The US Department of Labor issued an Interim Final Rule on August 18 to implement “lifetime income illustrations,” which must be provided to defined contribution plan participants pursuant to the Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act). This LawFlash summarizes the key provisions of the Rule and includes some preliminary observations.
Enacted in December 2019, the Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) requires defined contribution plans to provide “lifetime income illustrations” to participants. The purpose of this requirement is to help participants understand how their defined contribution plan accounts may translate into an income stream in retirement. The SECURE Act tasked the US Department of Labor (DOL) with issuing rules and model disclosures within one year of the SECURE Act that will guide plans in preparing and providing these lifetime income illustrations to participants.
Accordingly, the DOL issued an Interim Final Rule (Rule) on August 18 that sets forth the parameters and disclosures required to implement the lifetime income illustrations. As a threshold point, we note that the Rule only applies to defined contribution retirement plans (401(k) plans, 403(b) plans, etc.) and not to defined benefit pension plans. As such, all references herein to “plans” and “participants” pertain solely to defined contributions retirement plans and their participants.
The concept of lifetime income illustrations for plans is not a new one. By way of example, the DOL published an advanced notice of proposed rulemaking in 2013 (2013 Notice) soliciting comments regarding a possible requirement to include lifetime income illustrations in quarterly participant benefit statements. The DOL received 125 comment letters in response to the 2013 Notice, but ultimately did not issue regulations or take any other formal action.
Against this background, the SECURE Act was signed into law in late 2019 and amended Section 105 of the Employee Retirement Income Security Act of 1974 (ERISA) to require that plans provide lifetime income illustrations to participants at least annually as part of participant benefit statements. In addition, as required by the SECURE Act, the Rule sets forth a detailed roadmap for calculating the required lifetime income illustrations, identifies specific assumptions for calculating lifetime income amounts, includes model disclosure language and provides certain liability protections to plans that provide lifetime income illustrations in accordance with the Rule.
As contemplated by the Rule, a lifetime income illustration is an illustration of the stream of monthly income payments that a participant could receive if he or she were to retire and begin drawing income in the form of a fixed-income life annuity—meaning that the monthly amounts would not change during the lifetime of the recipient—from his or her plan account. Under the Rule, a lifetime income illustration must be provided to participants at least annually as part of their benefit statements. As described in more detail below, the Rule provides that the lifetime income illustration must be based on the current value of a participant's account at the time the illustration is prepared (without any projection for future earnings or contributions); assume that payments start to be paid immediately (even though a participant may not be close to retirement age); assume the participant has reached at least age 67; and be expressed as both a lifetime stream of payments to the participant and a lifetime stream of payments for the joint lives of the participant and a spouse.
The preparation of any hypothetical lifetime income illustration is impacted by a variety of factors and inputs, including: the size of the participant’s account balance; the date that the participant retires and begins receiving payments; the age and life expectancy of the participant at retirement; whether the participant is married (and if so, the spouse’s age and life expectancy); the investment return or interest rate that a participant or spouse might receive on assets held in the retirement account; the availability of commercial annuities to provide a stream of income and the cost of such annuities; etc.
The Rule addresses these many variables as follows:
Assumptions for a Participant's Plan Account
The lifetime income illustration must be calculated on the basis of the participant’s current account balance as of the last day of the applicable "statement period." For these purposes, the statement period is the calendar quarter benefit statement period that is being used for the lifetime income illustration. Notably, this account balance is fixed and there is no projection for future contributions to the participant's account (either by the participant or the employer) and no projection for the account’s future investment experience. The plan must assume that a participant is 100% vested in his or her plan account and that the account value includes the balance of any outstanding plan loan (meaning that the loan is assumed to be paid off and included in the calculation of the lifetime income stream of payments).
Commencement Date for Payments and Participant Age
The lifetime income illustration must assume that payments start as the last day of the applicable benefit statement period. Similarly, the lifetime income illustration must assume that a participant is age 67 at the time that payments commence (except that if the participant is older than 67, the participant's actual age must be used). In the Preamble to the Rule, the DOL indicated that age 67 was selected “because this age aligns with full or normal retirement age under Social Security for most workers.” The DOL also requested comments on whether multiple illustrations should be required, in order to give a snapshot of potential retirement incomes streams across various retirement ages (e.g., age 60, 62, 65, 67, and 72).
Marital Status and Survivor Benefit
The Rule requires plans to assume that a participant is married and to provide two lifetime illustrations, one based on a lifetime stream of payments to just the participant (i.e., a "single life annuity") and another based on a lifetime stream of payments to the participant and then to the participant's spouse following the participant's death (i.e., a “qualified joint and survivor annuity” or QJSA). The survivor percentage for the QJSA must be 100%, which means that the payment amounts made to the participant during his or her lifetime must continue without reduction to the participant's spouse following the participant's death. For purposes of the 100% QJSA illustration, the participant and (hypothetical) spouse are assumed to be the same age at retirement.
