The Problem

In recent years, policymakers have become increasingly aware of the issues created by increased longevity and by the accumulation of retirement savings in defined contribution plans and rollover IRAs. The policy concern is that retirees will underestimate how long they will live, or will overestimate how much to withdraw each year, and will end up without retirement income in their old age, other than Social Security. 

However, the current data suggests that the opposite may be true for most retirees, where the fear of running out of money produces the opposite result—under-withdrawing and, as a result, having a lower standard of living than they could afford. For example, the required minimum distribution (RMD) rules, which is the most common withdrawal method, produces such result. Either way—running out of money in old age or under-withdrawing in the earlier retirement years—isn’t a desirable outcome.

The Response by Policymakers

As a result, Congress included provisions in the SECURE Act of 2019 and SECURE Act 2.0 of 2022 to encourage guaranteed retirement income products, such as annuities.

The SECURE Act of 2019

The SECURE Act of 2019 (the Act) created a safe harbor for retirement plan fiduciaries to select and monitor insurance companies that provide guaranteed income benefits to plan participants. Under that safe harbor, fiduciaries only need to ask for and receive certain information from insurance companies in order to be protected. The Congressional intent was to make it easy for plan fiduciaries to offer guaranteed benefits, such as annuities.

While fiduciaries still have the responsibility to review and consider the features of different annuity contracts, the more difficult process of selecting an insurance company was greatly simplified—fiduciaries just need to obtain responses to a series of questions listed in the statute.

The SECURE Act also included a provision that, if a plan decided to stop offering a guaranteed benefit (e.g., due to a change to a new recordkeeper who couldn’t administer the contracts), a plan could treat that as a distributable event for the affected participants, even if those participants were under age 59½. In that case, either a participant’s annuity could be distributed as an individual retirement annuity (IRA) or, if the guaranteed benefits were in a group arrangement, they could be rolled over to an individual retirement annuity with the same insurance company. That legal change was in response to concerns by plan sponsors that participants could assert fiduciary violations if they had paid for an insured benefit but then lost the protection.

The Act also mandated that participants be given lifetime income illustrations each year.

The Act also mandated that participants be given lifetime income illustrations each year based on their account balances. The concept was that if participants were made aware of the retirement income that their accounts could produce, they would have a better chance of knowing if they were saving enough, and they would begin to think of their account balances as a source of income.

SECURE Act 2.0

The SECURE Act 2.0 had a number of provisions affecting retirement income, although none were as significant as those in the original SECURE Act.

• This Act removed certain RMD barriers to the use of annuities. For example, the RMD rules now apply more reasonably to annuities that have guaranteed annual increases of 1% or 2%, return of premium death benefits, and period-certain guarantees for participating annuities.
• SECURE Act 2.0 increased the limits on amounts that IRAs and defined contribution plan accounts could use to buy Qualifying Longevity Annuity Contracts (QLACs). Before the Act, the limit was 25% of the account balance. The Act repealed the 25% limit and allowed up to $200,000 (indexed) in premiums. The amounts in a QLAC are exempt from the RMD rules. The statute also facilitates the use of QLACs with spousal survival rights to participant accounts and IRAs.
• Before SECURE Act 2.0, the law required that, for RMD purposes, the required amounts had to be calculated separately for the annuity part and the rest of the IRA or plan account. The Act now permits the total RMD to be calculated and reduced by the annuity payments with the remainder being taken from the non-annuity part of the account. That’s significant since, during the early years of distributions, the annuity payments may be more than the annuity’s proportionate share of the required distributions.

Consideration for Financial Professionals

As long-term 401(k) participants retire, they are faced with the difficulty of creating sustainable lifelong retirement income, regardless of whether they live 10 years or 30 years or more in retirement. That “calculation” involves considerations of unknown life expectancies, investing for withdrawals (where volatility may be harmful), sustainable withdrawal rates, and spending patterns that may vary from early retirement through later retirement years.

Since few retirees have the knowledge to navigate those uncertain, and potentially treacherous, waters, financial professionals and financial service companies need to provide the services and products to support sustainable lifetime income for retirees. That involves investing and withdrawing prudently so that 90- and 100-year-old retirees don’t run out of money, but also so that retirees don’t have lower-than-necessary standards of living in their early and mid-retirement years. The sweet spot is a financial plan, with the appropriate products and services, that supports a reasonable standard of living in the early years but is still providing adequate income for long-lived retirees.

Those products and services can range from annuities (accumulated in a retirement plan and/or acquired at retirement), to retirement income managed accounts, to retirement income mutual funds, and other products. With the aging of America, financial professionals need to have a smorgasbord of products and services, and then use a combination of services and products appropriate for the particular retiree.