EXEC

CO

Suppo

UTIVE

OUNCIL

orting R

E OFFIC

L OF EC

Retireme

Febru

CE OF T

CONOM

ent for A

uary 2, 2

THE PR

MIC ADV

America

2012 

RESIDE

VISERS

an Fami

ENT

S

ilies 
1 

The Retirement Landscape 

 A wide range of risks can threaten a secure and stable retirement for American retirees. 

Inflation can drive down the purchasing power of retirees’ accumulated assets. Low rates of 

return and high administrative fees on financial assets can reduce the flow of income that can be 

derived from retiree wealth. Unpredictable life events—such as a medical emergency or an 

unexpected need for long-term care—can quickly deplete retirement savings. Lastly, and perhaps 

most importantly, extended longevity can pose a risk to retirees who did not anticipate living so 

long and find themselves with insufficient assets. As a result of these and related factors, the 

Center for Retirement Research at Boston College has estimated that the share of households at 

risk of not having sufficient assets for retirement at age 65 has increased from 31 percent in 1983 

to 51 percent in 2009 (Munnell, Webb, and Golub-Sass 2009). 

 Social Security traditionally has helped to mitigate many of these risks by offering 

retirees a stable, predictable income stream for retirement. Social Security benefits are adjusted 

for inflation, so that their purchasing power does not fall over time. Distributions are determined 

by a formula based on lifetime earnings and age of retirement, so that they are not subject to risk 

associated with financial market fluctuations. Lastly, Social Security payments are guaranteed to 

continue for retirees’ entire remaining lifetime, regardless of how long they live. 

 On average, Social Security benefits can be expected to provide only about 55 percent of 

lifetime average earnings (Mitchell and Phillips 2006). Consequently, most retirees require 

additional income from other sources to adequately meet their needs. In the past, those retirees 

receiving employer-sponsored retirement saving benefits typically did so through a traditional 

defined-benefit (DB) pension, which supplements Social Security income by offering a steady 

stream of income for life. While payments from traditional DB plans typically are not adjusted 

for inflation, these plans do protect workers from other forms of risk such as market risk and 

longevity risk. 

Traditional DB plans have become less prevalent over time, especially in the private 

sector, and gradually have been replaced by both 401(k)-type defined-contribution (DC) plans—

plans under which employees accumulate assets that they can draw upon in retirement—and 

hybrid DB plans, such as cash balance plans, that resemble DC plans in practice. The share of 

private-sector workers covered by DB pension plans fell from 38 percent in 1980 to 20 percent in 
2 

2008. As a result of the continued decline in DB participation relative to DC plans, the share of 

retirement plan assets in DB plans has also fallen. In 1980, 71 percent of private employersponsored retirement plan assets were held in DB plans (including cash balance plans), but by 

2009, 60 percent of these assets were held in DC plans. While 401(k)-type plans offer workers 

some important advantages—such as portability, high potential for growth, and flexibility—the 

shift to 401(k)-type plans also has transferred substantial risk from employers to workers. 

 The aggregate shift from traditional DB plans to 401(k)-type plans and hybrid DB plans 

highlights the problem of diminished prevalence of lifetime income benefits. This trend is 

exacerbated by lump-sum payouts from defined-benefit plans. One study found that, among 

those offered the choice in a traditional DB plan, 73 percent elected to take a lump sum (Mottola 

and Utkus 2007). The combined effect of increased 401(k) popularity and more frequent lumpsum distributions is that workers increasingly are exposed to market, inflation, and, in particular, 

longevity risk that threatens their retirement security when lump-sum assets have become 

exhausted. 