Interest Rate and Mortality Table
For purposes of converting the participant's account balance into a single life annuity and 100% QJSA, the Rule requires plans to use:
The Rule requires that lifetime income illustrations must include brief and understandable explanations of the assumptions that are used to develop the illustrations. The Rule then includes model disclosures that can be used to satisfy this obligation. As described in more detail in the following section below, plans that use the model disclosure language (or language that is substantially similar) qualify for certain relief from liability under ERISA.
Explanations of the following points and assumptions must be included in the lifetime income illustration:
In accordance with the SECURE Act, the Rule contains special assumptions and model disclosure language for plans that offer distribution annuities, deferred income annuities, or both.
In general, a distribution annuity is an annuity form of distribution (e.g., single life annuity, QJSA at 50%, 75%, or 100%, etc.) that a plan may make available to participants as an optional distribution form. Distribution annuities typically are provided pursuant to a contract with an insurance company. With this background, the Rule permits – but does not require – plans to provide illustrations based on annuities that participants may actually elect under the terms of the insurance contract. However, illustrations based on these annuities and contract terms must still follow many of the standard disclosure terms described above, including that the illustration must:
Deferred Income Annuities
In general, deferred income annuities (DIA) allow participants to purchase, or to make ongoing contributions toward the current purchase of, a future annuity provided by an insurance company at a select retirement age (or later in the case of certain DIAs, such as qualifying longevity annuity contracts). For any portion of a participant's account used to purchase a DIA, the Rule requires disclosure of the following (in lieu of the general illustration and disclosure requirements summarized above):
For any portion of a participant’s account not used to purchase a DIA, the general illustration and disclosure requirements summarized above continue to apply.
Plan fiduciaries have long been concerned that providing lifetime income illustrations may be fraught with fiduciary risks. Participants could mistakenly believe the illustrations to be promises or guarantees of a specific income stream or as a type of investment advice (e.g., that they choose investment options that contain or are offered through an annuity contract).
To address these concerns, the Rule generally provides relief from liability under Title I of ERISA, which includes relief from liability for breaches of fiduciary duties, solely by reason of providing the lifetime income illustrations required by the Rule. This relief is conditioned on the disclosures including all of the DOL’s model language or language that is “substantially similar in all material respects” to the model language. This “substantially similar” standard is intended to permit “minimal and substantively immaterial modifications” – e.g., referring to “your statement” instead of “this statement,” adding the plan’s name, etc. – to the disclosure without losing the liability protection. Deviations from the Rule’s required assumptions (e.g., required commencement date, age, rate of interest, mortality), by contrast, almost certainly would void the liability relief.
The fiduciary liability relief will not apply, however, to the required disclosures with respect to portions of the account used to purchase a DIA. The rationale is that this information is not derived using DOL’s prescribed assumptions or disclosed using the DOL’s model language, each of which is required by the statute for relief.
The Rule would apply to participant benefit statements furnished more than 12 months after the date of the Rule’s publication in the Federal Register (as of the date of this article, this publication has not yet occurred). As such, the actual timing will depend on when the Rule is published in the Federal Register. In addition, it is not entirely clear whether the Rule will be interpreted to require that plans distribute a lifetime income illustration as of the first calendar quarter following the Rule's effective date or whether a plan may be able to choose when to provide the first "annual" lifetime income illustration during the year following the Rule's effective date. For example, if the Rule is published in the Federal Register on November 1, 2020 and the plan provides quarterly benefit statements as of the last day of each calendar quarter (e.g., March 31, June 30, September 30, and December 31) – would the plan need to provide the lifetime income illustration on the December 31, 2021 benefit statement or would the plan be permitted to provide it at any time during the one-year period following the Rule's effective date?
In addition to comments on the prescribed assumptions described above, the DOL invited comments on many aspects of the Rule, including:
Written comments are due within 60 days of the Rule’s publication in the Federal Register.
The Rule is administratively friendly insofar as it provides a fairly straightforward and uniform set of assumptions for calculating lifetime income illustrations and model disclosure language. However, while simplifying the calculation process, the Rule's assumptions may result in lifetime income illustrations that are of limited value to some participants (particularly those who are not close to retirement). That said, as illustrated by the DOL’s requests for comments, the Rule's assumptions and model disclosures are not set in stone, and further changes adding more functionality could be adopted in the final Rule. Despite the uncertainty regarding the final provisions of the Rule, given the lead time necessary to program systems and develop processes necessary to prepare and distribute the lifetime income illustrations, plan administrators and recordkeepers will need to start working to satisfy these requirements immediately.
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