'Tacts' Treatment?

Roth 401(k)s are more prevalent—and popular—than ever. But is that good—or bad—for retirement?

A recent op-ed[i] in The Wall Street Journal explored the potential implications—“What ‘Rothifying’ 401(k)s Would Mean for Retirees”— (subscription required), though the focus is on tax policy as well.

You’ll remember that so-called “Rothification”—essentially the elimination of the pre-tax treatment currently accorded 401(k) contributions—was quite the controversial issue back in 2017 when the Republican-controlled House of Representatives was looking for ways to raise revenue to help pay for tax cuts.[ii] And while it’s not been an active focus of late, it seems likely to resurface as the nation’s budget deficit widens, and the field of 2020 presidential aspirants seem determined to find ways to spend more or, in the case of the incumbent, collect less in taxes.

‘Out’ Comes 

As for the WSJ treatment, I’ll spare you the short read (longer if you actually check out the 36-page paper it was based upon), and summarize it thusly: later retirements (not by choice, but of necessity), less retirement income, and more wealth inequality. Though, at least in the short run, more tax revenue for Uncle Sam.[iii]

Now most of this comes from a key assumption; as the WSJ piece puts it, “Over their lifetimes, workers would accumulate one-third less in their 401(k)s under a Roth system. This is because, with no tax advantage from contributing to a 401(k), workers would save less and those lower contributions would earn less over the years.”

Said another way, without the tax break, the authors conclude that workers won’t save as much, and saving less means that they’ll have less invested, and that  means that they’ll have less retirement income. They also argue that, with Rothified savings, workers would tap into Social Security later—a year later, on average, they claim. They note that with their retirement savings already taxed, wealthier individuals would be inclined to defer taking Social Security (increasing their benefit), widening income inequality.[iv]

‘Less’ on Plan?

The concern about mandatory Rothification was always that workers would, in fact, save less—and this is a concern that employers have expressed, though this was in the context of the ability to save on a pre-tax basis being taken away. That, in turn, seems to be predicated on the notion that workers have a specific dollar amount in mind that they can afford to save, and that if some of that certain dollar amount goes to taxes, there is a dollar-for-dollar offset. Doubtless that’s true for some, particularly among lower-income workers. However, when I have seen savings data, what seems to be the norm is that individuals save a specific percentage of pay, one generally driven either by what’s necessary to earn the employer match, or perhaps that rate at which default contributions are set. In other words, people choose to save 3% of pay, not $50/paycheck.

Now, if that  perception is accurate (feel free to disagree in the comments below if you see things differently), then it seems to me that most individuals might actually save the same amount, regardless of whether it’s pre- or post-tax. And if they were to same at the same rate (and admittedly that’s a big “if”), their retirement outcome might actually be more  secure—because withdrawals (and taxation) wouldn’t be forced on them by RMD calculations, because they wouldn’t have to worry about those contributions—and the earnings that have accumulated on those contributions—being taxed, and, significantly, because the reduction in taxable income wouldn’t undermine (through “means testing”) Social Security benefits.

But key to the analysis is how participants would respond, and the study cited in the WSJ isn’t the only academic consideration on the subject; one in 2015 found no change in savings rates with a voluntary addition of a Roth feature, and in 2017, the non-partisan Employee Benefit Research Institute (EBRI) found that it might help—or hurt—retirement security—and this is key—depending on the response of participants.

It appears that more participants are being presented with that option. Nearly 70% of plans now provide a Roth 401(k) option, according to the most recent survey by the Plan Sponsor Council of America. Perhaps more significantly, that survey, reporting 2018 plan activity, finds that nearly a quarter of participants (23%) elected to contribute to a Roth when given the opportunity, up from 19.5% in 2017 and 18.1% in 2016—an increase of nearly 30% in just three years.

Academic studies notwithstanding, it’s worth remembering that retirement security isn’t just a matter of how much you have saved at  retirement; it’s how much you have available to spend throughout retirement.

- Nevin E. Adams, JD

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[i]The authors of the WSJ article, Olivia S. Mitchell and Raimond Maurer, previously authored a research paper upon which the WSJ piece was based (albeit with a slightly different title, “How Would 401(k) ‘Rothification’ Alter Saving, Retirement Security, and Inequality?”). 

[ii]They weren’t, however, the first to propose such a shift. President Obama did so in 2015.

[iii]However, the authors state that the taxes collected on withdrawals of that money exceed the amount of additional income taxes that would be collected during people’s working lives under Rothification.

[iv]As a side note, the authors in the WSJ article note that not only would this be bad for Social Security funding, but they also conclude that the taxes collected on withdrawals would exceed the amount of additional income taxes that would be collected during people’s working lives under Rothification—ostensibly because of their previous assumption that it would be a larger accumulation of money to be taxed. 

After the Fall

I’ve just passed the fifth anniversary of a small fall that took a big chunk out of my life.

