Client Service May 16, 2024

NQDC Complications and Best Practices

Experts point out common points of confusion plan administrators and participants should watch out for in nonqualified deferred compensation plans.

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While nonqualified deferred compensation plans are a valuable benefit program, they can also pose unexpected complications for plan administrators and executives, according to commentary made during a webinar Tuesday held by law firm McDermott Will & Emery.

NQDC use has been on the rise in recent years as plan sponsors look for ways to both draw and retain top talent. NQDCs can be offered as an add-on to a 401(k) savings program and, as they are not subject to discrimination testing under the Employee Retirement Security Act, can be offered to select groups of employees.

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But just because NQDCs are not under ERISA does not mean they don’t have complications for advisers and sponsors that can, at times, even hinder use, according to Mark Maizel, executive director of nonqualified plans at Graystone Consulting, Morgan Stanley.

Asset Management

One area of concern can be asset liability management of the plans to ensure that participants have access to the funds when they want them.

“I think on the asset liability side it’s just foresight,” he said. It’s important to work with “a consultant that can help you not only on the back stuff, but with all the same due diligence and rigor that you do on the investment side with 401(k) in terms of monitoring expense ratios, looking at performance, looking at the best-in-class funds you may have in there.”

If assets will be set aside, it’s important that asset liabilities are in a tight range, according to Maizel. He said he ensures those parameters are set up front with all his clients to avoid any panicked calls from a CFO or treasurer about rebalancing.

“We know what the terms are, and then we constantly monitor that, so that the system is rebalancing daily participant money,” he said. “The corporations can move money as they set aside money in a rabbi trust. Coordination and integration of that is evaluated by the administrator obviously daily, and then we look at it monthly and quarterly from an investment standpoint and from an asset liability standpoint.”

Participant Needs

Brian J. Tiemann, partner, Chicago at McDermott Will & Emery, said a common “panic call” he receives is when a participant’s circumstances have shifted. They may have made an election at a certain point, but then their situation may have changed. Sooner or later, that participant may want to take advantage of a different choice for the investment’s use than originally planned.

“It certainly can be frustrating for them and disappointing to know that there is a certain amount of inflexibility when we get to that point,” he said. “Communication is such an important piece, especially repeated communication for those that are in the plan over multiple years.”

Tiemann said consistent communication is important so that participants don’t end up in a surprise situation where they have fewer options to change things or be surprised by the tax treatment of the distributions.

Lisa Loesel, partner, Chicago at McDermott Will & Emery, stressed the importance of having people understand the flexibility issue of NQDC plans.

“When rolling out of a plan you have a lot of flexibility, and you can give folks a lot of options,” she said. “When you have a plan that has a lot of these bells and whistles and participants do enrollments for a couple years, they start to think of those options as being something that will always be available to them.”

That’s where a 409A comes into play, Loesel said, referring to a section of the Internal Revenue Code that governs NQDC plans. That rule can make things “really, really stickybecause participants are often locked into their choices. Even though a 409A gives them the option to potentially change some of those decisions, the rules are so complicated that a lot of plan sponsors don’t offer these adjustments.  

“We’ve seen some bounce back to a more simple design just because I think the additional complexity sometimes harms people more than it helps them,” said Loesel.

Products & Services May 16, 2024

Do Managed Accounts Need a Rebrand?

A Cerulli white paper finds participants in managed accounts are more confident in their finances than those not using them.

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Managed accounts appear to work well for participants who use them, but may still be “lost in translation” when it comes to uptake and use, according to a new white paper by Cerulli Associates sponsored by the managed account provider Edelman Financial Engines.

To approach the subject of defined contribution managed accounts—which, for a fee, offer plan participants more personalized investing along with advice—the researchers sought to focus on users versus non-users, drawing on a sample of 823 active 401(k) plan participants across a range of age, gender, total investable assets and retirement assets.

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Brendan Powers

“DC-managed accounts have been around for a long time, and everyone knows what they are in the industry,” says Brendan Powers, director of product development at Cerulli. “We wanted to tackle the perspective of the end client, the 401(k) participant …. to look at managed accounts through that lens to help the industry better position them as a solution.

