When 401(k)s began replacing private employer pensions decades ago, employees lost a crucial piece of their retirement plan: a guaranteed lifetime income stream. Unlike pensions, 401(k)s place the risk of outliving savings squarely on the retiree’s shoulders.
As part of the Setting Every Community Up for Retirement Enhancement Act, Congress encouraged 401(k) plans to offer annuities. “An annuity is insurance for your lifetime income, sort of like your own personal pension,” says Philip Maffei II, TIAA’s managing director of corporate retirement income products.
If you’re near retirement and want an annuity, buying one through a 401(k) has advantages, but variety isn’t one of them. Most 401(k)s offer only an immediate fixed annuity, which starts paying income right away for the rest of your life. If you want another type, like a variable annuity with market exposure for potentially higher growth or a deferred annuity, you’ll likely need to buy it outside the plan. Here’s what else you should consider.
The Heavy Lifting Has Been Done
Employers have been reluctant to include annuities in 401(k)s, fearing they would be held liable in the rare instances that an annuity company goes bankrupt. The SECURE Act protects plan sponsors from liability provided they follow federal guidelines for selecting viable insurers. For example, an employer must consider the annuity company’s credit rating, financial health, and the fees relative to the benefits paid to employees. Companies must have met the state’s requirements, including maintaining enough reserves, for the past seven years. Those protections also help employees. “You’ve got a sophisticated expert reviewing the products first,” says Sri Reddy, senior vice president of retirement income at Principal Financial Group.
Group Pricing May Be a Better Deal
Although the plan is not required to go with the cheapest provider, “in general, large group pricing leads to a better deal than the individual markets,” says Maffei. For women, there’s an additional advantage. “Annuities in a 401(k) must use unisex pricing,” says Wade Pfau, a professor of retirement income at The American College of Financial Services. In the individual market, companies can charge different rates based on gender. “This is good for women inside the plan as they tend to live longer. It’s not as good for men, relatively speaking, who may find a better option outside the plan,” says Pfau.
You Can Keep Your Annuity Even If Your Employer Doesn’t
In the past, if your employer switched annuity providers, you may have had to switch too, losing your existing benefits and guaranteed income stream. Now, when the employer changes providers, you can keep the annuity and “roll it over to an IRA to preserve your benefits without any incremental fees,” says Reddy.