 The shift away from guaranteed lifetime income can be expected to increase the 

importance of Social Security in later years as long-living retirees outlive their assets. It is 

suggestive that, in 2010, the share of elderly Americans receiving most of their income—90 

percent or more—from Social Security was just 17 percent for 65 to 69 year olds, but nearly 

double that percentage for those aged 80 and over (see Figure 1). Six out of ten elderly 

Americans aged 80 and above relied on Social Security for at least half of their family income. 
3 

Workers seeking to bolster their lifetime income through the private market have limited 

access to private annuities. Annuities can be purchased either through an employer-sponsored 

plan or directly by an individual. Access to annuities through employer-sponsored plans is 

fading. One estimate shows that the percentage of DC plans offering an annuity option at 

retirement fell from 31 percent in 1999 to 17 percent in 2003 (Brown 2000), and only about 2 

percent of plans offer workers the chance to gradually purchase annuity units along with stock 

and bond selections. 

The shift in the retirement saving landscape away from lifetime income products has 

raised particular concern over longevity risk—the risk that retired workers will outlive their 

assets. The continued movement away from traditional DB plans towards 401(k) and hybrid DB 

plans means that fewer people can count on a guaranteed stream of pension income in retirement. 

Given declining but uncertain mortality, retirees are faced with the difficult task of choosing how 

much of their DC plan assets and other savings to spend in any given year. Retirees who live 

longer than expected may find themselves without sufficient assets at the point in their life when 

they are most vulnerable. This risk is particularly salient for women, who have longer expected 

lifespans than men and therefore are more susceptible to longevity risk. 

There are a number of different approaches to shoring up retirement security for 

Americans. One is to encourage Americans to save more for retirement. This is the goal of 

17.2

24.5 28.1 32.9

19.4

27.1

27.8

29.2

63.4

48.3 44.1 37.9

0

10

20

30

40

50

60

70

80

90

100

Age 65 to 69 Age 70 to 74 Age 75 to 79 Over age 80

less than 50% 50-90% more than 90%

Source: Current Population Survey, Annual Social and Economic Supplement. 

Percent

Figure 1: Percent of Individuals with Various Shares of Family Income 

from Social Security, by Age of Householder, 2010
4 

efforts by the Administration and many in the private sector to encourage expanded participation 

through automatic enrollment and related automatic features in 401(k) plans, and the President’s 

automatic IRA proposal to expand coverage by extending the benefits of automatic enrollment in 

workplace payroll-based saving to tens of millions of workers without access to employer plans. 

A second approach is to ensure that plan sponsors are provided adequate information to 

minimize administrative fees and maximize returns on plan assets. The new fee disclosure rules 

announced today will serve as a valuable tool for plan sponsors in this endeavor. Another 

approach is to ensure that Americans have a better choice of retirement products and planprovided options that can help them manage the risks they will face in retirement. Several of the 

initiatives announced today aim to remove barriers that have prevented annuity providers and 

plans from offering the full array of such options, bringing valuable choice to retirement savers. 

Benefits of Annuitization 

 Annuitization is the term for using liquid retirement wealth to buy a schedule of future 

income payments. Each year, a small proportion of retirees elect to use a portion of their liquid 

retirement assets to guarantee a stream of income for life. This stream of income can begin either 

at the date of retirement (immediate annuities) or, less often, at some future date (deferred 

annuities). Deferred annuities are typically annuities that are purchased during the working years 

and begin paying at retirement; the payment can be made either as a lump sum or, less often, as a 

stream of income. This type of annuity typically is utilized due to the tax-advantages of such an 

arrangement and in practice is more like a 401(k) than a standard annuity. Less common are 

longevity annuities, a special class of deferred annuities that are purchased at retirement and 

begin paying later in life; such products are designed specifically to provide income support for 

those with extended lifespans.1

 Most types of annuities may be structured to provide death 

benefits for surviving spouses and other heirs, inflation protection against the risk of rising 

prices, and various other features. 

                                                            

1 One report found that in 2004, sales of deferred annuities dominated sales of immediate annuities, with deferred 

annuity sales amounting to $209.2 billion compared to just $5.6 billion for immediate annuities (Ranade 2006). 

