November 4, 2008

Retirees make smart decisions with 401(k) assets, study shows

Retirees are not spending their defined contribution balances immediately at retirement, and are making thoughtful choices in how to spend those funds, according to new research from the Investment Company Institute.

The firm surveyed more than 600 recent retirees and found only about 3 percent of accumulated DC account assets were spent immediately at retirement. Those who spent their entire DC plan lump sums generally had received small distributions and, on average, derived a sizable portion of their household incomes from defined benefit (DB) plan and Social Security payments. Of those who spent most of their lump sum, most used the proceeds to buy a primary residence, make home repairs, repay debt or pay for health care.

"This research dispels the myth that DC participants spend their retirement assets immediately upon leaving the workforce," says Brian Reid, chief economist of the Investment Company Institute. "More generally, retirees' careful decisions about distributing their account balances reaffirm the main premise of the DC retirement system: Americans tend to act responsibly to build their own retirement security."

According to ICI, the study found that more than half of DC plan participants received their distribution as a lump sum. Of these, 86 percent reinvested all or some of the proceeds, usually in rollover Individual Retirement Accounts; 62 percent reinvested the entire amount. The greater the value of the lump-sum distribution at retirement, the more likely recipients were to reinvest the proceeds.

For the most part, retirees were guided by professional financial advisers. The survey found that when DC plan participants had more than one option for their plan balances, they typically consulted multiple sources of information, appeared to have carefully considered their options, and generally selected a mode of distribution consistent with their personal financial circumstances. For example:

  • Retirees with sizable household financial assets and income typically postponed use of their plan balances, either by reinvesting the assets in IRAs or deferring their distributions.
  • Retirees seeking a steady income stream typically annuitized plan assets. Retirees with strong needs for current income started to withdraw their balances in installment payments.
  • Large account balances were much more likely to be distributed through annuities or as lump sums that are rolled over into other investments.
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