Interim final rule on the SECURE Act’s lifetime income illustrations for defined contribution plans

Under the SECURE Act, plan administrators must, at least once per year, show participants’ and beneficiaries’ (collectively, participants) account balances on DC plan benefit statements in the form of two LIIs: 

1. Monthly payments in the form of a single life annuity (SLA), and
2. Monthly payments in the form of a qualified joint and survivor annuity (QJSA).

Although account balances are required to be shown as an SLA and QJSA, both the IFR and the SECURE Act clearly provide that DC plans aren’t required to offer annuities as a form of distribution.

These illustrations are intended to help American workers understand how much lifetime monthly income their DC plan account balance could generate. The theory is that, if participants understand how much lifetime monthly income their retirement account balance could produce, they’ll take a more active role in managing their retirement account. For example, if plan participants’ estimated monthly payments are less than expected, they may be motivated to increase their contributions. Ultimately, the goal is to make participants’ benefit statements a more useful tool for retirement planning. 

The IFR was largely based on the DOL’s 2013 advance notice of proposed rulemaking (ANPRM), which was part of an earlier effort to implement lifetime income illustrations on benefit statements. The IFR considered many of the 125 comment letters on the ANPRM, which, in the end, resulted in a more streamlined and consistent set of assumptions for the lifetime income illustrations for all DC plans. 

Assumptions for converting participants’ DC plan account balances to a lifetime income stream

The IFR prescribes a set of assumptions that must be used when converting a participant’s current account balance (assumed to be 100% vested) into a lifetime income stream. The uniform methodology is intended to create consistency from plan to plan. The following assumptions are prescribed under the IFR:  

• Annuity commencement date and age—LIIs assume the annuity starts on the last day of the statement period, and the participant’s age on such date is 67 or their actual age, if older. If the statement covers the period of January 1, 2022, through March 31, 2022, the annuity is assumed to start on March 31, 2022, and the participant is assumed to be age 67 or their actual age, if older. 
• Marital status and amount of survivor’s benefit—The participant is assumed to be married to a spouse of equal age (regardless of marital status), and the survivor annuity percentage is 100% of the monthly payment, payable over the joint lives of the participant and spouse.
• Interest rate—The 10-year constant maturity Treasury (10-year CMT) securities yield rate, as of the first business day of the statement period’s last month, is the interest rate for conversion.
• Mortality—The unisex (gender neutral) mortality table under Internal Revenue Code § 417(e)(3)(B), as of the last month of the statement period, is used to determine participants’ life expectancies.
• Plan loans—All outstanding plan loans are considered fully repaid, unless they’re in default.

John Hancock’s observation: The uniform methodology will provide consistency and potentially reduce confusion for plan participants who are in multiple DC plans; however, a one-size-fits-all approach is likely to result in a less accurate estimate. This is most likely the case for younger participants, because contributions and investment returns after the statement date through age 67 are not factored into the LIIs.

Explanations for LIIs

A key requirement of the IFR is the inclusion of brief, understandable explanations of the assumptions used for the LIIs and how changes to the assumptions will affect monthly payments. More importantly, the explanation must convey that the LIIs are estimates for illustrative purposes only and aren’t guarantees.

Benefit statements with the LIIs must include:

• The assumed commencement date and age assumptions, as well as the effect of commencing earlier (i.e., lower payments) or later (i.e., higher payments)
• How payments are made under a single life annuity (in which payments cease at the participant’s death, with no amount paid to a spouse or other heirs)
• The effect of a 100% QJSA and the impact if an annuity with a lower survivor percentage is purchased (i.e., if less than a 100% survivor benefit, a higher monthly payment will be made during the participant’s lifetime, but with lower payments made to the surviving spouse)
• The effect of the marital status assumption and the impact if the participant is married to a spouse of a different age (i.e., if the spouse is older, QJSA monthly payments will be higher; if the spouse is younger, QJSA monthly payments will be lower)  
• The effect of the 10-year CMT rate and how it’s subject to interest-rate volatility (i.e., the higher the rate, the larger the monthly payment; the lower the rate, the smaller the monthly payment)
• An explanation that estimated monthly payments are based on participant and spouse life expectancies using gender-neutral mortality assumptions established by the IRS
• The fact that estimated monthly payments are for illustrative purposes only and aren’t a guarantee
• The factors that influence actual monthly payments under an annuity that may be purchased and how they could vary substantially from illustrations on the benefit statement (e.g., an annuity that may be purchased outside of an employer’s plan, using a gender-based mortality table, as opposed to one that’s gender neutral, may provide a larger monthly payment for males than for females since females are expected to live longer)
• The fact that estimated monthly payments aren’t adjusted for inflation (unlike Social Security)
• The fact that estimated monthly payments are determined by assuming the participant’s account balance is 100% vested (regardless of whether the participant is 100% vested on the statement date)
• The fact that any outstanding loan that isn’t in default is assumed to be fully repaid (Plans that don’t offer loans may omit this explanation.)