Discussions with industry experts indicate that the vast majority of the deferred annuity sales were of conventional 

products rather than longevity annuities. 
5 

 Annuities can help to mitigate some of the risk faced by retirees. In particular, annuities 

protect retirees against the risk of outliving assets. This risk is substantial. In 2007, the average 

65 year-old male could expect to live an additional 17.2 years, but many will live much longer; 

nearly a fifth of 65 year-old men could expect to live to at least age 90. As already noted, at older 

ages, a significant share of individuals have essentially exhausted their other assets and are 

almost entirely dependent upon their Social Security benefits. For those individuals with the 

good fortune to live long lives, annuities augment the longevity insurance provided by Social 

Security benefits. 

 Access to annuities is a particularly salient issue for women. Even though women’s 

participation rate in retirement plans is equal to that of men, women tend to have significantly 

lower overall retirement income and retirement assets than men, due in part to lower wages and 

lower rates of full-time employment among women during their working lives. If anything, these 

facts understate the need for improved retirement security among elderly women, since women 

have longer life expectancies, and more uncertainty about lifespans, than men. The average 

American female turning age 65 in 2007 could expect to live 19.9 additional years—2.7 more 

years than the average American male. In addition, women are much more likely to reach 

0

1

2

3

4

5

66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 100

100+

Expectation: 82.2

Percent

Source: Centers for Disease Control. 

Figure 2: Lifespans for Men Aged 65 in 2007
6 

advanced ages. Among 65 year-old women in 2007, 30.7 percent will live to at least age 90, 

much higher than the share of 65 year-old men who are expected to reach age 90. Moreover, 

average lifespans have been increasing. Between 1970 and 2007, the average life expectancy for 

a 65-year-old female increased from 82.1 years to 84.9 years, while the average life expectancy 

for a 65-year-old male rose from 78.1 years to 82.2 years. And elderly women are more likely to 

live in poverty than elderly men. In 2008, 17 percent of unmarried women age 60 and over were 

poor, and an additional 20 percent were nearly poor, with incomes between 100 and 150 percent 

of the official poverty level. The disparity for women becomes particularly pronounced at older 

ages: at age 75 and above, 12 percent of (married and unmarried) women lived below the 

poverty level in 2010, compared with only seven percent of men. All of these factors create 

additional urgency for women to ensure a secure stream of income throughout retirement. 

The current market for longevity annuities is very small. There has, however, been 

growing interest in this product. Because longevity annuities typically are purchased at or near 

retirement but do not begin paying benefits until considerably later, they can be offered at a 

fraction of the cost of annuities that pay immediate benefits. For example, an annuity for a 65 

year-old that offered a guaranteed stream of payments of $20,000 per year beginning 

0

1

2

3

4

5

66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 100

100+

Expectation: 84.9 

Percent

Source: Centers for Disease Control. 

Figure 3: Lifespans for Women Aged 65 in 2007
7 

immediately might cost $277,500, while a deferred annuity offering the same annual benefits 

starting at age 85 might cost just $35,200. The primary benefit to a longevity annuity is that it 

offers retirees protection against the risks of extended longevity at an affordable price, while also 

allowing them to retain most of their wealth for other purposes. 

Recent studies by economists have found that, from a theoretical perspective, longevity 

annuities should lead to large gains in expected well-being for retirees. For example, one study 

found that retirees who used a portion of their retirement wealth to purchase a longevity annuity 

commencing at age 85 could be made about 10 percent better off relative to retirees who did not 

purchase an annuity at all (Gong and Webb 2010). This gain in well-being is accomplished by 

preventing outcomes in which retirees end up with very low incomes at older ages. 

 Longevity annuities should be particularly attractive to older women due to the 

demographic factors described above (although the longer expected lifespan for females will be 

incorporated in the price of the annuity). Since women have a higher chance of living to older 

ages, an annuity product specifically focused on providing longevity protection may be of 

notable interest to women. Unfortunately, private providers of lifetime annuities and, in 

particular, longevity annuities face several regulatory barriers to offering these products. Today’s 

announcement aims to implement reforms that remove many of these barriers. 

