Securing retirement OutcOmeS fOr the emplOyee Why the ... · Any post-retirement design exercise needs to focus on building a robust retirement income floor that will ensure sufficient

Securing retirement OutcOmeS fOr the emplOyeeWhy the emplOyer ShOuld intervene

A mercer pOint Of vieW fOr the u.S.

© 2013 Mercer LLc. ALL rights reserved.

tABle Of cOntentSintrOductiOn

identifying the retirement incOme chAllenge

Why ShOuld the emplOyer intervene?

the mercer retirement incOme principleS

frOm principleS tO prActice

cOncluSiOn

cOntActS

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Securing retirement OutcOmeS fOr the emplOyeetABle Of cOntentS

Securing retirement OutcOmeS fOr the emplOyee

© 2013 mercer llc. All rightS reServed. 1

1 intrOductiOn


employers have a critical role to play in preparing their workforce for retirement by supporting their efforts to secure sufficient income in their retirement years.

in mercer’s opinion, employers who choose to proactively develop a retirement income strategy will generate a competitive advantage. this advantage can be achieved in a number of ways such as through tighter alignment between retirement and workforce management strategies and enhanced employee engagement and loyalty.

in this mercer point of view, we answer the key questions:

• Why is it in the employer’s business interest to address the retirement income challenge?

• how can employers help ensure their employees’ retirement income is sustained and individuals do not draw down assets too quickly?

• What is the income-generating potential of different post-retirement solutions and products?

• What income pattern best fits retirees’ actual needs in the post-retirement phase?

We outline ways for employers to develop, design, and implement a retirement income strategy that aligns with both the needs of their workforce and their business philosophy.

Securing retirement OutcOmeS fOr the emplOyee intrOductiOn



2 identifying the retirement incOme chAllenge


individuals must navigate a myriad of complex challenges to secure appropriate levels of retirement income, and success depends on both their and their employer’s efforts.

*u.S. government Accounting Office, Retirement Income: Ensuring Income

Throughout Retirement Requires Difficult Choices (gAO-11-400). July 1, 2011.

cOmmOn retirement chAllengeS

• insufficient savings rates to support a comfortable retirement.

• extremely low interest rates limiting “safe” choices to generate retirement income.

• dispersion of retirement assets across multiple employers or rollover products.

• longevity and market risks.

• unpredictable health care needs and changes in family circumstances.

• too many choices of product from the retail sector and within own employer’s plan(s).

the Survey SAyS ...

more than three-quarters of near retirees responding to mercer’s 2012 making Smart Benefit choices survey say they are either “very” or “fairly concerned” about their readiness for retirement. however, only 25% are saving more than 10% of salary, which suggests mature workers may be undersaving.

participants also say they want a steady income stream in retirement, yet few retirees (less than 7% according to a gAO study)* purchase annuities capable of delivering what is needed because of fear of loss of flexibility and control. there also seems to be hesitancy to trust insurance companies.

retirees and near retirees are increasingly aware of the challenges outlined above but they need support and advice in making critical decisions about how they use whatever retirement savings they are able to accumulate. the need for advice is not limited to near retirees and also applies to middle-aged employees. employers are uniquely positioned to address retirement income needs and intervene in meaningful ways.

Securing retirement OutcOmeS fOr the emplOyee identifying the retirement incOme chAllenge

emplOyerS Are uniquely pOSitiOned tO AddreSS retirement incOme needS And intervene in meAningful WAyS.



3 Why ShOuld the emplOyer intervene?


there are seven business reasons why

the employer should do more.

1. they cAn

the employment relationship is a natural basis for acting collectively since this improves buying power and leverage. By managing vendors on behalf of employees, employers can dramatically reduce costs and improve retirement outcomes, particularly in preventing employees from making bad decisions when confronted with financial products containing complex fee structures. the opportunity employers have to use their leverage to improve retirement outcomes for their employees has increased in recent years with a number of reputable financial institutions bringing new solutions to the market.

