A Simple Communications Challenge

Since the dark days of 2008, employers have taken some steps to fix the 401k, the backbone of the nation's private retirement savings system. But Nobel laureate Robert C. Merton says that in the rush to upgrade these plans, sponsors and administrators have overlooked one big problem: They are managing the plans with the wrong goal in mind. "The only way to avoid a catastrophe is for plan participants, professionals, and regulators to shift the mind-set and metrics from asset value to income," explains Merton, who won the Nobel Prize in Economics in 1997.

In recent years, employers have tried to improve 401k's by introducing features such as automatic enrollment and products including target-date funds. But these moves are not likely to be sufficient. To fix the 401k, he argues, employers and the financial services companies that manage the plans must get past the ongoing obsession with two things: account balances and annual returns. These metrics, Merton says, are far less important than the amount of sustainable income an employee can expect to receive in retirement.

By disclosing annual income, instead of (or in addition to) an account balance, Merton says, employers would help employees quickly and easily calculate how much of their annual salary they can expect to replace in retirement, together with Social Security. As a result, employees would be better able to take action to ensure they are on track to retire as planned.

But that’s only half of it. In order to accurately calculate how much retirement income a participant's 401k balance will purchase, the plan sponsor must assume the money will be invested in an inflation-adjusted deferred annuity or in long-term U.S. Treasury bonds. These investments, Merton writes, ensure "spendable income" that's "secure for the life" of the bond or annuity and are "the very assets that are the safest from a retirement income perspective."

That's not to say that 401k money shouldn't be invested in stocks. In fact, Merton says, 401k investment managers should invest participants' savings in a mixture of "risky assets," including equities, and "risk-free assets," such as long-term U.S. Treasurys and deferred annuities. Moreover, investment managers should shift the investment mixes over time to optimize the likelihood of success.

Just Got Word LLC handles this kind of communication challenge for employers through annual, personalized total compensation statements and quarterly and semi-annual participant statements, that convert account balances to annual annuities payable at specific retirement ages.  This information is presented along with projected Social Security benefits so the participant can see exactly what kind of replacement income he or she can expect to receive in retirement.

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