The Inside Story

Like many retirement plan advisers, Sandy Gehler and Dana Corbett struggled with the question of whether to offer a guaranteed income product to their clients’ plans, which total $785 million in assets under management. The partners at The Corbett Gehler Group of Robert W. Baird & Co. Incorporated, in Madison, Wisconsin, eventually implemented Prudential’s IncomeFlex product in one of their plans, a $16 million plan with half of its participants older than 50. Although Corbett and Gehler acknowledge some of the disadvantages of products like IncomeFlex—the cost, the difficulty explaining it to participants—they also see the benefits, and anticipate a best-practice shift toward providing a guaranteed minimum withdrawal benefit (GMWB). “Plan sponsors are starting to realize they may have a responsibility to help their participants pass their working years into retirement,” Gehler says. However, she says, a plan needs to have the right demographics, which, in the case of IncomeFlex, means an older demographic. Corbett says plan sponsors are not expressing much interest in these products yet. “They’re not jumping up and down,” he says. “As the product becomes more widely used, plan sponsors’ interest should increase.”

In-plan guaranteed income products, as they are often called, look like any other investment on a 401(k) plan lineup. They consist of either variable or fixed-income annuities and, like any annuity, they offer a guaranteed income stream in retirement. In-plan variable annuity products feature a GMWB that guarantees a floor of income, with the potential for market growth. The fixed-income annuities allow participants to purchase a cut-and-dried future income stream (see “The Fine Print”).

Although industry experts acknowledge that this handful of products—some right off the assembly line and others already available for a couple of years—could represent a meaningful step toward assuring reasonable retirement income, most also articulate concerns about the products, including cost, availability, portability, and a lack of participant understanding of the investment. Some advisers already have overseen the implementation of such options in plans, and others are waiting it out for a little longer, especially because the sponsor demand is not strong. Todd Feltz, President of Feltz WealthPLAN in Omaha, Nebraska, says there is so much going on in the 401(k) space that sponsors just might not have gotten there yet. “We’re not finding people are asking for it—and it doesn’t seem like the level of excitement is that great, he says. “I’d say it’s probably because it’s fairly new.”

From the Factory

Unsurprisingly, providers say these products are well-received in the market. It is not fair to quantify which has been the most successful, as some are just now being implemented in plans and they are geared toward different parts of the market (and providers that have not yet launched a product are probably writing the brochure). While it is “too early to tell” since John Hancock’s January launch of Guaranteed Income for Life (GIFL), Ed Eng, Senior Vice President of Product Development at John Hancock Retirement Plan Services, says 50% of 6,000 plan sponsors considering plan proposals indicated they would elect GIFL if they buy a John Hancock plan, and 350 new plans already have done so (it is not yet available to existing plans). GIFL is largely adviser-driven, unlike some products not housed in the smaller market, where advisers play a large role.

The Hartford targets its Lifetime Income fixed-income annuity toward Fortune 1000 companies but foresees moving into the smaller market eventually, says Patricia Harris, Assistant Vice President of Institutional Investment Products. “We feel like we’re right on the cusp of having much broader acceptance on the market,” she says. Genworth Financial is implementing ClearCourse in plans on a regular basis, focusing on distribution partnerships, says Fred Conley, President of Institutional Retirement Income Group at the firm. George Castineiras, Senior Vice President, Secure Retirement Solutions at Prudential Retirement, says IncomeFlex has garnered more than $65 million in assets since its January 2007 launch. MetLife’s Personal Pension Builder, which is offered in 401(k) plans managed by The Retirement Group at Merrill Lynch, is concentrated more in the mid to large sections of the market. Like The Hartford Lifetime Income, Personal Pension Builder is not adviser-sold, and has been added to two dozen Merrill Lynch plans, says Jody Strakosch, National Director of MetLife Institutional Income Annuities.

Providers say their research showed interest across all generations in a guaranteed income stream, prompting many of them to offer products to all ages. In focus groups for developing The Hartford Lifetime Income, the company found that people in their 30s were interested in the product in order to build their own pensions, says Harris. Younger participants might have incentives to purchase earlier: As with any annuity, shares of The Hartford product are less expensive for younger buyers. Genworth’s ClearCourse product offers a higher percentage guarantee for younger participants. Contrastingly, Prudential markets IncomeFlex exclusively to the 50 and older crowd, but is looking toward developing a separate product for younger participants, Castineiras says. Implementing guaranteed income products with younger participants is met with hesitation by advisers. For instance, Gehler and Corbett—who use IncomeFlex—say the additional product fee does not seem justifiable in younger participants.

’Til Death Do Us Part

MetLife’s Strakosch estimates that only about 1,500 plans are using in-plan annuities—a very small sliver on the playing field. Strakosch can understand why advisers at the smaller end of the market might be hesitant to implement guaranteed income products in their plans: “Why would they be willing to take a new product and put that in without broad market acceptance?”