2. it’S the right thing tO dO

many organizations recognize that corporate social responsibility enhances both their employment and commercial brands. making the additional effort to support the workforce with retirement fits naturally under this umbrella. intervening does not have to mean increased employer spending; rather, it helps employees help themselves.

3. greAter flexiBility And lOWer cOStS ASSOciAted With mAnAging the WOrkfOrce

According to mercer’s 2012 Workplace Survey, nearly half (44%) of employees are considering delaying retirement because they cannot afford to stop working. this creates a challenge for employers interested in helping their employees retire from the workforce in a planned and structured way. having a workforce that is prepared for retirement will materially increase workforce management flexibility and reduce severance costs.

4. enhAnced emplOyee engAgement And lOyAlty

employers seen to be active in managing and supporting employees with their retirement have an opportunity to differentiate their employment proposition and improve employee engagement. mercer’s 2011 What’s Working™ survey revealed participants rated a good retirement plan as the second most important reward component after base salary.

5. lOWer ASSet mAnAgement cOStS

A number of the solutions discussed later include retaining retiree money within the existing plan. A larger asset base generally translates to lower asset management costs, which benefit all. further, new recruits are arguably more likely to roll their previous employer’s funds into the new plan if the better retirement income options are highlighted during the hiring process.

6. the emplOyer receiveS A Better return On infrAStructure inveStmentS AlreAdy mAde

many employers have devoted considerable resources to the design of target date funds. these designs typically anticipate a certain pattern or approach to drawing down income.

mercer believes in a whole-of-life approach to investing toward retirement. So an obvious risk of disconnect exists if the target date fund structure adopted does not align with the preferred approaches for generating retirement income.

7. A frAmeWOrk cAn Be put in plAce tO AddreSS fiduciAry cOncernS

Some employers are concerned about the fiduciary implications of extending their oversight and activities into the retirement income area. yet eriSA’s prudent man rule, together with existing irS/dOl guidance on selecting annuity providers and offering in-plan advice, can provide a fiduciary framework when designing and implementing a retirement income strategy.

Why emplOyerS ShOuld intervene

1. they can

2. it’s the right thing to do

3. greater flexibility and lower costs associated with managing the workforce

4. enhanced employee engagement and loyalty

5. lower asset management costs

6. Better return on infrastructure investments already made

7. A framework can be put in place to address fiduciary concerns

Securing retirement OutcOmeS fOr the emplOyee Why ShOuld the emplOyer intervene?



4 the mercer retirement incOme principleS


We have developed the mercer retirement income principles to guide the thought process needed to determine the preferred approach for a given employer.

Build A SOlid incOme flOOr

Any post-retirement design exercise needs to focus on building a robust retirement income floor that will ensure sufficient income for both the individual and potentially his or her spouse. there is mounting evidence that many uS workers do not understand the ability of their nest egg to generate retirement income. in fact, many overestimate it and often draw down what they think they’ll need without regard to how quickly funds will be exhausted. this is a grave concern, particularly given the decline of defined benefit plans and the growing trend toward lump sum distributions from those plans. from mercer’s perspective, clarity on the ability to generate income and certainty in securing a base level are by far the most critical elements of a retirement income strategy. in our view, there are broadly two useful definitions or tiers that can be used to define the level of the income floor.

tier 1 – the minimum requirements: the level of income required to meet basic day-to-day living expenses.

tier 2 – replacement: the level of income required to preserve broadly current living standards, recognizing that expenditures tend to vary in the post-retirement years.

given current low levels of retirement savings, many employers realize that attaining tier 1 requirements may be the extent of the opportunity available. the key elements of a solid income floor include incorporating an insured element that protects against longevity risks. this can be accomplished through an existing benefit from a defined benefit plan, by securing an annuity with a portion of the retirement pot, or through basic income insurance coverage for retirees living beyond a certain age, e.g., 85.

mercer is generally cautious about endorsing solutions too heavily weighted to traditional insurance, since retirees need some flexibility in managing their retirement assets, and as a practical matter, insurance costs money. Arguably, these solutions provide more insurance coverage than employees strictly need, further eroding their retirement savings.