What the researchers found was a stark contrast between 401(k) savers not in managed accounts versus those who leverage them, as shown through these statistics:

  • 16% of non-managed account users reported feeling confident in their retirement investment strategy, as compared to
  • 47% of those using managed accounts reported feeling very confident in their retirement strategy.

In the meantime, Cerulli found that a little over half (53%) of participants would prefer an employer-selected advice solution if they had access to one.

Those signs would point to strong uptake of managed accounts; but growth, while strong recently, has been somewhat slow in DC managed accounts as compared to those outside of workplace retirement plans. As of year-end 2023, the top-nine DC managed account sponsors held $470.6 billion in DC AUM, according to Cerulli data.

Misunderstood Manager

Where, then, is the disconnect? According to Powers, the issue may be one of misunderstanding among participants—and potentially plan sponsors—about the human advice element of managed accounts that go beyond investment outcomes.

“Those that use a DC-managed account really value the ability to talk to someone—the investment piece is important, of course, even critical—but the ability to have someone listen to your goals, aspirations, and challenges is crucial,” he says. “That is where people can be helped to not make emotional, rash decisions or mistakes—and a lot of folks don’t know that [managed accounts] give them access to that.”

To back up that thesis, Cerulli points to the fact that 50% of managed account users point to the human-to-human interactions offered through the solution as the most valuable feature. That was followed by being offered comprehensive financial services (26%), having access to sophisticated investment strategies and products (22%), the fees paid—lower than an individual financial planner—(19%), and the ability to offload financial responsibilities (18%).

Powers notes that not all participants will want or need the human advice component of a managed account, either because they will do it on their own or because they’re going to work with an individual adviser. But, he argues, there is a large swath of people who could benefit from a relatively low-cost advice option, with 70% of those being surveyed feeling an adviser would do a better job with their finances than they can.

“DC-managed accounts is not the right solution for everyone,” he says. “But there is an underserved group that doesn’t understand selecting investments and may have bad habits related to emotional and cognitive decisions around finances. An adviser will cost them up to 200 basis points, and they may feel that fee is too high, and they can’t afford it; DC-managed account fees in comparison are very, very low.”

When addressing cost, often the key knock against managed accounts in terms of eroding overall retirement savings and security, Powers agrees that plan fiduciaries are very “cost conscious” and focused on whether the fees are worth it against a target-date fund and free educational resources. That conversation, he says, comes down to the value and potential piece of mind of access to advice.

“For many who are cost-conscious, they may ask whether something like a robo adviser is worth it, but when they learn, they can speak to a human adviser it’s not just about the cost, but the value that they can get from that interaction,” he says.

Benefit Focus

In its current state, Cerulli believes the market frames up managed accounts only as an investment benefit to provide better risk-adjusted returns and to combat volatility. Instead, it advises emphasizing the product along three key pillars:

  • An “employee benefit” that includes both investment product solutions and human advice;
  • a lower-cost alternative to advice solutions when compared to external options; and
  • an employer-approved program that is being provided after a selection process.

Participant education, according to the findings, may need to take an even further step back when it comes to understanding and engagement. About 50% of participants gave the incorrect definition of a managed account, 39% gave an incorrect definition of a TDF. That compared to 29% giving the correct definition of a managed account and 33% giving the right definition of a TDF; another 21% weren’t sure what a managed account was, and 28% weren’t sure about the definition of a TDF.

Of course, a push toward managed accounts may not sit as well with financial advisories seeking to provide individual, holistic services. But Cerulli also points to the fact that many participants (41%) don’t believe they have enough investable assets to merit hiring an external adviser. For this group, Powers argues, the solution may be a good option.

“We think the industry at large could take a better position on discussing DC-managed accounts to help educate those participants who don’t understand the jargon,” he says. “There are segments of investors who can really use this service and we believe managed accounts are a great solution for plan sponsors to have in their toolkit.”

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