AUGUST RETIREMENT PLAN NEWSLETTER
COLLECTIVE INVESTMENT TRUSTS - THE FASTEST GROWING INVESTMENT VEHICLE WITHIN 01(K) PLANS
ALEX KAHN, INVESTMENT ANALYST
For almost a century, collective investment trusts (CITs) have played an important role in the markets. They were originally introduced in 1927. A 2016 study showed that they are the fastest growing investment vehicle within 401(k) plans, with 62 percent of asset managers believing their clients will shift from mutual funds to CITs.
For the vast majority of their existence, CITs were available only in defined benefit (DB) plans. In 1936 CIT use expanded in DB plans when Congress amended the Internal Revenue Code to provide tax-exempt (deferred) status to CITs. CITs then gained widespread adoption in the 1950s when the Federal Reserve authorized banks to pool together funds from pensions, corporate profit-sharing plans and stock bonus plans. The IRS also granted these plans tax-exempt status.
In the 1980s, 401(k) plans became primary retirement plans and mutual funds became the primary investment vehicle, due to daily valuation. In the 2000s, CITs gained significant traction in defined contribution (DC) plans due to increased ease of use, daily valuation and availability. During this time CITs were also named as a type of investment that qualifies as a qualified default investment alternative (QDIA) under the Pension Protection Act of 2006.
From 2009 to 2014, the use of target-date CITs nearly doubled as a percentage of target-date assets, from 29 percent to 55 percent.
The advantages of CITs are plentiful:
- Lower operational and marketing expenses
- A more controlled trading structure compared to mutual funds
- They’re exempt from registration with SEC, thereby avoiding costly registration fees
On the other hand, CITs are only available to qualified retirement plans, and they may have higher minimum investment requirements.
While CITs have traditionally only been available to large and mega-sized plans, continued fee litigation – as well as increased CIT transparency, reporting capabilities and enhanced awareness – has amplified the allure of CITs to plan sponsors across all plan sizes. However, CITs haven’t been widely available to all plans — until now.
Through your advisor’s strategic partnership with RPAG, a national alliance of advisors with over 35,000 plans and $350 billion in retirement plan assets collectively, they can provide their clients with exclusive access to actively managed, passively managed and target date CITs, featuring top-tier asset manager at a substantially reduced cost.
For more information on CITs, please contact your plan advisor.
About the Author, Alex Kahn
Alex is an investment analyst for RPAG. He consults top-tier advisors and plan sponsors across the country on investment due diligence, with a focus on target date funds. He provides pragmatic insight on market trends and developments. Alex is also an international equity analyst for the RPAG Investment Committee and advises clients on this custom target date solution. Alex graduated with a Bachelor of Arts in economics from the Wharton School of Business at the University of Pennsylvania.
THIS WON'T HURT A BIT: IT'S TIME TO INCLUDE HEALTH CARE IN A HOLISTIC RETIREMENT STRATEGY
Health care expenses are one of the most critical issues that workers and employers face today. Historically, both health care and retirement savings have largely been kept separate, but that conversation is changing. As health care is increasingly considered through the lens of financial wellness, employers need to understand the savings options. Pretax and Roth retirement account contributions, along with HSAs, are three common ways that many employees can save for health care expenses in retirement. It’s important to consider the advantages of each.
Understanding the Differences in Health Care Savings Options
Reflects Roth and pretax employer-sponsored plans (as opposed to IRAs) unless noted. Advantages of account type (relative to the others) shown in blue. All three types grow tax-deferred. These are not the only options when it comes to saving for healthcare and/or medical-related expenses in retirement. Note that while HSAs are structured for the individual to save or invest for health costs, this is not the intended primary purpose of a defined contribution plan or IRA. Individuals should evaluate their health coverage needs and other factors before seeking tax benefits of an HAS. Source: IRS documents.
HSAs paired with a high-deductible health plan (HDHP) can be part of a competitive benefits package The old mantra of offering a competitive benefits package to “recruit, retain, and reward” needs updating. With an emphasis on financial wellness and health care flexibility, the “three R’s” should now shift to “recruit, retain, and retire.” Remember, fiduciary responsibility and liability extends to terminated employees with assets in the plan. This responsibility includes delivery of all required distributions and all fiduciary prudence responsibilities. Stay in touch with this important group.
Depending on your organization’s size, offering an HSA could be seen as a differentiator, or merely table stakes, versus your competition.
- 87% of jumbo employers,
- 72% of large employers, and
- 34% of small employers
…plan to offer HSAs by 2019.
HSAs can support retention efforts for key employee demographics (e.g., healthy millennials who prefer the ability to save for their own health care expenses and executives who appreciate an HSA’s tripletax advantage).