Securing retirement OutcOmeS fOr the emplOyee the mercer retirement incOme principleS

Any pOSt-retirement deSign exerciSe needS tO fOcuS On Building A rOBuSt retirement incOme flOOr.


1A. WELL-PREPAREDINCOME FLOOR

LONGEVITY INSURANCEPURCHASED AT RETIREMENT

65 70 75 80 85 AGE

DRAWDOWN FROM REMAINING RETIREMENT POT MAINTAININGEQUITY EXPOSURE

SOCIAL SECURITY1

TIER 2 REPLACEMENT

TIER 1 MINIMUM REQUIREMENT

1. Note: A number of studies have shown that delaying social security to age 70 makes sense for most people.

1B. SMALL RETIREMENT POTINCOME FLOOR

IMMEDIATE ANNUITYPURCHASED AT RETIREMENT

65 70 75 80 85 AGE

CONTINUED PART-TIMEEMPLOYMENT TO DEFERACCESSING RETIREMENT RESOURCES

SOCIAL SECURITY

TIER 2 REPLACEMENT



deSign tO the “u”

retirees tend to consume more in their early, active retirement years. income needs level off as they enter a more passive phase of life, only to increase again toward the end of life with additional medical and care expenses becoming increasingly important during this “frail” period. Where possible, the post-retirement income structures should accommodate these consumption patterns while maintaining the desired income floor.


2. WELL-PREPAREDDESIGN TO THE “U”

LONGEVITY INSURANCEPURCHASED AT RETIREMENT

65 70 75 80 85 AGE

DRAWDOWN FROM REMAININGRETIREMENT POT, MAINTAININGEQUITY EXPOSURE

SOCIAL SECURITY

TIER 2 REPLACEMENT

USE MORE-LIQUID/LOWER-RISK ASSETS FOR ADDITIONALINCOME EARLY ON


INCREASED INCOME MAY BE REQUIRED TO ADDRESS ADDITIONAL MEDICAL AND CARE EXPENSES

underStAnd the WOrkfOrce thrOugh SegmentAtiOn

Segmentation allows an employer to better understand the behaviors of its employees and their level of preparedness, enabling the employer to decide how best to design a retirement income strategy.

the workforce can be segmented into:

• underfunded

• On track

• Overfunded

And by how individuals want to manage their retirement planning:

• do it for me

• help me do it

• i’ll do it myself

Some individuals will see most, if not all, of their nest egg consumed when they establish the income floor. Others will have additional assets that can generate a “u pattern” of consumption to meet their changing needs during the retirement years.



Offer A retirement incOme menu

drawing on the insights gained through the segmentation process, employers can develop a retirement income menu to ensure individuals can customize their retirement income approach to their own needs and circumstances.

during the accumulation phase automatic enrollment regulations create an opportunity for a reasonable contribution default. however, regulations that impact retirement income are not particularly helpful when it comes to choosing a good default retirement income approach.

paradoxically, a drawdown based on requirement minimum distribution (“rmd”) rules is a useful default structure given current guidance. this approach delays commencement of income beyond typical retirement age. As a consequence, it “forces” a choice for employees who want retirement income to start immediately. however, it does not fully address the need for longevity protection, given the continued market exposure. hence, making employees choose consciously instead of relying on a default remains a necessity.

providers are introducing many new solutions for managing retirement income, affording employers the opportunity to construct a compelling menu of income options. employers may not be able to default their employees to the approach that they believe best, but framing the retirement income menu in the right way and prompting a good choice compensates for this shortcoming while addressing the need for broader choice to meet retirees’ diverse needs.

employers uneasy about maintaining a comprehensive menu can start with a shorter list in a proof-of-concept type phase

and build later as employees’ preferences are better understood and further regulatory guidance becomes available.

