Do-It-Yourself Pension Plan

In my last two posts, I ranted a bit about how employers have generally shifted both the cost and the investment risk of our retirement security onto our puny shoulders. (At least we have Social Security. I think.) No matter what I say, employers are not likely to reverse course and take back those burdens. So what can we do about it? Here’s my modest proposal.

• Your employer should tinker with its 401(k) plan to add an additional investment option: an annuity.
• Every paycheck, a portion of your elective deferral (and matching contribution, if your employer provides one) would go toward the purchase of an annuity for your (and your spouse’s) lifetime. You would choose the percentage: 25%, 0%, 100%, whatever.
• The annuity would be funded by a reputable insurance company selected by your employer (just as employers now select the mutual funds or other institutions that constitute your 401(k) options). AIG, say.
• The annuity would start at the plan’s stated retirement age, something like age 65, but you could decide when you get close to retirement exactly what age to begin.
• Generally, it would be a pure fixed annuity. Not a variable annuity based on the performance of the stock market. We already have plenty of market-linked investment options.
• Only three variations would be offered. (i) the starting age; (ii) your spouse’s survivor percentage, if any; and (iii) with or without an annual cost-of-living adjustment. These choices would all be made when you’re ready to begin retirement.
• Your annuity would be portable. If you leave your employer, the 401(k) plan will distribute the insurance company annuity policy to you.
• The amount of annuity that each dollar of your contribution buys will, naturally, vary depending on your age when you make the contribution. The younger you are, the greater the future income your dollar buys. And your future income will also vary with current annuity market conditions, notably interest rates and longevity expectations. But each year you work you would be adding a little slice to your future retirement income.

Variations of the Do-It-Yourself Pension now exist; but not, to my knowledge, the whole package. For example, it is not uncommon for 401(k) plans to offer you the opportunity to convert your account balance to an annuity when you are about to retire. But then the size of your retirement income depends on when you retire. Retire on October 9, 2007? The market’s high, and you’ll be able to buy yourself a comfortable income. Retire on March 10, 2009? The market—and your 401(k) account—has tanked, and therefore so will the annuity you can purchase.

Some insurers offer a 401(k) option that’s close to the Do-It-Yourself Pension, but not quite there. You can accumulate credits with the insurance company during your working years, but the insurer won’t lock in an annuity amount until you’re at retirement. That means your ultimate pension income depends on where the ups and downs of the annuity market have landed on the date you retire. It would better if you could average into the annuity market gradually over your entire working life.

But why should these Do-It-Yourself Pensions be restricted to 401(k) participants? The next logical extension would be for the insurance companies to offer them to every working person through their IRA’s.

The Do-It-Yourself Pension requires the cooperation of employers, the insurance industry, and a government agency or two (but no new legislation, I believe). There’s actually an insurance industry association called the Institutional Retirement Income Research Council whose goal is to pave the way for Do-It-Yourself Pensions, or something like them.

If anyone out there knows of an insurance product that already meets all these criteria, please leave a comment or send me an email.

Enough of my opinions. Tomorrow I get back to individual planning.