Changes are afoot in the retirement plan market and those changes could impact the nature and future of the group annuity business – as well as annuity practitioners who work in and around that business.
Group annuities are fixed or variable annuities used in employer-based retirement plans on both the defined benefit (DB) and defined contribution (DC) sides of the insurance business.
In the 401(k) market, the growing focus on fiduciary responsibility is behind much of the change that Charlie Massimo of Deer Park, N.Y., is seeing. As chief executive officer of CJM Wealth Management, a registered investment advisor (RIA), he works with a lot of plans and plan fiduciaries.
The high-buzz rule that the Department of Labor (DOL) implemented in mid-2012 is putting pressure on fiduciaries to be “completely transparent” and to put plan participants’ best interests first in ways that many had not done before, he said.
Now called Section 408(b)(2) of the Employee Retirement Income Security Act (ERISA), the rule says the fiduciary must “act prudently and solely in the interest of the plan’s participants and beneficiaries.” It spells out disclosure obligations for selecting and monitoring service providers and plan investments. Included are requirements for plan fiduciaries to perform benchmarking, plan and cost disclosure, and “reasonable” compensation assessments, among other things.
A Rule With Teeth
Fiduciaries that don’t comply can be held personally liable and face big penalties, Massimo said. Specifically, they can be slapped with an excise tax of 15 percent of the amount involved, and it can go higher, on up to 100 percent, if not corrected in the taxable period.
As a result, fiduciaries’ eyes are opening up “very wide,” Massimo said.
Fiduciaries are increasingly scrutinizing fee levels, conflicts of interest, investment choices and costs, and doing benchmarking and conducting other research so they can support – and document – their plan decisions.
This scrutiny is shaking things up, particularly at the small and midsize firms, which tend to favor group annuities over mutual fund-based plans.
The fiduciary at such plans is often a bookkeeper, a relative of the owner or someone else with little plan experience, Massimo said. Many have relied on a commissioned captive agent for plan recommendations, so they don’t know much about plan details and aren’t accustomed to receiving or providing complete transparency on costs, fees, disclosure and related matters. Further, he said, they don’t know if their plan is in the best interests of the participants (the fiduciary standard) or is “just suitable” (the suitability standard).
Due to the new regulations, however, demand is rising for just that kind of information. If a group annuity provider and the agent do not provide it, plan fiduciaries will turn to competitors, Massimo predicted. These could include mutual fund providers or other group annuity providers, other captive agents or independent agents and advisors, other cost and fee structures, etc.
In response, some carriers may change their products and/or distribution approaches while others may fold their 401(k) operations.
Agents who work with group annuity clients will have their hands full keeping up with disclosure demands from employers and product changes from carriers. Some may need to change their business models or leave the business if they cannot provide the information and services required.
Another fiduciary-related development that could trigger change in the 401(k) market hovers in the wings. This is the possible release of two sets of fiduciary regulations for advisors.
Reportedly, the DOL would require that the fiduciary standard be applied to advisors who guide consumers on retirement plan accounts, and the Securities and Exchange Commission (SEC) would expand the fiduciary standard (which currently applies to registered investment advisors) to include broker/dealers, which now operate under the suitability standard.
If such rules are eventually implemented, the 401(k) market could end up operating in a full-circle fiduciary environment. Brokers and advisors would make recommendations in the best interests of the client, as do RIAs, even as plan fiduciaries make decisions in the best interests of plan participants, Massimo said.
Critics – primarily those in the insurance sector – have repeatedly warned that the regulations will increase costs for advisors, force many to adopt fee-based business models in lieu of commissions, and cause some carriers to reduce plan offerings or leave the market. The regulations may also squeeze small and midsized employers due to onerous fees and limited product selection, they add.
Massimo, who is an RIA and therefore already subject to the fiduciary standard, thinks alternatives will emerge and that there will be “huge opportunities” for independent advisors who learn how to take advantage of the new fiduciary rules, whatever shape they take.
It could be a while, though. Earlier versions of the proposals met with immediate push-back for a myriad of reasons, and the DOL and SEC both pulled their initial efforts. Many observers predict that both federal bodies will bring out new, “harmonized” versions this year – but observers said that last year and it didn’t happen.
Pension Liability Market
On the DB side of the business, predictions are circulating that employers will step up efforts to transfer their pension liabilities to group annuity carriers. In fact, Deloitte Consulting is predicting that this will help create a “new group annuities market.”
This new market will feature “more capital-efficient products and services than carriers might be able to market to individual buyers,” according to Deloitte’s Life and Annuity Products Outlook for 2014.
Most agents and advisors won’t be directly involved in the transfers. But if the transfer deals offer choices or lump sum payouts to plan participants, advisors might start getting questions from customers wanting guidance on the choices or the lump sum, said Sam Friedman, lead author of the Deloitte report.
The group annuity products in this market are fixed annuities, noted Friedman, who is research team leader at Deloitte Center for Financial Services.
In the group annuity heyday, the 1950s and 1960s, corporations that had once offered self-managed DB pension plans increasingly linked their plans to the group annuity structures of the day. But that business waned as many employers, especially in the private sector, dropped their DB plans and shifted to DC plans.
Today, employers that still have pension liabilities are showing renewed interest in group annuities. They want to shift their funding liabilities over to group annuity carriers that have the requisite expertise to manage the accounts and risk exposure, Friedman said. In the process, they can get themselves out of the business of meeting pension obligations, and that is something a lot of employers want to do. They recognize they are not experts in this business, and “they don’t want the responsibility,” he said.
For their part, insurers want the volume – “cash they can manage in one shot,” he said. As for the retirees, “they will have the certainty that they will get their guaranteed retirement income from a regulated carrier that specializes in this.”
Other factors may be at work too. Where private sector plans are concerned, Pension Benefit Guaranty Corp. (PBGC) premiums are expected to increase “dramatically,” according to consulting firm Mercer. The 2014 premiums are $49 per participant (indexed with wage growth), but will rise to $57 in 2015 and $67 in 2016, Mercer said.
In addition, new mortality tables may increase plan liabilities by 2-3 percent by 2016, and interest rates may rise, Mercer pointed out.
So making the transfers sooner rather than later may make financial sense for private sector firms.
As for the public sector, which has the majority of active DB plans today, it may get involved in transfer activities of sorts later on. The SAFE Retirement Act of 2013, proposed last year by Sen. Orrin Hatch, R-Utah, would create a new pension plan, also using fixed annuities, to help public sector plans deal with their own pension funding issues. Backers say it would eliminate pension plan underfunding prospectively while delivering lifetime retirement income to employees.
There is always risk around the private sector living up to its promises, Friedman observed. Then again, pensions have risk too, due to the potential for developing underfunded liabilities. But carriers do underwrite, they will require a “big amount of cash” to take on the obligations, and the plans will be subject to PBGC oversight, he said.
“I think it will be more the norm for the private companies to handle these things than for the employers themselves – because most employers, in the private or public sector, want to get out of their pension obligations.”
Agents in the individual annuity market who do not also work in the benefits business may not give much attention to these DC and DB market developments. After all, there is already plenty of annuity change on their plates. But it may pay to keep an eye out, because developments in the retirement plan side of the business may reverberate on the individual side – and/or open up new opportunities.