Removing Barriers to Annuitization 

 Despite the potential that lifetime income products have to mitigate risk, very few retirees 

elect to purchase either immediate or longevity annuities. Economists refer to this disconnect as 

the “Annuity Puzzle.” A variety of explanations have been offered. Individuals may avoid 

annuities because of concerns over the irrevocability of the choice to purchase an annuity; the 

desire to retain liquid assets in case of unexpected medical costs or as a bequest to heirs; 

concerns over the complexity of annuities, their lack of transparency, or the long-term financial 

soundness of annuity providers; a lack of understanding of longevity risk and how lifetime 

income products can help manage it; or a lack of familiarity with annuity products, among other 

factors. Individuals may also be dissuaded from purchasing annuities due to their price. Like 

other financial arrangements that protect from risk, the present value of annuity payments can be 
8 

expected, on average, to be somewhat lower than the annuity’s price.2 Part of this difference is 

due to adverse selection—the increased likelihood that healthier individuals purchase annuities. 

As more individuals enter the annuity market, the adverse selection problem can be expected to 

decline and the price of annuities may fall. 

Several factors (beginning with limited demand from employees and plan sponsors) have 

constrained the purchase of annuities, including certain regulatory barriers and plan sponsor 

concerns about violating fiduciary responsibility by selecting an annuity provider with limited 

long-term financial stability. The proposed actions taken by Treasury today will help remove 

some of those constraints by easing and simplifying regulations that have limited lifetime income 

options. In particular, these administrative steps will facilitate the ability of DB plans, 401(k) and 

other DC plans, and IRAs to offer participants the choice of using only a portion of their 

entitlement to purchase an annuity, taking the rest as a lump sum. This will allow workers to 

avoid the behavioral obstacle of an “all or nothing” annuity choice architecture. 

Relaxing the Application of Required Minimum Distribution (RMD) Rules to Accommodate 

Longevity Annuities in DC plans and IRAs. RMD rules require that a portion of traditional IRA 

and employer-sponsored plan assets be distributed over the life or life expectancy of a plan 

participant after the participant reaches age 70 1⁄2. These rules were put in place to ensure that 

retirement plans are used to provide retirement security rather than avoid estate taxes on bequests 

to heirs. However, the regulations applying the RMD rules have had the practical effect of 

impeding the offering of longevity annuities in plans and traditional IRAs. One of the 

improvements offered today will exempt longevity annuities (up to a specified limit) from RMD 

rules to enhance the ability of 401(k) plans and IRAs to offer individuals the option to use an 

“affordable” portion of their account balance to purchase a longevity annuity. 

Simplifying Regulatory Requirements to Facilitate Partial Annuities in DB Plans. Another 

improvement issued today by Treasury would simplify the procedure for calculating the amount 

of a partial annuity offered by a DB plan. This would ease the regulatory burden on plan 

                                                            

2 The ratio of the expected value of annuity benefits to the premium is called the “money’s worth.” Several studies 

have found the money’s worth to be approximately 0.85–0.90, with a slightly lower money’s worth for inflationprotected annuities (Brown, Mitchell, and Poterba 2002; Gong and Webb 2010). 
9 

administrators and encourage DB plan sponsors to allow workers to divide their benefits between 

an annuity and a lump-sum cash payment. 

Establish a Road Map for Self-Annuitization from DB Plans. The administrative package issued 

today would provide regulatory guidance encouraging employers that sponsor both DC and DB 

plans to offer DC plan participants the option of using their DC payouts to purchase an annuity 

from the employer’s DB plan. 

Clarify 401(k) Spousal Benefit Rules for Deferred Annuities. The administrative guidance also 

would encourage 401(k) and other DC plans to provide annuities by clarifying how regulations 

relating to spousal death benefits apply to deferred annuities (including longevity annuities) 

offered by those plans. 

