Predictable lifetime income is often of paramount concern to retirees. Yet, as employer-sponsored retirement plans have moved away from the traditional pension plan model, participants in defined contribution plans may be faced with managing their own account balances and plan distributions, which may not lead to a steady stream of lifetime income in retirement. The Setting Every Community Up for Retirement Enhancement Act of 2019 (the “SECURE Act”), signed into law on December 20, 2019, may aid in securing retirements. Employers who sponsor defined contribution retirement plans, such as 401(k) plans, now have: (1) new participant disclosure obligations; (2) the ability to adopt certain portability design features related to lifetime income investment options; and (3) guidelines to encourage inclusion of lifetime income investment options in plan investment line-ups.
Lifetime Income Disclosures
For participant statements furnished more than one year after the last applicable guidance (including interim final regulations, model disclosures or assumptions) issued by the Department of Labor, employers must include in at least one participant benefit statement issued during any 12-month period a lifetime income disclosure. This disclosure will be required regardless of whether the employer’s plan includes a lifetime income or annuity distribution option. The purpose of the disclosure will be to set forth the lifetime income stream equivalent of the participant’s total account balance under the plan (i.e., to provide an estimate of what the participant could receive from the plan if their benefits were paid in the form of a qualified joint and survivor annuity (assuming a spouse of equal age to that of the participant) or single life annuity). Requirements for model disclosures will include (a) provisions that the lifetime income stream is only an illustration, (b) an explanation that actual payments pursuant to a lifetime income stream purchased with the account balance will depend on numerous factors, and (c) an explanation of the assumptions used in the illustration. When guidance is issued, plan sponsors will need to determine if these disclosures necessitate additional communications to plan participants, especially if an annuity is not actually an option for a plan distribution. It remains to be seen whether this disclosure obligation will be useful to participants, and whether it will become a factor which leads to the proliferation of available lifetime income distribution options.
Portability of Lifetime Income Options
The removal and replacement of a lifetime income investment as a plan option can lead to the imposition of fees associated with the discontinuation. At the same time, prior to the SECURE Act, participants in defined contribution plans could request an in-service plan distribution only in limited circumstances if the plan so allowed—thereby preventing a participant from avoiding fees or preserving the otherwise discontinued investment through a distribution or rollover. Effective for plan years beginning after 2019, the SECURE Act addresses these issues by providing for certain allowances where a lifetime income investment ceases to be an option under a qualified defined contribution plan, a 403(b) plan or governmental 457(b) plan. In such cases (except as otherwise provided in the SECURE Act guidance), the plan may allow certain qualified distributions to another employer retirement plan or individual retirement account, or may allow distributions of a lifetime income investment in the form of a qualified plan distribution annuity contract, if made within a 90-day period ending the date that the investment is no longer authorized to be held as an investment option under the plan. This flexibility should not only allow participants invested in such de-selected options to avoid certain fees, but should also assist plan fiduciaries responsible for deciding whether to remove or replace lifetime income options.
Fiduciary Safe Harbor for Selection of Lifetime Income Provider
Plan fiduciaries must prudently select and monitor plan investment options. Though existing regulations provide a safe harbor with respect to selection of an annuity provider and a contract for benefits distributions from a defined contribution plan, there remains uncertainty among plan fiduciaries regarding their potential liability in connection with selecting a lifetime income provider such as an insurance company. The SECURE Act specifies optional measures that a plan fiduciary may take in selecting an insurer in order to fulfill its prudence requirements vis à vis assessing the insurer’s ability to satisfy its obligations under the contract. While the new guidance is not definitive in that it neither establishes minimum requirements nor provides the exclusive means for satisfying requirements, it identifies prudent measures that include: engaging in an objective, thorough search for potential insurers, evaluating the financial capacity of the insurers and the costs of the contract, and concluding that at the time of the selection the insurer is financially capable of meeting its obligations and that the costs are reasonable. This diligence will require determining that the insurer: is licensed; at the time of selection (and for each of the preceding seven years) operated under a certificate of authority from its state Insurance Commissioner that was not revoked or suspended; has filed audited financial statements and undergoes requisite exams, maintains applicable reserves, and is not operating under an order of supervision, rehabilitation or liquidation. Plan fiduciaries are not required to select the contract with the lowest cost. The protections do not extend to the terms of the underlying insurance contract, which still requires a separate fiduciary analysis.
Plan sponsors and fiduciaries should monitor the issuance of further guidance concerning the required disclosures, so that timely measures can be taken to ensure compliance. In addition, if plan sponsors and fiduciaries have not already considered offering lifetime income options through a defined contribution plan, the new guidance presents an opportunity to weigh the pros and cons.