Why Employers Should Think Twice About Adding Annuity Payments to Their §401(K) Plan

Tax Management Compensation Planning Journal

Now that §401(k) plans have replaced traditional pension plans as the overwhelming type of employer-sponsored type of retirement plan, there is a growing concern that many employees are not equipped to make informed and appropriate decisions regarding the retirement savings that they have accumulated in a §401(k) plan. This concern is part of a broader set of societal quandaries, sometimes referred to as a lack of ‘‘financial literacy,’’ one of the other manifestations of which is a wide-spread failure of Americans to properly save for retirement at all.1 As a way of helping to alleviate the financial literacy problem, some have urged increasing the availability of annuity payments in §401(k) plans; however, burdensome requirements under the Internal Revenue Code and the Employee Retirement Income Security Act of 1974 (ERISA) dissuade many employers from taking this step, and the SECURE Act recently passed by the House does not go far enough in reducing the regulatory challenges.

The investment aspect of improving retirement savings has been addressed, in some measure, during the period prior to retirement, by the inclusion in §401(k) plans of so-called target date, or life cycle, funds. These funds eliminate the need for employee investment decision-making by altering the balance in the funds between equity investments and nonequity investments, in favor of increasing conservatism, based upon an employee’s proximity to retirement age. Target date funds have become prevalent as a ‘‘qualified default investment alternative’’ under Department of Labor Reg. §2550.404c-5. Under this regulation, which affords a plan’s fiduciaries partial protection against claims for breach of fiduciary duty, target date funds are permitted to act as a default investment, where a plan participant fails to make an affirmative election among a §401(k) plan’s investment alternatives.

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“Why Employers Should Think Twice About Adding Annuity Payments to Their §401(K) Plan,” by Daniel L. Morgan was published on June 7, 2019, in the Tax Management Compensation Planning Journal (Vol. 47 No. 6), a Bloomberg Tax publication by The Bureau of National Affairs, Inc. Reprinted with permission.