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Bill would require projected income from on 401(k) accounts

BOSTON

It might increase the amount of money people set aside to pay for their expenses in retirement. Then again, it might have some unintended consequences. Workers saving for retirement just might take on more risk than necessary in hopes of making up for not saving enough. What is it?

U.S. Sens. Jeff Bingaman, D-N.M., Johnny Isakson, R-Ga., and Herb Kohl, D-Wis., last month introduced a bipartisan bill that would require employers who sponsor 401(k) plans and the like to inform plan participants of the projected monthly income they could expect at retirement based on their current account balances.

So, for instance, employers would tell workers in their 60s who might have $170,000 in their 401(k) that their nest egg would produce $10,000 per year in today's dollars were it to be invested in a joint-and-survivor annuity, or $7,000 per year on an inflation-adjusted basis.

Retirement-planning experts say that sort of income information could be a good thing in some ways. For instance, the Social Security Administration each year mails working Americans a statement informing them of estimated monthly benefits based on their current earnings. At the moment, there is no near equivalent for 401(k) plan participants. Many don't have a clue how much income their plan might produce.

Not surprisingly, the AARP, the Women's Institute for a Secure Retirement and the Retirement Security Project, among others, are backing the legislation.

But knowing how much or how little one's 401(k) might produce could be a bad thing, as well, said Michael Zwecher, author of Retirement Portfolios: Theory, Construction and Management.

Consider the case of the average 401(k) participant whose account balance, according to the Investment Company Institute/Employee Benefit Research Institute, at year-end 2008 was $45,519, down from $65,454 at year-end 2007. That worker, under the provisions of the bill, would learn that nest egg would produce in today's dollars an estimated paltry $2,700 per year or $225 per month of income in retirement.

And once a worker learns how little their 401(k) might produce, Zwecher says, one of two things happen. Best case, they increase the amount they contribute to their 401(k), which currently averages 7 percent. Or they increase the amount they invest in stocks, thus increasing their exposure to market risk.

At the moment, evidence seems to suggest that many workers don't have a clue about how to invest the money in their 401(k)s. For instance, they still have too much invested in their company's stock. Yes, the percent invested in company stock is down a full percentage point from 2007 to 2008 according to the EBRI/ICI 401(k) database. But even at 9.7 percent, it's still high.

The notion of using annuities as an income option for 401(k) plan participants is gaining traction. Labor Department Secretary Hilda L. Solis said this month that the government plans to investigate how it can encourage the use of lifetime annuities or similar investment products.

The idea of telling workers how much income their nest egg will produce or the use of lifetime annuities does have merit, but the proposed law and the Labor Department should address, among other items, financial literacy and investor education.

For instance, Zwecher said telling an investor the amount of income a 401(k) might produce by investing in an annuity ignores the risk that comes with such products. A person who buys an annuity does eliminate one of retirement's biggest risks — longevity. You won't outlive your assets with an annuity.

But annuities do come with credit risk, the risk that the insurer selling the annuity could go belly-up. What's more, annuities don't offer protection against the risk of inflation, as do Social Security benefits or Treasury Inflation Protected Securities.

According to Zwecher, 401(k) participants should be informed about all the risks and rewards of the major retirement-income options, not just the rewards from one product. The annuity option is just one piece of the puzzle. And presenting that option to the exclusion of others or presenting that option without presenting its risk could hurt just as much as it helps.

Bill would require projected income from on 401(k) accounts 03/13/10 [Last modified: Friday, March 12, 2010 9:57pm]

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