Adding guaranteed annuity options inside of defined contribution plans is gaining momentum, according to a report from Financial Research Corp., Boston.
These are "in-plan" products that participants can understand and that will create guaranteed income sources, says Luis Fleites, FRC vice president and director of retirement markets research and author of the report.
Group variable annuities and traditional fixed annuities have already been offered as options in a small percentage of defined contribution plans, he points out. But those annuity products are not leveraged for annuitization, he says.
"They are being used primarily for accumulation within the DC plans," Fleites says. "So, when employees leave the plan, they typically roll the money into an IRA or take lump sum distribution."
What's new is that product manufacturers have begun designing DC annuity options specifically for the purpose of providing retirement income. Fleites terms these "income annuities" or "guaranteed annuity options."
The report, "Guaranteed Annuities in Defined Contribution Plans: Current Products and Future Prospects," explores 4 such options (see chart) and mentions others.
"In-plan" products offering guaranteed retirement income will likely emerge as an asset class in their own right, predicts Fleites. Paving the way are firms that are already working to make retirement income a part of asset allocation strategy, he observes.
Record keepers–which run and administer DC plans–are already voicing "significant interest" in the trend and some are currently conducting due diligence on these products, says Fleites. In fact, an FRC survey conducted in May 2007 found that 78% of record keepers believe annuities designed for DC plans should be part of their solution set, and 67% said they are now improving or developing these types of products. (See table)
Large corporate plans will likely be early adopters, too, perhaps followed by investment and actuarial consultants who work with the large plans, according to Fleites.
Will advisors distribute these products, as well? Yes, advisors will play a significant role in bringing the products to the small and mid-size 401(k) plans, he says, adding that the small/middle market represents a significant chunk of the defined contribution market, "so there should be definite growth opportunities here."
But first, traction needs to develop among the larger players, which he says have the necessary size and sophistication to foster momentum. Their adoption of the products will help build greater awareness and understanding, he says.
"Also, advisors will need time to learn about these income products, their appeal and benefits," he says.
Some advisors will need to overcome their own resistance to the products, Fleites adds. Using income annuities and annuity-like products inside a 401(k) represents a change from traditional asset allocation, he explains, and "well-entrenched advisors will need to consider whether they want to change, in order to offer these products."
