With all of the current focus on unique programs designed to enhance the attractiveness to participants and fiduciaries of adopting lifetime income programs under defined contribution plans, there is little discussion about how all of this plays out in the 403(b) market. For sure, 403(b) plans were the quintessential lifetime income program. Heck, 403(b) is even entitled “Taxability of beneficiary under annuity purchased by section 501(c)(3) organization or public school.” I had posted a blog in 2009, describing 403(b) as one potential model for 401(k) lifetime income programs. A quick review of history demonstrates that these employment-based annuity purchase plans (you really need to go all the way back to 1918, and then to the 1939 Tax Code, not just to 1959-when the current 403(b) section was passed into law- to get a true flavor of its history) were originally designed to provide lifetime income. They were also the epitome of portability: in that the 403(b) contract was designed to be an individual pension, it was also deigned and administered to be highly portable.
These lifetime income programs were not without their serious flaws, especially when you attempt to overlay employer responsibility over these types of arrangements. The “portability” was also quite ugly in practice, as any one who had to administer those old 90-24 transfers will attest.
Guarantee lifetime payouts from 403(b) annuity contracts are still alive and well, particularly in the higher eduction market which is still dominated by TIAA and its insurance products. However, with the the now-decade-long-shift in the 403(b) market to the mutual fund based group custodial arrangements designed to mimic 401(k), where do those new lifetime income programs fit?
The answer, as always, is in the details on how a number of the critical differences between 403(b) and 401(k) programs impact the selection of a lifetime income program. For example, one of the most popular of the lifetime income programs which was pioneered over 15 years ago in the retail market, and is now gaining popularity in the 401(k) market, is something called the “Guaranteed Lifetime Withdrawal Benefit” or “GLWB. The GLWB, and programs like this, attempt to minimize some of the difficulties that come with the purchase of a traditional annuity, which could be referred to as the “Five Is”. These are Irrevocability, Inflexibility, Inaccessibility, Invisibility and Immobility. In short, you pay the premium for the annuity, and you lost access to those funds (even in emergencies), and you have no chance to participate in any equity growth in the market. But what you do get in return is security: come hell or high water (as the saying goes) you will get your guaranteed monthly benefit. Period. And there is great value in that.
There is also great value to the alternatives, including that GLWB and other, non insurance based managed payout programs. It all is a matter of preference, for both the employer/fiduciary and the participant. The question for 403(b) plan sponsors and advisers is whether a retirement portfolio for participants can also include elements of the GLWB, managed payouts or other innovative programs. The answer is clearly yes. There is nothing preventing any number of the various programs in the marketplace from offering a 403(b) based lifetime income program which addresses those “Five Is.” You will always, though, need to keep a number of distinctive details in mind when engaging in these efforts. This includes things like the notion that a GLWB always involves the purchase of an annuity contract-somewhere- even if made from a NAV platform; and the fact that 403(b) plans cannot currently invest in collective investment trusts (upon which a number of these new programs are based).
Exploring 403(b) lifetime income platforms demands knowledge of the way traditional programs work, along with familiarity with the 403(b) idiosyncrasies which will be in play in the new programs.