Many employers and their benefit advisers are reluctant to offer lifetime income options with their 401(k) plans for fear of legal liabilities. But a proposal working its way through Congress could change that.
Pending legislation in the House of Representatives would shield fiduciaries under the Employee Retirement Income Security Act from legal liability in cases when the insurance provider folds and is unable to make good on the promised annuity payments.
A safe harbor proposal such as this could go a long way toward alleviating the "fear of fiduciary liability on the part of the plan sponsor," according to Mark Iwry, a nonresident senior fellow at the Brookings Institution, a Washington think tank.
"Clearly this nightmare of buying an annuity for my employees, and then finding later that the annuity carrier is unable to make good on its obligations to pay the pensions, is one that has haunted the corporate sector," Iwry, a former senior official at the Treasury Department, said at a recent conference on retirement income hosted by Brookings.
A fiduciary safe harbor is “absolutely necessary," he said, although he believes that some of the concerns by employers are overblown. The potential liabilities employers face if their annuity provider went belly-up are limited, he says. And others may be "using this as a pretext for avoiding the trouble and extended conversation involved and engaging in an annuity purchase."
In either case, the safe harbor he envisions would eliminate one of the central barriers to annuitizing 401(k)s and other similar retirement plans.
He suggests devising an objective measure that would allow employers to quickly assess the financial strength and potential for insolvency of an insurance provider. Such a system could rely on scores from credit rating agencies or some other neutral third party, he says.
But some experts don’t think this is the best way forward.
"That isn't happening," said Phyllis Borzi, a former assistant secretary of labor who has spent decades working in the ERISA space. "I agree that we need a safe harbor, but it's not as simple as five little checkpoints."
In the ERISA world, Borzi said, "nothing is clear and crisp, and if people tell you that that is the truth, they are either uninformed or lying."
Borzi spent years at the Labor Department working on the issue of annuities in workplace plans, and says she was frustrated at having left government without making more progress on that front.
But she is critical of the current legislative proposal, saying it would mostly benefit plan sponsors with a liability shield while not ensuring that plan participants would receive a safe and reliable annuity product.
Borzi favors Iwry's idea, but cites a provision in the Dodd-Frank law that barred federal agencies from relying on the rating firms in any of their regulations. So if the DoL was to pursue a new rule establishing a safe harbor for plan sponsors, it would need an act of Congress if it wanted to tap the rating agencies, which, Borzi and Iwry both acknowledged, took a reputational hit for their role in the 2008 financial crisis.
Another wrinkle in the issue: Any test of an insurer's solvency for the purposes of a safe harbor, must also take a good look at the product mix the annuity provider is offering, Borzi says.
"The point of the safe harbor is to narrow down the due diligence decision, not to let every product in the marketplace through the safe harbor," she said.
"The problem you're trying to solve here in creating a safe harbor is you want to protect against insurer insolvency, and you ought to make sure that people have the opportunity to select a guaranteed lifetime income product,” she says. “And the problem in the insurance marketplace is there is a proliferation of products that have other objectives, so I would limit any safe harbor to immediate deferred or longevity annuities. If the plan sponsor wants to offer variable annuities or fixed indexed annuities, that's fine, but not within the safe harbor."
