the year in which they are made, the taxes owed on those contributions as well as the investment earnings are deferred until a later time, possibly at retirement. Roth contributions don’t reduce current taxable income, but the tradeoff is no tax liability on the investment earnings when a distribution is taken (provided the individual is at least age 59½ and has held the account for at least five years).

The decision to contribute to a Roth 401(k) instead of deferring at a tax-deferred level is often based on an anticipation of changes to future tax rates. While this is a personal decision based on future income, several other factors should also be considered. The truth behind the decision is similar to other choices in life, more complicated than we’d like it. For example, the reduction in tax-deferred income can affect tax liability, possibly increasing refunds. If tax-deferred contributions increase a tax refund, how can the “newly found” money be taken advantage of? Depending on a person’s filing status, different advantages or disadvantages may exist.

None of us are fortune-tellers. It’s difficult to predict future income or tax brackets over a period of several years. It becomes even more complex when trying to anticipate things that are out of anyone’s control, such as politicians altering tax rates to address policy changes and deficits. Recent history underscores this fact with significant changes occurring at the top rate, ranging from 50% in 1982 to 38.5% in 1987, 28% in 1988, 31% in 1991, 39.6% in 1993, 35% in 2003, and settling at back at 39.6% starting in 2013 (with rates exceeding 90% at certain points in the last century). Accordingly, depending on when money is taken out of a retirement plan, the tax results can dramatically change over a period of years.

A diversified investment strategy has long been considered a way to optimize investment returns over time while reducing risk. A diversified tax strategy may be equally important. By utilizing tax-deferred and Roth savings options, tax liabilities may be mitigated, ultimately creating more flexibility to reduce individual tax burdens.

Crafting a well-considered loan policy

September 24th, 2013 No comments

Anderson-ChaseOver the past few months, several articles have weighed in on participant loans from defined contribution (DC) plans, nearly all with the same refrain: loans are bad. Some go a bit further: loans must be stopped. One piece, for example, opined that 401(k) loans “should not be allowed in any retirement plan other than for hardship reasons,” calling plan loans “the worst investment anyone could possibly make.”

Ultimately, for plan sponsors looking to help participants adequately prepare for retirement, one primary task is to craft plans that work best for each one’s workforce. Revisiting loan policies in pursuit of those goals—but with sufficient flexibility to encourage maximum participation in the first place—is a good way to start.

The IRS restricts loan amounts to no more than 50% of account balances (generally); repayment to up to five years (except for purchase of a primary residence); and the total borrowed over the past 12 months to a maximum of $50,000 (always). It also allows use of the funds for any purpose.

In addition to those required limits, a sponsor may craft a better-tailored loan policy for its workforce by considering:

• How much (and how often) its participants are borrowing
• Participants’ reasons for loans (if known, officially or anecdotally)
• Deferral rates and account balances
• Relative financial sophistication of plan participants
• Participant input and any other relevant factors

Here are some loan policy terms a sponsor may wish to consider:

Lower limits: Cap loan amounts to less than 50% of vested account balances. A cap of 20% of the vested balance, for example, will help ensure that a participant keeps at least $4,000 invested for retirement for every $1,000 borrowed. (The “help ensure” bit refers to the fact that participants often will qualify for hardship or other withdrawals after taking loans. On that note, plans should consider steps to cut down on hardship withdrawals; a well-crafted loan policy may be just the ticket.)

Faster repayment terms: Limit loan repayment to one year, for example, rather than five years, with a primary residence exception. Requiring faster repayment may also help reduce the instances and severity of loan defaults, under which the outstanding balance is treated as a taxable distribution.

Minimum payments: Require that scheduled loan payments not fall below a specified percentage of compensation—1%, for example.

Waiting periods: Require that any participant who pays off a loan (whether on schedule or with a full payoff) wait a certain specified time—say, 90 days or even a full year—before taking a new loan, to help minimize “revolving-door” loans.

Allow more than one loan out at a time: Although counterintuitive to retirement saving, it may reduce a participant’s urge to take more than his or her immediate need. To minimize the negative impact on retirement savings, this option may be best incorporated with other limits above.

Another approach might allow a participant more than one loan at a time, but restrict the additional loans to loans satisfying special financial-hardship criteria—either as defined by the IRS safe-harbor eligibility for hardship-based withdrawals, or as differently defined by the plan’s document or loan policy.

By taking steps to tailor the plan’s loan policy rather than doing away with loans altogether, a sponsor can strike a good balance between encouraging retirement savings and allowing participants some financial flexibility when they need it.

Tips for promoting a defined contribution plan to employees

September 19th, 2013 No comments

Employers who actively promote and communicate their retirement plans can demonstrate its importance to employees. In Jinnie Regli’s new article, she provides 10 ideas that plan sponsors may use to help employees get the most from their defined contribution (DC) plans. Here is an excerpt:

Get your employees in the plan.
Allow employees to enter the plan on day one. New employees are excited about the new opportunity so get them enrolled from the very start. Hook them in while it’s fresh on their minds so they will be used to seeing the deduction in pay right from their first check. Delayed entry dates tend to lead to employee inertia.

Consider adding an automatic contribution arrangement.
The most effective way for plan sponsors to encourage participation in their retirement plans is through plan design. An automatic contribution arrangement (ACA), more commonly known as automatic enrollment, is a feature that can be added to existing 401(k), 403(b), 457, SIMPLE IRAs, and SARSEP plans. This arrangement allows the employer to automatically enroll a newly eligible participant unless the participant makes an affirmative election not to participate.

When the arrangement is adopted, the plan sponsor selects a default contribution percentage, which is automatically reduced from employee’s wages upon meeting the eligibility and entry requirements of the plan. Participants may “opt out” of this automatic contribution. Studies show most employees will leave their contribution rate at the plan default or even increase their elections. There are alternative methods of automatic contribution arrangements; refer to your plan consultant for more information.

Offer an employer-matching contribution.
Would you walk past a $100 bill on the sidewalk? Would you turn down a work bonus? Most would answer no to these questions. Retirement in this day and age is largely going to be self-funded; offering an employer-matching contribution is like offering your employees a bonus. If your employees take saving for their retirement seriously and contribute, you’ll add free money to their accounts. As an employee it’s next to impossible to turn that down. A recent Wells Fargo survey indicated that 85% of those with a 401(k) offering a company match contributed enough to receive the maximum match. Matching is an effective way to work hand in hand with employees to fund their retirement. If high turnover/low employee retention has deterred you from implementing a match in the past, why not implement a vesting schedule?