- $4,129 is the average cost of onboarding a new hire.
Comprehensive benefits all add up to providing employees with financial support that allows them to retire when they want to rather than when they have to. 64% of employees think health care costs will impact their retirement. HSAs may help you bring value to your employees. We suggest that you:
- Arrange for fair and balanced reviews of health care savings options, strategies, and benefits to employees
- Review educational materials to ensure that they are clear and comprehensive
- Connect the health care conversation to retirement and financial wellness
- Evaluate adoption and usage data
- Explore ways to provide employees with HAS investment education or guidance
HSAs may make sense for certain employers, especially since the average cost of an HAS-eligible plan is 22% LESS than a traditional PPO.
Welcome to Hey Joel! This forum answers plan sponsor questions from all over the country by our in-house former practicing ERISA attorney.
Is there regulatory guidance that would indicate whether forcing out terminated participants is favorable to keeping them in? What fiduciary liabilities are absolved by forcing them out (assuming this is consistent with the plan document)? – Responsible in Rhode Island
Great question! Assuming consistency with the plan document, there is no expanded fiduciary liability in forcing them out of the plan, as this is an allowable plan provision. As to whether cashing participants out is favorable to keeping them in, that depends on benefit to the plan or benefit to the participants.
An example would be if the plan is of significant size to have competitive expenses and access to sufficiently diverse investments including appropriately selected TDFs, it should typically benefit most participants to remain in the plan from an investment perspective.
From the viewpoint of the plan, if participants leaving the plan leave it in a less competitive pricing structure, it would benefit the plan to keep them in. Since these are low account balances, this is unlikely to be the case.
There are potential positives and negatives for both plan and participant interests, therefore it is best determined on a case-specific basis, but most typically it benefits the plan to cash out low account balances as if assets remain in the plan, the plan fiduciaries remain responsible for all prudence requirements including distributions to terminated participants. So, small account balances can be an inconvenience to the plan and fiduciaries.
Always weighing both sides,
About Joel Shapiro, JD, LLM
As a former practicing ERISA attorney Joel works to ensure that plan sponsors stay fully informed on all legislative and regulatory matters. Joel earned his Bachelor of Arts from Tufts University and his Juris Doctor from Washington College of Law at the American University.
PARTICIPANT CORNER: RETIREMENT PLAN CHECK-UP
This month’s employee memo encourages employees to conduct a regular examination of their retirement plan to determine whether any changes need to be made. Download the memo from your Fiduciary Briefcase at fiduciarybriefcase.com. Please see an excerpt below.
It’s important to conduct regular check-ups on your retirement plan to make sure you are on track to reach your retirement goals. Below are a few questions to ask yourself, at least annually, to see if (and how) they affect your retirement planning.
1. Review the past year
Did you receive a raise or inheritance?
If yes, you may want to increase your contributions.
Did you get married or divorced?
If yes, you may need to change your beneficiary form.
Are you contributing the maximum amount allowed by the IRS?
In 2018 you can contribute up to $18,500 ($24,500 for employees age 50 or older).
Did you change jobs and still have retirement money with your previous employer?
You may be able to consolidate your assets with your current plan. (Ask your human resources department for more details)
2. Set a goal
What do you want your retirement to look like? Do you want to travel? Will retirement be an opportunity to turn a hobby into a part-time business? Will you enjoy simple or extravagant entertainment?
Take time to make out your specific goals for retirement. Participants that set a retirement goal today, feel more confident about having a financially independent retirement down the road.
3. Gauge your risk tolerance
Understanding how comfortable you are with investment risk can help you determine what kind of allocation strategy makes the most sense for you. Remember, over time, and as your life changes, so will your risk tolerance.
4. Ask for help
If you have questions about your retirement plan or are unsure of how to go about saving for retirement, ask for help. Your retirement plan advisor can help you evaluate your progress with your retirement goals, determine how much you should be saving and decide which investment choices are suitable for you.
FIDUCIARY HOT TOPICS: THIRD QUARTER 2018
DOL Fiduciary Rule Now Dead in the Water
The Department of Labor elected not to appeal to the Supreme Court from the Fifth Circuit of the U.S. Court of Appeal’s March decision vacating the new Fiduciary Rule (the Rule) in its entirety. Several parties, including AARP and several states’ attorney generals, attempted to join this law suit in order to continue a defense of the Rule. The Fifth Circuit did not grant these requests.
The primary elements of the Rule and prohibited transaction exemptions are that any person making investment recommendations to plans, their participants or IRA holders, is acting as a fiduciary and may only make recommendations that are in the “best interests of the client” and to broaden the scope of the Department of Labor’s jurisdiction. The rule is complex (the regulation runs 176 pages) and generated much controversy.
