America’s Retirement Industry: A Path Forward
From the earliest retirement program (established in 1717 for retired Presbyterian ministers) to the first pension program created in 1875 by American Express, the U. S. has a long history of providing retirement benefits to its hardworking citizens. However, it wasn’t until World War II, when the government allowed corporations to use retirement plans to compensate for frozen wages, that the retirement plan industry really took off.
Today, our industry has a market value in excess of $16 trillion in assets. Unfortunately, it has also become a complex maze for plan sponsors and third-party administrators (TPAs). As one who has worked in the pension industry during its greatest growth period (1974 to 2007), I have no shortage of opinions about what is right and wrong with our industry and where we might be headed. Allow me to express a few of them here.
Perhaps the biggest change in the industry has been the volumes of legislation that have turned a relatively simple industry into a highly complex one. The IRS and Department of Labor have published thousands of pages of regulations dealing with taxes and fiduciary issues, with each agency having its own motivation and goals that are not necessarily aligned with each other.
As the tax laws became more complex, so did the laws governing retirement plans. Today, the retirement space has become so complex that it requires a well-educated and highly trained workforce of professionals, which has led to a lack of qualified people to work in the field. It is my belief that the sheer weight of government regulations, combined with an aging TPA sector, has had a debilitating effect on the retirement industry.
A Shifting Balance of Power
As our industry has grown in complexity, it has also become commoditized, putting further economic pressure on the small- to mid-size plan sponsors and TPA communities that serve this market space. And with falling fees and consolidation of the big record keepers from 50 to 19 in only 10 years, pressures on the smaller industry players will only increase. For many, survival must include a means by which to exit their business.
As the industry consolidates, the balance of power will shift in a big way. Today, the biggest competitors to small- to mid-size plan sponsors are the record keepers, who will likely influence the direction of our industry away from unique plan types to very basic programs. Why? Because their primary motivation is to gather assets, not design effective tax-sheltered programs for company owners or their key employees.
What Lies Ahead
As I look into my crystal ball, I see the retirement plan system evolving into a simpler process, driven almost exclusively by the investment community. However, this will require some changes in the laws governing the retirement space. Here’s what I foresee:
- 401(k) plans will be replaced with a hybrid IRA Program, sponsored by the employer, that might work something like this: every employer will be required to sponsor a Master Employee IRA Program unless a sponsored qualified plan already exists. The employer will deduct three to four percent of the employee’s pay and deposit it into the hybrid IRA Account, which is immediately vested 100%.
- The current tests that all 401(k) plans have to go through, such as average deferral percentage and average contribution percentage, would be eliminated. Employees will be allowed to defer up to the maximum limit without worrying about cutbacks or refunds due to over-contributing highly compensated key employees.
- Form 5500 will be reduced to a single page that lists the name of the plan sponsor, number of IRAs the employer is sponsoring, the total dollars contributed by the plan sponsor and employee, and the combined value of the employer-sponsored IRA.
- The IRA contribution could become a Roth contribution; for example, if the employer takes a tax deduction then the employee deferral must be a Roth. If the employee takes the deduction, then the employer contribution would be post-tax.
I base these ideas on the notion that somewhere along the path of providing retirement benefits, there has to be some form of relief for over-burdened plan sponsors. As the Affordable Care Act begins to take hold, fewer employers will offer medical coverage to their employees, freeing up considerable sums of money. With nudging from the federal government, many of those dollars could begin flowing into existing 401(k) plans or the hybrid company-sponsored IRA.
Considering the battle the government has been waging to get Americans to save more, transferring some or all of these new dollars to the IRA program would certainly help to increase the employee participant retirement balances. And that would be a plus for all American workers – and our industry.