prOvide ASSiStAnce

the provision of assistance makes a material difference to large segments of the population, and demand is usually highest among near and recent retirees. Assistance takes many forms, including retirement readiness seminars and planning tools, access to individual advisors, and guidance offered by financial institutions.

put All WeAlth tO WOrk

employers should avoid focusing narrowly on their own retirement plans, particularly where mid- to late-career hires are significant, and instead look to capture rollover assets and incorporate external holdings in the planning process. they should find “industrial strength” advice solutions that capture and integrate this information to weave into an overall strategy.

many participants have more wealth in home equity than in retirement savings, and this wealth can be deployed to produce retirement income. Although this wealth cannot be used with in-plan retirement income solutions, education offered through the employer can enable employees to make effective decisions with this and other forms of wealth.

it is important to note that another asset individuals hold is human capital, i.e., their ability to continue some form of work in their retirement. this can create an opportunity to optimize social security by deferring commencement of the benefit.

mAnAge mArket And lOngevity riSkS

the two largest challenges facing retirees, and the two where the employer can intervene most meaningfully, are market and longevity risks. longevity risks manifest when retirees are least able to deal with them, during the “frail” period late in life. A well-designed retirement income strategy will better manage this through sensible choices, appropriate interventions, and advice at retirement. Similarly, a focus on building the income floor appropriately will limit downside risks. Approaches that gradually de-risk the elements of the retirement portfolio that are not required to build the floor can make a positive contribution to managing market risks and, indirectly, inflationary risks.


mAking emplOyeeS chOOSe cOnSciOuSly inSteAd Of relying On A defAult remAinS A neceSSity.


leverAge Buying pOWer

there is a significant difference in pricing between retail products and those available to employers through group purchase. costs are often being charged against assets held, which can result in a direct reduction of retirement benefits. employers are in a unique position to use their leverage to secure terms better than those available in the retail market. leverage is not simply a question of price; employers who have studied their own position will have a clear picture of their retirees’ needs and can align solutions closely with that view.

integrAte WOrkfOrce plAnning intO the retirement incOme StrAtegy

the extension of many people’s working lifetime will prove absolutely necessary to secure their retirement. it is important that the chosen retirement income strategy reflects the organization’s view on the duration of the employment relationship. Some employers eager to engage with older customers or retain key technical expertise have introduced employment policies that accommodate part-time schedules and/or flexible working to manage the transition to retirement more gradually. A similar level of flexibility should be evident in the retirement income strategy.

mAnAge thrOugh the life-cycle

there is no clear point when employees can be classified as “near retirement”. retirement readiness is a long-term challenge and saving is a lifetime habit. the best retirement income strategy will integrate and inform how an employer structures the accumulation phase. Although this can imply a planning horizon longer than most corporations would deem strategically useful, a pragmatic and simple approach readily delivers most of the desired result.

knOW yOur fiduciAry pOSitiOn

for many, exploring the development of a retirement income strategy will constitute new territory that should not prove problematic from a fiduciary perspective. Since a retirement income strategy is not isolated from the broader governance and fiduciary structure under which a defined contribution plan operates, engaging with the appropriate internal committees and external advice may be appropriate to ensure consistency and alignment.

SummAry Of the mercer retirement incOme principleS

• Build a solid income floor

• design to the “u”

• understand the workforce through segmentation

• Offer a retirement income menu

• provide assistance

• put all wealth to work

• manage market and longevity risks

• leverage buying power

• integrate workforce planning into the retirement income strategy

• manage through the life-cycle

• know your fiduciary position

• Avoid too-rapid income drawdown

AvOid tOO-rApid incOme drAWdOWn

An increasingly common contributor to poor retirement outcomes is a tendency for retirees to draw down their assets too quickly. A retirement income strategy must address this, and employers will need to consider a number of interventions. these include choosing to provide education, offering a retirement income menu, and choosing the right default approach. taking such a holistic approach will also differentiate an employer positively from those following standard solutions advocated by many market participants.




