7 Keys of Secure Act’s Annuity Safe Harbor in Retirement Plans

Robert Bloink and

By William H. Byrnes

Slideshow March 12, 2020 at 02:59 PM Share & Print

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(Related: Digging Into IRS’ Secure Act RMD Guidance)

The Secure Act contains provisions that will impact nearly every client saving for retirement—along with many who have already begun taking withdrawals from qualified plans and IRAs.

The Secure Act provisions impacting lifetime income options in defined contribution plans have the potential to be some of the most significant. Although it is expected that most 401(k)s will not begin offering annuity lifetime income options immediately, the new rules could have a substantial impact on the way clients plan to secure their retirement income. Check out the slideshow above to get some key answers to the annuity safe harbor provision.

(Related: Digging Into IRS’ Secure Act RMD Guidance)

Robert Bloink

William H. Byrnes

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1. The Secure Act created a new safe harbor for annuities used in qualified plans

Prior to enactment of the Secure Act, 401(k) plan sponsors rarely offered an annuity within the 401(k) option primarily because sponsors and employers were reluctant to increase their fiduciary responsibility. The Secure Act created a fiduciary safe harbor for selecting an annuity provider in a quailed plan. The employer/plan sponsor will not be held responsible for the inability of the insurance company providing the annuity to satisfy future financial obligations under the contract. (Photo: Shutterstock)

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2. What do plan sponsors need to do under the new safe harbor?

Plan sponsors can now satisfy their fiduciary obligations in choosing the annuity provider by conducting an objective, thorough and analytical search at the outset to evaluate annuity providers. The sponsor must also evaluate the insurance carrier’s financial capability to satisfy the annuity obligations, as well engage in a cost-benefit analysis with respect to the annuity offering. The plan sponsor must determine that the cost of the annuity option is reasonable in relation to the benefits and features provided by the annuity. (Photo: Shutterstock)

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3. Written representations by insurers

A plan sponsor is permitted to rely upon a written representation from the insurance company demonstrating the carrier’s financial standing. The written representation must state that the insurance company: 1) is properly licensed; 2) has met state licensing requirements for both the year in question and seven prior years; 3) will undergo financial examination at least once every five years; and 4) will notify the plan fiduciary of any changes in status. From this information the plan sponsor must draw the conclusion that the carrier is financially capable and that the contract cost is reasonable. (Photo: Shutterstock)

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4. New annuity portability under the Secure Act

The Secure Act also makes the annuity portable once the plan participant has chosen the lifetime income option. The annuity can be transferred in a direct trustee-to-trustee transfer between qualified plans (or between a qualified plan and an IRA) if the lifetime income option is removed from the original plan’s investment options. The option will be available to participants beginning 90 days prior to elimination of the annuity option from their current plan’s investment. (Photo: Shutterstock)

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5. When should clients consider an annuity as a retirement plan investment?

For most clients, the biggest draw of the annuity within a 401(k) option will be obtaining the peace of mind associated with lifetime income guarantees. However, while an annuity option will likely be attractive for many clients, it remains important to fully evaluate the annuity option once it becomes more broadly available. Annuity options generally pay out a guaranteed amount each month regardless of how long the client lives. (Photo: Shutterstock)

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6. What about fees and penalties?

Clients also need to evaluate the potentially higher fees that can accompany the annuity option. Clients should be advised to evaluate both the fees associated with the specific annuity options along with the potential surrender charges that will apply for clients who change their minds. As with early 401(k) withdrawals, early annuity withdrawals can also generate a 10% tax penalty. Interest provision can also vary—in some cases, the annuity will have a fixed “floor” interest rate below which the client’s earnings cannot drop. (Photo: Shutterstock)

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7. What if the participant dies?

Under prior law, non-spouse beneficiaries could take distributions from the inherited IRA either over a five-year period or using the beneficiary’s life expectancy. Under the new law, most non-spouse account beneficiaries will be required to take distributions over a 10-year period. However, the law also eliminates the requirement that inherited account beneficiaries must take a distribution each year. The new limitations on the stretch treatment of defined contribution plans and IRAs apply for most clients beginning in 2020. (Photo: Shutterstock)

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