The Role of Investment and Recordkeeping Fees 

Retirement plan sponsors often are not provided adequate information on the investment 

and recordkeeping fees charged to their plans. As compensation arrangements are growing 

increasingly complex, the need for better disclosure has become even more apparent. Inadequate 

reporting can make it difficult for plan sponsors and fiduciaries to assess the full cost of 

administering a plan. In addition, plan sponsors and fiduciaries may not understand the 

compensation incentives of plan servicers, which can potentially bias the advice provided to plan 

sponsors. In short, plan sponsors and fiduciaries often lack the information necessary to act in the 

best interest of the plan. 

Of equal importance is the lack of transparency for plan participants. Plan sponsors, faced 

with complex and opaque fee arrangements, are unable to convey information about fees to plan 

participants. Plan participants, in turn, cannot demand cost-efficient products in which to invest 

their hard-earned retirement plan contributions. 

The lack of transparency in plan fees contrasts sharply with some other financial 

products. For example, investors in mutual funds and other investment vehicles are typically 

provided information on fees paid in the form of an expense ratio, which expresses the fees paid 
10 

as a proportion of fund investments.3 Investors may also pay investment fees on either the 

purchase or sale of the financial product, denoted as front-end loads or back-end loads 

respectively. 

Improved fee disclosure may lead to lower fees if plan sponsors can better assess the 

value and worth of the services provided. Moreover, if plan participants have access to better 

information on administrative and investment fees, they may be able to demand more efficient 

and cost-effective products and services. In addition, to the extent that compensation 

arrangements may disproportionately reward plan servicers for providing particular products, 

improved disclosure may lead to an improved portfolio allocation and higher return on plan 

assets. All of these factors could lead to higher accumulated capital at retirement, as small 

differences in annual rates of return can lead to large gains in cumulative returns over time. For 

example, a 0.25 percent higher return after fees could increase the cumulative savings of a 25 

year-old worker by about 10 percent by retirement (see Figure 4). 

 

                                                            

3 Most, but not all, fees associated with mutual funds are included in the expense ratio. 

$0

$2,000

$4,000

$6,000

$8,000

$10,000

$12,000

0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36 38 40

Value of assets

Note: Baseline calculation assumes a 6 percent rate of return. 

Figure 4: Simulated change in cumulative assets 

with a 0.25 percent higher return after fees 

Accumulation 

with reduced 

fee

Years since $1,000 investment

Baseline

accumulation
11 

Today’s final announcement issued by the Department of Labor will require certain plan 

service providers to provide DB and DC plan fiduciaries with information they need to evaluate 

service provider compensation. This information includes the direct and indirect compensation 

received by the service provider, its affiliates, and/or subcontractors; the sources for indirect 

compensation and services to which such compensation relates; and details on recordkeeping and 

investment-related fees. By making information more transparent, this rule will reduce the time 

and cost for fiduciaries to obtain compensation information needed to fulfill their fiduciary 

duties, discourage harmful conflicts of interest, improve decision-making by fiduciaries about 

plan services, enhance value for plan participants, and increase the Department of Labor’s ability 

to redress abuses committed by service providers. 

There is evidence that these improvements have already begun to impact the fee structure 

for workplace retirement plans. A recent Wall Street Journal article noted that plan sponsors 

were preparing for today’s announced rule change by “tinkering with investment fund lineups, 

switching to lower-cost index funds, coupling cheaper funds with tailored advice, adding callcenter staff to field questions from account holders, and creating simple templates for disclosure 

statements.” The article also noted that “the prospect of increased scrutiny on fees is prompting 

employers to change their investment lineups to offer more low-fee funds,” citing a six-fold 

increase in the proportion of funds adjusting their investment lineups (Greene and Tergesen 

2012). 