John Hancock’s observation: The explanations are an essential part of the IFR, as they help participants understand how the estimated monthly payments are determined and how various factors may alter their lifetime income stream. Without this information, the LIIs could mislead participants and cause more harm than good.

Model language and liability protection

The IFR provides optional model language to satisfy the above explanations that, if used, provide plan fiduciaries, plan sponsors, or other persons liability protection. The IFR allows two options relating to the format of the model language:

• Snippets of explanations may be inserted in the body of benefit statements, where appropriate, or
• Explanations may be provided in an appendix to the benefit statements.

Minor changes to the model language may be made without jeopardizing the liability relief, as long as the explanations remain substantially similar in all material respects.

John Hancock’s observation: The flexibility with respect to the format, including the ability to make minor changes, will help reduce the undue burden and cost of implementing LIIs. This will especially benefit recordkeepers who previously modified benefit statements for the placement of LIIs and explanations.

Special rules for in-plan annuities

The IFR provides special rules for plans that provide distribution annuities or deferred income annuities (DIAs).

Plans with distribution annuities

Plans may offer annuity options as a form of payment in lieu of or in addition to a lump-sum distribution—for example, 50% for a QJSA. For purposes of the LII, plans that offer an annuity form of payment may, but aren’t required to, use actual assumptions, such as the mortality table and interest rate under the terms of the insurance contract, instead of the general assumptions under the IFR.

Under the special rule for plans with distribution annuities, LIIs still must:

• Reflect two LIIs—SLA and QJSA
• Assume that the annuity start date is as of the last day of the statement period
• Assume the participant is age 67 or their actual age, if older
• Assume the participant is married to a spouse of the same age
• Provide brief, understandable explanations of the assumptions

The IFR provides separate model disclosure language for the explanations if the special rule is followed and, if used, will afford plan fiduciaries, plan sponsors, and other appropriate parties with liability protection.

John Hancock’s observation: Applying this special rule appears to add complexity to an otherwise streamlined approach. Also, modifications to programming will be required each time an employer changes insurance companies and/or annuity options under a plan. For these reasons, it’s anticipated that employers of plans that have distribution annuities will not use the special rule and, instead, use all of the general assumptions under the IFR to minimize complexity.

Plans with participants who purchased DIAs

Plans may permit participants to purchase or make ongoing contributions to DIAs. The IFR provides separate disclosure requirements for the value of a DIA under a participant’s account to reflect the actual terms of the DIA for the deferred income stream payments. The IFR doesn’t provide model disclosure language because, in theory, the deferred income stream is a specified dollar amount, not an estimate based on various assumptions. Because there’s no model language, there’s no liability relief under the IFR for the portion of participants’ accounts that was used to purchase a DIA. The non-DIA portion of participants’ accounts, however, is subject to the normal LII rules under the IFR, including the availability of liability relief, if model language is used.

John Hancock’s observation: The logistics of bifurcating participants’ accounts for the purposes of separately reflecting LIIs for the DIA portion versus the non-DIA portion will be tricky, especially since the required information may be derived from multiple sources. We suspect that many commenters will propose simpler procedures for plans with DIAs.

The DOL is soliciting feedback on the assumptions, model language, and requirements of the IFR, as well as various other aspects relating to the rule. Written comments on the IFR must be received by November 17, 2020. After consideration of the comments, the DOL will adopt the final rule, which is promised to be sufficiently in advance of the effective date in order to minimize compliance burdens.

The effective date of the new rule is September 18, 2021—one year from the date the IFR was published in the Federal Register (regardless of when the final rule is published). This means that LIIs must be included on at least one benefit statement during the 12-month period (and each subsequent 12-month period) after that date. For example, for a plan that provides quarterly statements, the LIIs must be included no later than the June 30, 2022, quarterly benefit statement since the quarterly benefit statement for September 30, 2022, is beyond the 12-month period after the effective date.

John Hancock’s observation: It is anticipated that many commenters will focus on the fact that using a one-size-fits-all set of assumptions may vary greatly from a customized projection—potentially minimizing the value of the LIIs and misleading participants. While customization of LIIs would be more meaningful to participants, it could also result in additional administrative burden. On the other hand, many recordkeepers have already created income projection models with built-in flexibility for various assumptions, such as future contributions and investment returns. It would be nice if the final rule offers liability protection for recordkeepers that want to include additional LIIs, even if certain conditions are attached. We expect commenters will request this as well.  

Recordkeepers and software providers that create DC plan benefit statements will most likely need to develop or modify systems to add LIIs pursuant to the IFR. In addition, recordkeepers and software providers need to determine how the LIIs under the IFR will interact with existing illustrations and/or tools—especially relating to liability protection. Finally, recordkeepers and software providers need to be prepared to pivot to accommodate last minute changes made under the final rule as a result of the solicited comments. Unlike prior DOL efforts, these lifetime income disclosures are here to stay.