How Do You Define "Success" for Your Defined Contribution Plan?
For many organizations, defined contribution (DC) retirement plans represent 8 percent or more of compensation - significantly more than is spent on annual payroll increases. Given the magnitude of that investment in their employees, it is surprising how few organizations have paid attention to the overall objectives for their DC plans. And, they have not identified objective, measureable criteria for assessing the success of these programs. In many instances, the design of plans set up years ago has never been subject to a strategic review that can help ensure an adequate return on the organization's investment.
This Spotlight presents an overview of common measures of DC plan success and other, less well-known contributing factors before describing a systematic approach to measuring a DC plan's effectiveness and determining what actions to take to make ongoing improvements. More importantly, it puts forth a process under which the plan can achieve success.
Dynamic Asset Allocation as a Pension Plan "De-Risking" Strategy: The Devil Is in the Details
Pension experts from Sibson Consulting and investment experts from Segal Rogerscasey collaborated on the latest issue of Spotlight, which discusses dynamic asset allocation as a pension "de-risking" strategy and is intended for financial professionals. As a plan's funded status improves, dynamic asset allocation gradually reduces the plan's allocation of "return-seeking assets" and increases the allocation to "liability-hedging" assets.
This Spotlight outlines a number of elements to a dynamic asset allocation that require thoughtful consideration on the part of the plan sponsor and notes some of the decision points the sponsor will face in implementing a dynamic-asset-allocation strategy.
Helping Participants Manage "Longevity Risk": New Rules on Qualifying Longevity Annuity Contracts Are Only a First Step and Plan Sponsors Should Proceed with Caution
On average, more than 10,000 baby boomers - those born between 1946 and 1964 - will retire in the U.S. every day between now and 2030, when the youngest of this post-World War II generation will have turned 65. While Social Security and, to a lesser extent, private defined benefit (DB) pension plan payments will provide some portion of a retiree's income in retirement, individual retirement savings - including from an employer's defined contribution (DC) retirement plan and an individual retirement account (IRA) - play a significant role. There is virtually universal acknowledgement that the U.S. has a retirement-income-adequacy problem, stemming from the fact that, for an increasing stream of retiring employees, less of their retirement income is coming in the form of guaranteed payments over their lifetime and more from the drawdown of their DC accounts or IRAs. This is, of course, not only an employee problem but also an employer problem because employees' inability to retire can thwart talent management and succession-planning objectives, as well as diminish workforce productivity.
One sign that the government is taking steps to address the problem is the publication by the Department of the Treasury and the Internal Revenue Service of final rules intended to make it easier for DC plans to offer lifetime income payment options to participants by removing the technical barrier to one of those options: a certain type of longevity annuity, called a qualifying longevity annuity contract (QLAC). However, while these regulations remove a small impediment to hedging longevity risk within employer-sponsored DC plans and IRAs and may help plans offer solutions to participants concerned about "outliving their money," they are not a panacea. As discussed in this Spotlight, these new rules are just one step and should be considered in the context of all the issues sponsors face in helping their employees attain retirement income adequacy.
Accounting Implications of Offering a Lump-Sum Window to "De-Risk" a Pension Plan
Defined benefit (DB) plans are not immune to risk, but there are strategies to keep financial liabilities in check. Lump-sum windows can protect plan sponsors from unexpected plan costs by transferring financial to terminally vested participants. Given the Society of Actuaries' recent release of a possible new mortality standard, which might affect lump-sum calculations in the future, it is expected that many plan sponsors will revisit the merits and demerits of implementing a lump-sum window.
Before pursuing this "de-risking" strategy, plan sponsors should examine the accounting implications, which include the duration of the plan's liabilities; the effect of asset liquidation on both asset duration (and the coordination with liability duration) and asset allocation; and amortization of gains and losses. This Spotlight discusses those accounting implication. It also covers an option for mitigating the negative accounting consequences of lump-sum windows: offering the window to only a portion of the terminated vested population.
What a Difference a Year Makes: Revisiting the Case for Hedging Interest-Rate Risk
For typical single-employer pension plans, interest-rate risk is the largest source of funded status volatility. Interest-rate risk arises because changes in interest rates have a disproportionate impact on pension plan assets and liabilities — causing volatility in the surplus position of the plan. This generally comes about because of mismatch between the dollar duration of a plan’s liabilities and assets. A duration mismatch, generally with the plan’s liabilities having a higher duration than the plan’s assets, means that a pension plan’s deficit will increase with declining interest rates. This is what pension plans have experienced during the past decade. Persistent downward movement in interest rates created ever-widening deficits in pension plans.
This Spotlight analyzes the prevalence of interest-rate risk in single-employer pension funds and discusses the benefits of interest-rate hedging as a way to minimize funded status volatility. Considering interest-rate positioning relative to current market pricing is now more important than it was just one year ago.
Having a view that future interest rates are going up may not be enough to justify large tactical interest-rate bets: intentionally holding less duration in an asset portfolio than is present in the plan’s liabilities. It is a question of whether future rates are higher than the break-evens priced into the market.
PBGC Premium Rates Increase Again: What Plan Sponsors Can Do to Minimize PBGC Premium Payments
The Bipartisan Budget Act of 2013 that was signed into law on December 26, 2013 significantly increases both the flat-rate and variable-rate single-employer Pension Benefit Guaranty Corporation (PBGC) premiums. Those increases are in addition to the premium increases introduced as part of 2012's Moving Ahead for Progress in the 21st Century Act (MAP-21).
PBGC premiums, unlike contributions to a pension plan, do not fund plan benefits or improve the plan's funded status. As a result, plan sponsors generally want to take steps to minimize the premiums payable.
This Spotlight discusses some strategies to minimize the amount paid for PBGC premiums, including the following: