How to generate retirement income the TIAA-CREF way
But if your workplace retirement plan is handled through a mutual fund, brokerage firm or bank, the retirement income solutions offered most often are simply strategies for decumulation of your savings. They’re not designed to provide lifetime income, which is the only way to protect yourself from longevity risk – the risk of outliving your money.
In order to get lifetime income, you need the benefits of annuitization, which can be found only via a defined benefit pension or insurance product – both of which pool mortality risk. Many of the big retirement platform companies are starting to partner with insurance companies to sell income annuities to workers upon retirement, and industry initiatives have proposed ways to make defined contribution plans more like pensions. But the role model for success actually has been around since 1918.
That would be the TIAA Traditional Annuity, which is offered by TIAA-CREF, the nonprofit retirement solutions provider that serves academic, medical, cultural and research institutions. TIAA is the insurance side of the company; Traditional is a guaranteed fixed annuity product offered through workplace plans and or a retail IRA.
TIAA Traditional is structured to provide a guaranteed rate of return during workers’ accumulation phase, and for optional conversion of all or part of the account to a lifetime income annuity upon retirement. Traditional’s principal is guaranteed, and so is a minimum interest rate during accumulation – generally 3 percent. But additional returns have been awarded every year since 1948, averaging 7.51 percent. In 2010, it returned 4 percent.
Just as significant, Traditional guarantees a minimum interest during the payout phase to participants who annuitize, with the potential for additional amounts depending on the fund’s portfolio performance.
“It’s not a mutual fund,” says Brett Hammond, managing director and senior economist at TIAA-CREF. “In effect, you’re buying the ability of TIAA to make promises and deliver returns that meet those promises. That determines how we invest, which for Traditional is more conservative than if it were a stock fund.”
Traditional is funded via a $198.6 billion portfolio heavily weighted toward corporate and government bonds (around 46 percent). But it also includes structured finance products such as mortgage securities, equities and commercial mortgages.
“It’s oriented toward fixed-income and real assets, and we have reserves set aside to meet those promises in case of a rainy day,” Hammond says. “That enables an individual to get a guaranteed floor below which they can’t go. It’s a bit like Social Security or a defined benefit pension plan. It has extraordinarily low volatility plus a little upside.”
Why isn’t this type of plan available in more workplace plans? In part, because most defined contribution plans are focused on the 401(k) investing model. “It’s about getting good returns, picking the right funds, building the nest egg,” says Hammond.
And by law, lifetime income options must be offered by regulated insurance companies. More insurance companies are striking up alliances with mutual fund and brokerage companies to offer single premium income annuities (SPIA) at retirement.
New York Life Insurance Co., for example, reports that SPIA sales jumped 45 percent during the first quarter this year, mainly on the strength of third-party distribution. And Fidelity Investments, which offers income annuities from New York Life and four other insurance companies, had its best first quarter ever for SPIAs, up 25 percent from the fourth quarter last year.
A Towers Watson study last year found that 22 percent of employers that sponsor defined contributions plans already are offering an annuity as a distribution option – and that another 10 percent are considering adding it. At the same time, financial services companies have been rolling out new annuity offerings tailored for workplace retirement programs.
TIAA Traditional also bears some resemblance to a the concept of the Guaranteed Retirement Account (GRA) – a plan developed by progressive-leaning policy and research analysts. The GRA would be a government-sponsored plan that would serve as an add-on to Social Security, 401(k)s and IRAs. All workers would be mandated to contribute five percent of earnings to a GRA, a 401(k) or an IRA.
The GRA’s architect is Teresa Ghilarducci, director of the Schwartz Center for Economic Policy Analysis at The New School for Social Research and author of When I’m Sixty-Four: The Plot Against Pensions and the Plan to Save Them (Princeton University Press).
Ghilarducci calls for scaling back the current tax breaks on 401(k)s, especially for high earners; in its place, the government would set up a system of universal retirement accounts.
It’s an interesting idea, although some critics think it makes more sense to simply expand Social Security benefits. Of course, in the current Washington climate, neither idea seems likely to gain much traction.
Disclaimer: The author participates (indirectly) in TIAA Traditional via his spouse, a university professor who contributes to it via her workplace plan.