5 frOm principleS tO prActice


reAching the SAme deStinAtiOn in different WAyS

Segmentation will result in a shortlist of approaches and interventions guiding employee groups toward establishing their income floor. for some, this may simply be a matter of smartly designed target date funds. for others, it will entail more aggressive support through a combination of education and intelligent use of defaults to encourage savings and/or channelling monies to the right assets.

Selecting frOm A flexiBle menu

retirement income menus must help resolve the retirement “trilemma” that is created by the tension among competing objectives.

the “trilemma”, illustrated below, shows a retiree “can’t have their cake and eat it too”. generally retirees want the flexibility of being able to access their capital while simultaneously being protected from traditional retirement-related risks. if they are insured, an insurance company will want to tie up capital as a reward for underwriting risks. Similarly, if retirees are seeking protection from market volatility, they cannot reasonably expect to enjoy the full upside potential of market investments. Offering a flexible menu will enable retirees to find the best compromise or balance among the trilemma’s conflicting objectives.

ACCESS TOCAPITAL

PROTECTIONFROM RISK

PARTICIPATIONIN UPSIDE

THERETIREMENT“TRILEMMA”

A host of solutions, both off the shelf and customized, can be evaluated in the design of the final menu. the illustration overleaf captures some of the most familiar, sorting them by their emphasis on income generation versus market participation.

An organization applying the mercer retirement income principles can expect a number of outcomes.

Securing retirement OutcOmeS fOr the emplOyee frOm principleS tO prActice

A retirement “trilemmA” iS creAted By the tenSiOn AmOng cOmpeting OBJectiveS.


employers whose segmentation suggests their workforce is dominated by those in the “underfunded” segment will devote more choices to income generation. those with “on track” employees and a defined benefit element may find they can use their leverage to offer options with greater upside potential, creating the ability to deliver retirement income in the optimal “u” shape.

receiving gOOd ASSiStAnce tO mAnAge All their WeAlth

retirement seminars need to align with the level of understanding and sophistication of the audience. robust segmentation, once implemented, can inform decisions about the kind of assistance best suited to a given population. regular statements that stress the income generation potential and the variability of possible outcomes throughout an employee’s career can make a big difference in raising awareness. certain segments may welcome and use online planning tools and calculators.

for particular segments, one-to-one advice will prove the most important component. A fully evolved strategy offers access to an advisor who can simplify the consolidation of information on an individual’s total wealth, have views that align with the sponsoring employer on retirement income strategy, and deliver unbiased, simple advice efficiently.

WOrking fOr An emplOyer With cleAr pOlicieS On phASed retirement

Once the workforce management aspects of the retirement income strategy are understood, the resulting conclusions are turned into policy. for some employers this means little change; for others it will translate into a greater use of part-time schedules, changing role definitions, increased working flexibility, and careful mentoring and training to manage the gradual transition of responsibilities.

INITIAL INCOME

MANAGE RISKMAXIMIZE EXPECTEDRETURNS

ACCESS TO CAPITALLONGEVITY

RISKINFLATION

RISK

INSURER CREDIT

RISK

DOWN SIDE

MARKET RISK

ANNUITY CONVERSION

RATE RISK

TERMS AND

CONDITIONS RISK

Annuity bidding platform

High (6%–7%) P

O(unless

linked to inflation)

O P O P O Varies

Traditional annuity

High (6%–7%) P

O(unless


O P O P O O

Combination of drawdown and longevity insurance

Medium–high

(5%–6.5%)P

O(unless


Very little Limited Limited Limited Reduces over time

Reduces over time

Variable annuity (GMWB)

Medium (4.5%–5%) P O O P P O Varies P

Managed payout

Low (4% rule) O O P O P Limited P P

ABILITY TO GENERATE

INITIAL INCOME

retirement incOme menu

HIGH

LOW

Securing retirement OutcOmeS fOr the emplOyee frOm principleS tO prActice



6 cOncluSiOn


Why mercer?

establishing a successful retirement income plan is a challenge for employers dealing with a myriad of other demands on their resources, yet employees and businesses can benefit from implementing a robust strategy.

mercer is committed to improving how Americans retire. As evidenced by partnerships such as our sponsorship of the Stanford center on longevity and our own research, we are continually enhancing our understanding of this key issue.

in a market filled with point solutions, employers seeking to develop a retirement income strategy need to partner with an independent advisor with knowledge of the whole market. With strength and depth across all consulting disciplines that impact retirement income strategies, we are a capable guide.

