Treasury Department Offers Proposed Lifetime Income Guidance

February 2, 2012

Authored by: benefitsbclp

Today, the Treasury and Internal Revenue Service (IRS) released proposed regulations along with a series of rulings intended to reduce regulatory barriers and increase the employer’s ease in offering lifetime income choices (i.e., annuities) to retirees to help them avoid outliving their retirement savings.  As described in the “fact sheet” issued by the Treasury, these proposed regulations aim to offer workers more accessible options as to how they receive their retirement benefits, including:

  • a combination retirement benefit option, which would allow an individual to take a portion of their income as a lifetime annuity while taking the remainder in another form (e.g., a lump-sum);
  • a “longevity annuity” option, which would allow employees to use a portion of their account balance (the lesser of 25% or $100,000) to provide a life annuity that would not begin until the retiree had reached age 80 or 85, to protect those individuals who live beyond their life expectancy;
  • the opportunity for employees to receive lump-sum cash payouts from their employer’s 401(k) plan that can be transferred (partially or in full) to the employer’s defined benefit plan—so long as the employer maintains a defined benefit plan and allows for the transfer—so the employee could receive an annuity from the plan with the defined benefit plan’s “reduced” annuity purchase rate; and
  • the use of deferred annuities (including longevity annuities) despite the requirement of written, notarized spousal consent for optional forms of benefits.

For the employer, the difficulty in offering these forms of benefits options has been the administrative burden assessed with each option. As such, the proposed regulations aim to eliminate the regulatory barriers associated with these forms. The high-level guidance offered in the Treasury’s fact sheet has been provided in a problem & solution format, summarized below.

Offering of Partial Annuities “Split” Benefit Option

Problem: The current regulations generally require plans that allow split distribution options to apply the statutorily prescribed interest rates and mortality assumptions to calculate both the lump sum and the annuity with a split benefit option.

Solution: The proposed rule would allow the partial annuity to be calculated with the plan’s regular conversation factors and only require that the lump sum be determined with the statutorily prescribed actuarial assumptions.

 Offering of “Longevity Annuity”

Problem: Current regulations require defined contribution plans and IRAs to calculate required minimum distribution by dividing the employee’s entire account balance by the employee’s life expectancy. Within that determination of an account balance, the value of the annuity must be included when calculating the minimum distribution for each year before the annuity begins.

Solution: The proposed regulations offer special relief from the required minimum distribution rules; specifically, an annuity that (1) costs no more than the lesser of (i) 25% of the account balance or (ii) $100,000, and (2) will begin by age 85 will not be added to the calculation.

Offering 401(k) Participants the Option to Purchase Annuity from Employer’s Defined Benefit Plan

Problem: Under current guidance, it is unclear whether employers who may wish to offer participants the opportunity to purchase an annuity in the company’s defined benefit plan may do so and what rules apply.

Solution: A new Treasury/IRS ruling provides employers who sponsor both a defined contribution and defined benefit plan a roadmap to offering employees the option of rolling over some or all of their 401(k) plan payouts to the defined benefit plan in exchange for an immediate annuity from that plan. Both traditional and hybrid (e.g., cash balance) defined benefit plans can accept a rollover from a defined contribution plan.

Offering a Deferred Annuity Consistent with Plan Qualification Rules

Problem: When an employer offers optional forms of benefits, plan qualification rules require employees who choose to elect such an optional form to obtain written, notarized consent from the participant’s spouse. Employers are uncertain how and when this rule will apply if an employee elects lifetime income.

Solution: A new Treasury/IRS ruling provides various hypothetical scenarios when spousal consent provisions apply and identifies plan and annuity terms that will automatically protect spousal rights without requiring spousal consent before the annuity begins. When the annuity begins, compliance with spousal consent rules would lie with the issuing insurance company.

Further guidance pertaining to these regulations and rulings is expected from both the Treasury and Department of Labor later this year. The Treasury’s complete fact sheet is available here.

We’d like to thank our extern, Melissa Travis, for her extraordinary contributions to this post.