A pending Department of Labor rule that imposes a stricter standard on the advice provided on retirement accounts could swell the assets in 401(k) plans by discouraging rollovers to individual retirement accounts, according to a recent report from research firm Cerulli Associates.
The DOL’s fiduciary rule will require that advice on retirement plans be in the best interests of the plan participant, which is stricter than the current standard that advice be suitable. Cerulli said the new rule puts at risk almost half of the assets it expects to be rolled over into IRAs.
If participants in a company’s 401(k) aren’t being advised to move their assets into an IRA, or if the pluses and minuses of rolling their assets over into an IRA are presented more clearly, “we’d expect to see some more money remaining in the plan,” said Rob Austin, director of retirement research at Aon Hewitt.
While the number of 401(k) accounts grew from 49.5 million in 2007 to 56.1 million in 2015, the portion that belong to employees who have left the company or retired—so-called terminated participants—fell from 26% to 23%, according to Cerulli, suggesting that many workers who leave a company move their 401(k) savings either into a new employer’s plan or into an IRA.
The report noted that when people who had moved defined-contribution plan assets into an IRA were asked what influenced their decision, the most popular response, cited by 29.4%, was “advice from a financial professional.”
John Pickett, a senior vice president at Captrust Advisors, where he advises midsize to large company retirement plans, and a member of the Institutional Retirement Income Council, noted that once the rule takes effect in April, “anything that addresses a distribution becomes a fiduciary act. Call center employees become fiduciaries. So record keepers are going to be very careful of how they give advice to these participants.”
From a cost perspective, 401(k) plan participants who are in decent-sized plans with low fees may be better off remaining in the plan than moving into an IRA where fees may be higher, Pickett said. “Common sense says you’re going to see more people staying in the plan.”
But Robyn Credico, defined contribution consulting leader for North America at Willis Towers Watson, argued that the new rule could have little effect on the pace of rollovers from defined-contribution plans.
Credico said 401(k) record keepers that don’t assume a fiduciary status still have ways to guide participants to their IRAs. If someone calls asking what to do with their money, a call center worker could offer to transfer the call to the company’s IRA group, she said. And record keepers know when plan participants cease being active employees and can mail them the forms to move their 401(k) assets into an IRA provided by the record keeper, Credico noted.
“As long as it’s a participant doing that and nobody’s having the conversation about what’s best for you, you’ve kind of circumvented the rule,” she said.
Upside of More Assets
Plan sponsors may welcome a decline in rollovers since additional assets in a plan can help them lower the costs of investment management and record keeping.
“The larger the plan asset base is, the better the access to institutional funds, which come with lower fees and better managers,” Austin said.
He said, though, that many plan sponsors are still ambivalent about having more assets, and noted that sponsors regard accounts with very, very low balances—say, $50—as more trouble than they’re worth.
“It really depends on the size of the asset base right now and it depends on the size of the balance that would be rolled over or cashed out,” Austin said.
Credico said the prospect of additional assets in a 401(k) will elicit different responses from executives with different areas of responsibility. Those responsible for investment management might welcome having more assets because it allows them to lower the overall expense ratio. But the plan’s legal counsel probably would prefer that terminated employees leave the plan because reducing the number of participants reduces potential risk and liability, she said.
For the plan administrator, more participants in the plan might lower the per-participant record-keeping fee, but if the company pays that fee, it has to pay the fee for more participants.
“If participants are paying [the record-keeping fee], it’s beneficial,” Credico said. “But if the company is paying, they may not want to pay the fee for the terminated people.” Plans could decide to charge terminated participants a record-keeping fee while paying the fee for active employees, she said.
Amid the prospect that more 401(k) assets will stay put, the Cerulli report warned that many defined-contribution plans fall short when it comes to providing arrangements to turn plan participants’ assets into a stream of retirement income.
The Plan Sponsor Council of America’s 2015 Annual Survey shows 66% of plans allow participants to remain in the plan after they retire.
For plans that do permit withdrawals, there are a few different methods. With installment payments, a participant takes a certain amount out of the plan every month or every quarter. Partial distributions are one-time requests for a certain amount.
Austin said Aon Hewitt’s most recent annual Universe Benchmarks report on defined-contribution plans, which surveys mostly larger plan sponsors, shows that 61% allow installment and the same portion allow periodic withdrawals.
There are also annuities, but so far not many defined-contribution plans have adopted them, despite various government efforts to encourage their use. Aon Hewitt shows 16% of plans offer an annuity within the plan.
Austin said employers tell Aon Hewitt “they’re waiting for the dust to settle, waiting for the market to evolve a little more. There are a lot of players in the space and there are a lot of products out there. It’s a little confusing, particularly in this litigious society.” And he noted that plan participants are even less enthusiastic, with just 3% taking an annuity.
But Austin noted that the other distribution methods have become increasingly available; the 61% of plans that allow installment payments is up from 52% in 2007, and the 61% allowing partial withdrawals is up from 41% in 2007.
“We’re seeing more plan sponsors add these types of things, particularly as baby boomers are retiring,” Austin said.
He said that after companies tout the value of the defined-contribution plans throughout workers’ employment, they want to follow through on the theme. “They want to keep that vein of saying that the plan is still a very good, solid investment vehicle for you,” Austin said. “That continues through retirement.”
Pickett said there’s a workforce management aspect for companies, as boosting older workers’ confidence in their retirement income enables them to retire, which gives younger employees room to advance. Facilitating retirement income is also consistent with plans’ increasing efforts to assist employees in preparing for retirement.
“For our 35-year-old, we decided they don’t know how to save for retirement. We auto-enroll them,” he said. “They don’t know how to invest. We put them in a target-date fund.
“But then when someone reaches age 65, we say, ‘Thank you for your 30 years of service, here’s your gold watch. Where do we send your IRA rollover?’” Pickett said. “It doesn’t make sense, and sponsors are beginning to realize that because employees are afraid to retire.”