That, of course, might also be one of the reasons plan sponsors are not rushing to offer these investments, which could extend their fiduciary liability to after the participant exits the plan. “How do you know that the company you’ve picked today will be there to deliver the benefits tomorrow?” says Richard D. Glass, President at Pittsburgh-based consulting firm Investment Horizons, Inc., which specializes in mid-size to large plans. “These are not short-term promises, these are long-term promises.” Employee Retirement Security Act (ERISA) requires a plan sponsor to ensure plan fees are reasonable, but the limited market from which to select these products makes them difficult to benchmark. One thing to consider, Glass says, is the rate of the annuity within the product. What is competitive right now might not be competitive in 30 years, and sponsors must consider whether it is responsible to lock participants into an annuity, he adds. Despite their many concerns, advisers also have said that, like lifecycle funds before them, the bigger fiduciary problem could be not having these products at all.

Anthony M. Franchimone, Managing Partner at The Founders Group, a National Retirement Partners member firm with 40 plans and about $3 billion under management, says right now he is hesitant to make his plans “guinea pigs” by using in-plan annuities. He is skeptical about putting one product in the plan to suit every participant. “At this point, most of the companies and/or vendors that are putting these into place are putting in a single one-shoe-fits-everybody product, and I’ve got a very big problem with that,” he says. “That allows [the providers] to essentially charge higher fees. Sooner or later down the road, if in fact they get better pricing on these, and they actually make three or even four different annuities in their lineup, then it might make sense.”

Yet, if plans ever offer more than one in-plan annuity, it won’t be any time soon, says Luis Fleites, Vice President and Director of Retirement Markets at the Financial Research Corporation (FRC), which recently did a report about guaranteed income products within 401(k)s. The report concluded that the products are gaining traction in the market and the forefront issue is communicating them to participants.

The “G” Word

Fleites says the first step in facilitating more widespread acceptance of guaranteed income products is to eliminate the negative perception of annuities and to make sure participants fully understand what they are buying and what they can expect at retirement—as well as how much to allocate to the products. Many providers choose to stress the word “guarantee’ and often relegate the word “annuity” to the fine print in marketing materials. Have no doubt these products are variations of annuity contracts—but it’s the same old story of “annuity” being perceived as a bad word because of high pressure sales pushes, high administrative expenses, sometimes lackluster returns, and inflexibility in availability of funds. “We really focus hard on not announcing it or bringing it to market in the context of an annuity,” says Prudential’s Castineiras.

However, some question whether “guarantee” is really the better word choice to educate participants. Recently, AllianceBernstein conducted preliminary research about how to communicate complex guaranteed income products to investors who might not have access to an adviser. In all focus groups, the word “guarantee” raised suspicion in between 75% and 85% of participants—mainly the less sophisticated investors. While the company is still in the research phase, the finding led the firm to revise its choice of language about these products, says Cathy Peterson, Senior Marketing Director at AllianceBernstein. She says, “In the words of the participants: “It’s just too good to be true. Nothing is guaranteed in life.””

The word “guarantee” is misleading and does not help the “average Joe” understand retirement more efficiently, says Jason Chepenik, Managing Partner of Chepenik Financial, in Orlando, Florida. People see “guarantee’ and might believe it without doing their homework to understand it, continuing the legacy of poor financial literacy in America, he says. “In the world of fiduciary oversight, having this “guarantee” on the plan puts me at risk and every plan sponsor at risk,” he says. Chepenik isn’t opposed to employing the products in his plans; he just thinks there should be more discussion about them. “Everyone says it’s the next best thing, but we need to question, “Is it really?”” he says. Chepenik recommends that the industry better educate 20- and 30-year-olds about annuities, rather than shun the term. Feltz, who advises 22 plans totaling $50 million, avoids using the word “annuity,” preferring to call these products “portfolio insurance.” While he recognizes some of the reasons annuities have a bad rap, the bottom line is: “If the annuity component keeps people in the market, I’d say that’s a good thing.”

Coming Soon

While the industry waits to see whether these products ultimately adhere in the adviser practice, stay tuned for some enhancements, including a qualified default investment alternative option from Prudential. John Hancock’s product, currently available as an addition to its lifecycle funds, hopes to expand its fund offering as well. Despite the likely enhancements in second- and third-generation products, as Hartford’s Harris points out, “Insurance companies need to keep in mind that, in this market, we need to maintain the simplicity of the solution.” She adds, “You really need to have a financial adviser alongside each participant to understand what each product is.”

The Fine Print: In-plan guaranteed income products

The Hartford Lifetime Income

Product type: Deferred fixed-income annuity
Description: Participants purchase shares worth $10 of monthly income in retirement.
Sold through: Several recordkeepers
Fee: No ongoing fee; the fee is embedded in the purchase price; costs of shares varies with age (i.e., $135 at 25 and $794 at 55)
Portability: Employees can leave their account in the employer’s plan, receive a certificate of monthly income, or continue to purchase shares through a Hartford IRA. Before income payments start, participants can receive 96% of the cash-out value of shares (number of shares times the current price of shares); no withdrawals after payments start.
Income start date: Any time prior to age 70
Income amount: Each purchased share is worth $10 of guaranteed monthly income that can begin at age 65.
Participant age: All
Contribution method: No minimum contribution; available through payroll deductions or other exchanges from other investment options
Income payment frequency: Monthly
Upside potential: Optional inflation protection
Spousal option: Yes
Death benefit: Beneficiary will receive contributions in the event of death before payments start; contributions net of any payments made after payments start.