Benefits of Today’s Guidance 

 The Administration aims to facilitate the provision of a better menu of lifetime income 

products to workers in the private market (including employer plans). While economic studies 

have established the benefits of annuitization for retirees—including both immediate and 

longevity annuities—many workers have only limited access to these products. The 

administrative guidance issued by the Treasury today, easing and simplifying certain regulatory 

requirements for retirement plans and IRAs, takes an important first step towards a more 

complete private market offering more attractive lifetime income options. 

 Exempting longevity annuities from RMD rules will make it possible to allow plan 

participants to use accumulated funds in 401(k) and other DC plans and in traditional IRAs —
12 

valued in 2010 at almost $9 trillion—to purchase longevity annuities. Facilitating partial 

annuitization from DB plans as well, and encouraging employers that sponsor both DC and DB 

plans to allow DC plan participants to use their payouts to purchase an annuity from the DB plan 

effectively accomplish the same goal: helping participants to select an appropriate level of 

annuitization given their particular preferences and needs in retirement. Clarifying how the plan 

qualification rules apply to deferred annuities in 401(k) and other DC plans will also make it 

easier for the plans to offer annuities. 

 A primary goal of this initiative is to take a small but crucial step towards a retirement 

saving landscape that allows retirees to select the type and amount of protection against risk that 

is right for their circumstances. Some individuals may want to annuitize all or most of their 

accumulated assets. Others may elect to forgo annuitization outside of Social Security. 

Ultimately, improved access to a more user-friendly, serviceable, and complete range of lifetime 

income options can be expected to result in a more secure retirement for millions of Americans. 

 In addition, today’s guidance will improve the salience of the information available to 

retirement plan fiduciaries. These fiduciaries have been expected to serve the best interests of 

their plans with incomplete information on plan costs and the nature of the compensation 

received by plan servicers. As these arrangements increase in complexity, the need to provide 

better disclosure has become evident. Today’s ruling will better support plan sponsors in their 

mission to provide workers with a retirement plan that will best enable them to accumulate 

wealth towards retirement. 

References 

Brown, Jeffrey R. 2000. “How Should We Insure Longevity Risk in Pensions and Social 

Security?” Issues in Brief No. 4. Chestnut, MA: Center for Retirement Research at 

Boston College. August. 

Brown, Jeffrey R., Olivia S. Mitchell, and James M. Poterba. 2002. “Mortality Risk, Inflation 

Risk, and Annuity Products.” In Innovations in Retirement Financing, edited by Olivia 

Mitchell, Zvi Bodie, P. Brett Hammond, and Stephen Zeldes. Philadelphia: University of 

Pennsylvania Press.

Gong, Guan, and Anthony Webb. 2010. “Evaluating the Advanced Life Deferred Annuity—An 

annuity people might actually buy.” Insurance: Mathematics and Economics 46: 210-

221. 
13 

Greene, Kelly and Anne Tergesen. 2012. “401(k) Plans Step Into the Sunshine.” Wall Street 

Journal. January 31, 2012. 

Mitchell, Olivia S., and John W.R. Phillips. 2006. “Social Security Replacement Rates for 

Alternative Earnings Benchmarks.” Working Paper 2006-116. Ann Arbor, MI: University 

of Michigan Retirement Research Center. May. 

Mottola, Gary R. and Stephen P. Utkus. 2007. “Lump Sum or Annuity? An Analysis of Choice 

in DB Pension Payouts.” Volume 30. Valley Forge, PA: Vanguard Center for Retirement 

Research. November. 

Munnell, Alicia H., Anthony Webb, and Francesca Golub-Sass. 2009. “The National Retirement 

Risk Index: After the Crash.” Issue in Brief 9-22. Chestnut Hill, MA: Center for 

Retirement Research at Boston College. October. 

Ranade, Neela K. 2006. “The Market for Retirement Annuities.” Report RS22439. Washington, 

DC: Congressional Research Service. May.