We have unrivalled access to and long-established business relationships with asset managers, insurance providers, and vendors. Our buying power often allows us to negotiate better-than-market prices.

We are unique in offering a partnership approach, working with employers to weave the many important elements of retirement income planning to design the most appropriate strategy. to this end, we have created a straightforward consulting process that simplifies the design and implementation of a retirement income strategy for our clients.

For more information, visit www.mercer.com/dc

retirees relying on defined contribution savings face numerous challenges and risks, many of which are difficult to comprehend.

the need to use scarce retirement resources to generate sustainable income for retirees has become even more important given the challenging environment, and it is no wonder participants are looking for help tailored to their individual circumstances.

diligent applications of the mercer retirement income principles will lead employers to an approach with sufficient and efficient choices to deliver customized outcomes, tighter alignment between retirement and workforce management strategies, and a significant dividend in the form of enhanced employee engagement and loyalty.

As an organization, mercer continues to invest in research and development and to refine our consulting processes to support employers ready to design and implement their own retirement income strategy.

Securing retirement OutcOmeS fOr the emplOyee cOncluSiOn


cOntActS

Fergal McGuinness (Switzerland) Senior partner, global defined contribution leader +41 44 200 4528 [email protected]

Amy Reynolds (U.S.) partner +1 804 344 2639 [email protected]

Arthur Noonan (U.S.) Senior partner +1 412 355 8836 [email protected]

Toni Brown (U.S.) partner +1 415 743 8855 [email protected]

Securing retirement OutcOmeS fOr the emplOyee cOntActS

impOrtAnt nOticeS

references to mercer shall be construed to include mercer llc and/or its associated companies.

this contains confidential and proprietary information of mercer and is intended for the exclusive use of the parties to whom it was provided by mercer. its content may not be modified, sold, or otherwise provided, in whole or in part, to any other person or entity without mercer’s prior written permission.

the findings, ratings, and/or opinions expressed herein are the intellectual property of mercer and are subject to change without notice. they are not intended to convey any guarantees as to the future performance of the investment products, asset classes, or capital markets discussed. past performance does not guarantee future results. mercer’s ratings do not constitute individualized investment advice.

information contained herein has been obtained from a range of third-party sources. While the information is believed to be reliable, mercer has not sought to verify it independently. As such, mercer makes no representations or warranties as to the accuracy of the information presented and takes no responsibility or liability (including for indirect, consequential, or incidental damages) for any error, omission, or inaccuracy in the data supplied by any third party.

this does not constitute an offer or a solicitation of an offer to buy or sell securities, commodities, and/or any other financial instruments or products or constitute a solicitation on behalf of any of the investment managers, their affiliates, products, or strategies that mercer may evaluate or recommend.

for the most recent approved ratings of an investment strategy, and a fuller explanation of their meanings, contact your mercer representative.

for mercer’s conflict of interest disclosures, contact your mercer representative or see www.mercer.com/conflictsofinterest

mercer universes: mercer’s universes are intended to provide collective samples of strategies that best allow for robust peer group comparisons over a chosen time frame. mercer does not assert that the peer groups are wholly representative of and applicable to all strategies available to investors.

the value of your investments can go down as well as up, and you may not get back the amount you have invested. investments denominated in a foreign currency will fluctuate with the value of the currency. certain investments carry additional risks that should be considered before choosing an investment manager or making an investment decision.

© 2013 mercer llc. All rights reserved.

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Securing retirement OutcOmeS fOr the emplOyee Why the ... · Any post-retirement design exercise needs to focus on building a robust retirement income floor that will ensure sufficient