MetLife Personal Pension Builder

Product type: Deferred fixed-income annuity
Description: Participants have the opportunity to purchase guaranteed pieces of future income in order to, in effect, create their own pension.
Sold through: Merrill Lynch distributes the product as a 401(k) plan allocation option.
Fee: 70 to 100 basis points, depending on the age of the participant
Portability: Employees can receive a certificate entitling them to their future income benefit or they can elect the present value of their future income stream (commuted value); hardship withdrawals are permitted.
Income start date: Income start date follows 401(k) plan rules.
Income amount: Each contribution buys a specific amount of guaranteed future retirement income based on current interest rates and the participant’s age at the time each contribution is made.
Participant age: All
Contribution method: Each contribution buys a guaranteed future income amount; payroll deduction each pay period; minimum contribution of $50; transfer or lump-sum contributions also can be made.
Income payment frequency: Monthly, quarterly, semiannually, or annually
Upside potential: Optional inflation protection
Spousal option: Yes
Death benefit: Pre-retirement death benefit—beneficiary will receive commuted value in the event of death before payments start or may set up their own Personal Pension Builder based on their current age; in-payment status—death payment based on income payment option previously selected.

ClearCourse (Genworth)

Product type: Variable annuity with or without a GMWB
Description: ClearCourse offers two versions: The annuitization benefit allows participants to purchase guaranteed income with an opportunity for step-ups; the GMWB offers participant control over their account balance with the opportunity for step-ups.
Sold through: Recordkeepers, investment managers, financial advisers, and directly to sponsors. The product is available as a stand-alone option, as a target-date transition, or as an asset class within a target-date structure.
Fee: In addition to any investment management fees, 85 basis points for annuitization benefit. Fees vary for GMWB benefit.
Portability: Employees can take the plan balance, leave it in the plan if the plan allows, or roll over to Genworth’s MyClearCourse IRA. Participants can transfer to other investments during accumulation or withdrawal from the balance during payout without surrender charge, but that could reduce the guarantee amount proportionately.
Income start date: Varies by plan, but generally at age 65; participants starting withdrawals before this date receive a reduced guarantee with the annuitization benefit or adjusted withdrawal rates with the GMWB.
Income amount: Annuitization—Each contribution buys a specific amount of guaranteed annual retirement income, with the percentage based on age and never below 6%; GMWB—The withdrawal rate is 5%.
Participant age: Annuitization—all; GMWB—typically age 50
Contribution method: No minimum contribution; available through payroll deduction and transfers
Income payment frequency: The participant selects the frequency (generally monthly).
Upside potential: Annual step-ups are available.
Spouse option: Yes
Death benefit: Annuitization—Before payments begin, the beneficiary receives market value or (in the case of a spouse) can elect to receive income payments; GMWB—Before or during retirement, beneficiary receives account balance.

Guaranteed Income for Life (John Hancock)

Product type: Variable annuity with GMWB
Description: Participants can invest in one or more of eight asset allocation portfolios with downside protection and, once a year, they have an opportunity for step-ups if the market goes up.
Sold through: Advisers, only on the John Hancock platform.
Fee: 35 basis points plus investment management fees
Portability: Employees can receive the market value any time with no penalty fee or can roll over to an IRA. In the event the plan changes providers and a participant is not eligible to roll over, the participant will receive the market value of the account and a refund of up to three years of fees.
Contribution method: Employees can contribute through payroll deduction or lump-sum roll-in. Minimum employee contribution levels are subject to plan rules.
Income start date: Age 59 세 or older
Income amount: Participants are given a 5% withdrawal each year.
Participant age: All
Income payment frequency: Up to participant
Upside potential: Annual step-up opportunities
Spousal option: Yes
Death benefit: If the participant dies, the market value of the account is transferred to the participant’s beneficiary.

Prudential IncomeFlex

Product type: Variable annuity with GMWB
Description: Participants invest in asset allocation funds that include a guaranteed income growth level and downside protection.
Sold through: Financial advisers and directly to sponsors; available through the Prudential and The Newport Group platforms.
Fee: 85 to 95 basis points (depending on specific investments), plus investment management fees.
Portability: Employees can move their guarantees to a Prudential rollover IRA or leave their money inside the plan, or receive the market value at any time with no fee.
Income start date: Age 65 and older (early retirement benefit available between ages 55 to 64)
Income amount: 5% of the Income Base annually (4% if withdrawals start between ages 55 to 64)
Participant age: 50 and older
Contribution method: All sources (payroll deduction, employer match, transfers, rollovers, etc.)
Income payment frequency: As frequently as the plan permits
Upside potential: Guaranteed growth rate of 5% each year, with opportunity for more
Spousal option: Yes
Death benefit: If the participant dies, the beneficiary will receive the market value (unless the beneficiary is a spouse and the participant previously had locked in and chosen to have the lifetime income also apply to the spouse).

Illustration by Dan Page