Some commentators have argued that this decision does not apply outside the Fifth Circuit (parts of Texas, Louisiana and Mississippi) in light of a decision by the Tenth Circuit upholding the Rule. However, others have taken the position that it does. The Department appears to concede this point in a bulletin regarding enforcement relief issued following the Fifth Circuit’s decision. In any event, in light of the Department’s decision not to appeal, it seems that under the Trump administration, there will be no serious enforcement efforts.
This notwithstanding, the Rule may have a lasting impact. Many broker-dealers, including some of the largest players in the business, have adopted policies and procedures reflecting the standards in the Rule. Many of these firms have stated they intend to leave these policies and procedures in place. Also, the Securities and Exchange Commission’s recent decision to beef up its own standards for brokers seems to have been prompted by the Department of Labor’s foray into this area.
Securities and Exchange Commission Picks Up the Ball
In April, the Securities and Exchange Commission issued a package of proposed advice standards. Sharing the Department of Labor’s tendency to be somewhat verbose, the package runs to about 1,000 pages. It includes a “Regulation of Best Interest.” Comments on these proposed standards were due to the Commission by August 7th. It is important to note that even with the issuance of this package the SEC was split internally in regards to support for the package
In its essence, this regulation will require brokers to put their clients’ needs ahead of their own desire to maximize revenue when making a recommendation. This is a much higher bar than the current long standing rule that requires brokers to make only recommendations that are “suitable” to the client’s investor profile, but does not address fees. That the Commission is taking this step is not surprising. It has always led the way among government agencies in regulating the financial services industry and it has, on more the one occasion, stated it believes the Department of Labor was stepping onto its turf in promulgating a rule governing the actions of brokers and advisors. Earlier this year Jay Clayton, chairman of the Commission, stated that a fiduciary rule was at the top of the Commission’s agenda for 2018.
Broker-dealers will be required to establish policies and procedures designed to identify and disclose conflicts of interest that may result from financial incentives. Significantly, where conflicts are identified, broker-dealers must take steps to mitigate the conflict.
Due to Their Low Costs, CITs Continue to Grow in Popularity
Collective investment trusts (generally known as CITs) long used by defined benefit plans, are now the fastest growing investment vehicle in 401(k) plans. As of the end of 2015, over $2 trillion in assets were invested in CITs and over 70% of 401(k) plans now include at least one CIT in their investment lineup.
Like mutual funds, CITs are designed to facilitate investment management by pooling investors’ assets into a single portfolio, thereby reducing costs through economies of scale and giving investors exposure to strategies they cannot access individually.
The chief advantage CITs have over mutual funds is lower costs. This is due primarily to the fact that CITs are not subject to the expensive process of registering with and reporting to the Securities and Exchange Commission. For this reason, flexPATH is offered through CITs and by utilizing CITs, and NFP is able to give clients access, at significant savings, to top performing investment managers in major asset classes.
There are some important differences between CITs and mutual funds:
- CITs are sponsored by banks and are regulated by the Office of the Comptroller of the Currency and state banking authorities, mutual funds are regulated by the Securities and Exchange Commission
- Because CITs are subject to ERISA, they are also regulated by the Department of Labor and must file an annual return (form 5500), mutual funds are exempt from ERISA
- CITs can only be offered to retirement plans, mutual funds are open to all investors
- One disadvantage of CITs is that when compared to mutual funds, less information about CITs is publically available via use of ticker symbols, but plans that utilize them have the same fund fact sheets available on their websites for CITs as they do for mutual funds
Pension Benefit Guaranty Corporation’s Multiemployer Program Looks to be in a Tail Spin
The Pension Benefit Guaranty Corporation’s (the PBGC) is a government insurance program that guarantees all private defined benefit pensions. There is no comparable insurance for defined contribution plans. The PBGC now pays benefits to almost a million participants covered by 4,800 failed pension plans and is responsible for future payments to another half a million individuals.
The PBGC’s program for multiemployer plans now has liabilities for benefit payments that exceed assets by $65 billion. This program is on track to run out of cash in 2025.¹ Senator Sherrod Brown of Ohio has proposed a legislative fix, known as the Butch Lewis Act. It will prop up the PBGC by establishing a legacy fund within the PBGC. This will be funded by closing “tax loopholes that allow the wealthiest Americans to avoid paying their fair share of taxes.”
Congress began looking at pension funding after Studebaker Motors failed in 1963 and left 4,000 employees with little or no pension benefits. This ultimately led to the enactment of ERISA in 1974. A key component of ERISA was the creation of the PBGC.
