Last
September, the Stanford Center on Longevity, in collaboration with the Society
of Actuaries Committee on Post-Retirement Needs and Risks, released "The Next Evolution in Defined Contribution Plan Design".
The
principal author of this work was Steve Vernon, who is now a Consulting Research
Scholar at the Stanford Center on Longevity in addition to his many other
activities, including blogging on retirement issues for CBS
MoneyWatch, authoring books on retirement and running his business,
Rest of Life Communications. I have mentioned Steve and the good work he
is doing many times in my blog.
The
stated primary goal of this paper is "to help retirement plan sponsors,
fiduciaries and managers make informed decisions about implementing income
solutions [sometimes referred to in the paper as "Retirement Income
Generators] that will improve the financial security of their plan
participants." Stated somewhat differently, the paper encourages
defined contribution plan sponsors to take steps to make annuity and systematic
withdrawal options available to their plan participants. This
is a well written paper that makes some excellent points and suggestions.
While I think that the arguments set forth for including annuity options in DC
plans are somewhat more compelling than including specific systematic
withdrawal strategies, the only real bone I have to pick with the paper is the
choice of systematic withdrawal strategies it choses to discuss and
examine.
The
paper looks at three systematic withdrawal options (and three annuity options).
As indicated in Section 10, the main criteria for selection of these specific
options appears to be that they are "readily available to retirement plan
sponsors in today's marketplace." In my opinion, each of the three selected
systematic withdrawal options is inferior to the actuarial approach I advocate
in this website. Readers of my blog know that I have railed against the
shortcomings of the 4% rule, which is the first alternative examined, so in order to keep
my blood pressure down, I won't go into them again here. The
second alternative (referred to as the constant 4% strategy) is probably worse
than the first. It is similar to the strategy of spending interest
on your accumulated assets each year if you expect to earn 4% per
annum. This strategy does not coordinate with any annuity
income you might currently have or expect in the future, it does not consider
the retiree's desire to have relatively constant inflation-adjusted income in
retirement and you should expect to leave a pile of money to your heirs upon
death as the annual income produced by this approach is very conservatively
determined. The third approach (which is referred to as the Life
Expectancy Based Percentage Strategy [IRS Required Minimum Distribution] has a
little more appeal than the first two approaches (and is
practically recommended in the paper), but it does not coordinate with annuity
income you might currently have or expect to have in the future, it does not
consider the retiree's desire to have relatively constant inflation
adjusted income, and while not as conservative as the constant 4% strategy, it
still produces a lower expected pattern of withdrawals and higher
probability of having significant amounts of assets remaining at
death.
The
paper does point out (as I have many times in this blog) that
retirees looking to manage risks in retirement probably should consider
combining annuity products with systematic withdrawal strategies, which is why
I was somewhat disappointed to see comparisons in this paper (for the most
part) between the six individual retirement income generators rather than
between various combinations of retirement income generators. I was also
disappointed that my actuarial approach (with recommended assumptions and 10%
corridor smoothing algorithm) was not one of the systematic
withdrawal options examined in this paper. After all, my approach
is also readily available to retirement plan sponsors (Heck, it's free!),
and was touted as having some "advantages" and "nifty
features" in Mr. Vernon's 2012 book, "Money for
Life."