When the sponsor of a pension plan becomes insolvent and goes into bankruptcy, the PBGC is required to assume responsibility for the plan going forward. The Agency takes control of plan assets and assumes responsibility for future benefit payments. Companies that go through reorganization in bankruptcy court are sometimes permitted to terminate their pension plans, thereby forcing the PBGC to assume responsibility. The record to date is the United Airlines bankruptcy in 2005. The bankruptcy court allowed United to dump $7.5 billion in unfunded pension liabilities onto the PBGC.
The PBGC is funded primarily through a per participant annual premium paid by pension plans. These premiums have grown significantly over the years and are now a major detractor to establishing or maintaining a pension plan. For single employer plans, the premium varies depending upon the amount of underfunding. For 2018, the premium can run as high as $597 per participant.² This compares to a 50 cent premium when ERISA was enacted in 1974.³
¹Pension Benefit Guaranty Corporation. PBCG Fiscal Year 2017 Annual Report. https://www.pbgc.gov/news/press/releases/pr17-10
²Pension Benefit Guaranty Corporation. Premium Rates. https://www.pbgc.gov/prac/prem/premium-rates
³Pension Benefit Guaranty Corporation. MPRA Report. https://www.pbgc.gov/documents/MPRA-Report.pdfPension
The Dust Has Largely Settled Around Stable Value Lawsuits, Plaintiffs Have Experienced Little Success
It is ironic that one of the most conservative investment offerings in 401(k) plans has been a flash point of class action litigation.
Stable value funds are relatively low risk investments intended to protect against interest rate volatility. The primary objective is preserving capital. These funds are often the most conservative offering in the investment lineups of 401(k) plans. While the returns for stable value funds are low, they tend be higher than money market and short-term bond funds.
The lawsuits involving stable value products have generally fallen into one of three categories: the portfolio was either too risky or too conservative resulting in anemic returns; the declared interest rate on insurance products was too low; and the failure of a plan sponsor to include a stable value option in the plan’s investment lineup.
By and large, plaintiffs have not fared well. Some of the allegations made in the complaints give the impression that the attorneys bringing the suit did not fully understand stable value investments. True to past decisions involving ERISA and retirement plans, the courts tended to favor the defendants where the plaintiffs challenged widely accepted industry practices.
Portfolio too risky:
- JPMorgan – Settled parties agreed to $75 million settlement. One of the plaintiffs’ allegations was that the use of mortgage-backed securities was too risky. It is notable that at the outset of this law suit, JPMorgan announced it would no longer include mortgage-backed securities in its stable value portfolios.
Portfolio too conservative:
- Fidelity – Dismissed – Upheld on appeal. Court noted preservation of capital is a key concern.
- CVS – Dismissed – Court noted that a portfolio must meet its stated objectives and does not have to conform to industry averages.
- Union Bond & Trust – Dismissed – No opinion accompanied the dismissal order. At one point in the proceedings, the judge noted that the named plaintiff stood to gain less than one cent if the suit succeeded.
Failure to offer stable value option:
- Chevron – Dismissed – Court stated that the plaintiffs’ allegations were too broad and not tied sufficiently to any facts.
- Anthem – Dismissed – Court noted that ERISA does not require that fiduciaries offer any particular type of investment.
- Insperity – Dismissed – Court noted that plaintiffs’ allegations were based entirely on hindsight.
Declared interest rate too low:
- Prudential – Class action status denied.
- Principal – Dismissed – No opinion accompanied the dismissal order.
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Lutz Financial (“Lutz”), or any non-investment related content, made reference to directly or indirectly in this newsletter will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this newsletter serves as the receipt of, or as a substitute for, personalized investment advice from Lutz. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Lutz is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice. A copy of the Lutz’s current written disclosure Brochure discussing our advisory services and fees is available upon request. Please Note: If you are a Lutz client, please remember to contact Lutz, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services. Lutz shall continue to rely on the accuracy of information that you have provided.
For more important disclosure information, click here.
RECENT LUTZ FINANCIAL POSTS
Value investing has been around for nearly a century, developing a devout group of followers over time. Some of the world’s most prominent investors employ a variation of the strategy, including Omaha’s…read more
This month’s newsletter includes insights on integrating your health savings into your retirement plan, Anthem settlements, information on HSA’s, and more…read more
This month’s newsletter contains insights on how to stay on top of your responsibilities and liabilities this summer and more…read more
13616 California Street, Suite 300
Omaha, NE 68154
747 N Burlington Avenue, Suite 401
Hastings, NE 68901
601 P Street, Suite 103
Lincoln, NE 68508
3320 James Road, Suite 100
Grand Island, NE 68803