It was one of those little things – carrying that last box of Christmas ornaments to the basement for storage – when, just three steps from the bottom, I missed one. All I could think about in the 2 seconds it took me to tumble to the ground was trying not to fall on the ornaments (it was the last box, but who knew what precious memories were in that one?) – though that focus completely disappeared once I hit the floor.

The ornaments, as it turned out, were safe. My left ankle, not so much.

The next several weeks were discouragingly inconvenient when it came to navigating stairs, opening doors (even the ones that are ostensibly designed to accommodate such things), and – worst of all – showering. But perhaps the most frustrating was my rehab stint. I would not have thought it was possible in the space of just 8 weeks to forget how to walk – and yet, I found myself struggling (mind you, I was in a boot). To this day, I don’t descend a flight of stairs without a shudder running up my spine.

The fall, as falls often are, was fast and unexpected – the recovery long and painful.

At a time when the markets continue to stake out new highs on weekly, it is perhaps unseemly to recall that they can, and do, move in the opposite direction. While participants, generally speaking, appear to ride out such storms, those who sell low and buy high inevitably seem to outnumber those who view the downturns as buying opportunities. That said, in 2019 the S&P 500 rose more than 28% – and the average 401(k) balance – buttressed not only by the markets, but by contributions – ended the year 44.9% higher for those workers aged 25-34 with less than 4 years of tenure, while workers with more than 20 years of tenure, aged 55-64, registered a 24.6% increase, according to estimates by the Employee Benefit Research Institute (EBRI).

Indeed, just last week I read that a major target-date fund provider was boosting the equity allocation in its glide paths… explicitly to help deliver improved outcomes. Nor is it the only one to have done so (see Missing the Target). Those moves, ostensibly informed by economic insights and research, are perhaps tempted by the long-running bull market (and doubtless aware that, despite all the cautions to the contrary, that investors – and plan fiduciaries – are often drawn by past performance like moths to a flame).

Now, our industry has long cautioned savers that you can’t invest your way out of a savings shortfall, though surely improving outcomes is a shared goal. Not that it isn’t a tempting recourse – certainly for those who are awakening to financial realities late in their working years. These days the trend is to embrace glidepaths that sail “through” the stated age of retirement (“through” rather than “to”[i]), though one can’t help but wonder if those defaulted onto those paths are cognizant of the difference. Or if, as was the case a bit more than a decade ago, those on the brink of retirement will discover that there can be a significant gap between a glidepath that is “more” conservative, and one that truly lives up to that description.

Because, after all, falls are often unexpected. The recovery slow and painful.

- Nevin E. Adams, JD

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[i] Though the 62^nd Annual Survey of Profit-Sharing and 401(k) Plans from the Plan Sponsor Council of America found a rough 50-50 split among respondents between those relying on target-date fund glidepaths that are “to” versus “through” retirement.

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The End in Mind

Could lifetime income disclosures undermine retirement savings?

Over the past several years, a growing amount of attention has been focused on the decumulations of defined contribution plan balances in retirement – and a sense that the emphasis on account growth, and account balances, glosses over the reality that at some point in the future those savings will need to be turned into a retirement paycheck.

Enter the SECURE Act, which among its numerous retirement-related provisions added the new “lifetime income disclosure” requirements to ERISA’s benefit statement rules. It applies to individual account plan benefit statements and the lifetime income disclosure must be provided in one benefit statement during each 12-month period. Simply stated, the new law requires that the participant’s total accrued benefit be expressed as a “lifetime income stream” in the form of a single life annuity and a qualified joint and survivor annuity, assuming the participant has a spouse of equal age. The assumptions for these disclosures will be provided later by the DOL.

While it’s generally assumed (certainly that was what the authors of SECURE hoped) that this presentation will help participants attain a more realistic perspective on their retirement future (or at least the sufficiency of the financial resources they have amassed for that eventuality), there has been some concern that the reality, certainly in the absence of counsel on how to improve those prospects, will discourage, rather than motivate saving. Indeed, that was a concern expressed at a gathering of ERISA attorneys here in the nation’s capital.

That puzzled me a bit – I’ve currently got my accumulated 401(k) savings spread across the plans of four different providers, and three of them have been projecting my retirement income for several years now. Now, because those balances are in different places, those projections haven’t been especially useful (though I know how to add), but still… providing those type projections may still be on the horizon for some, but it’s hardly a big leap. And I’ve not heard or read about any big slumps in savings rates as a consequence.

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Visit our new SECURE Act resource center!

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Though it’s likely drifted from the recollection of most, back in May 2013, the DOL’s Employee Benefits Security Administration (EBSA) published an advance notice of proposed rulemaking (ANPRM) focusing on lifetime income illustrations. Under that proposal, a participant’s pension benefit statement (including his or her 401(k) statement) would show his or her current account balance and an estimated lifetime income stream of payments based on that balance (sound familiar?). The question then, as now, was – what impact, if any, would that disclosure have on participant behaviors?

Well, the Employee Benefit Research Institute (EBRI) included a series of questions in the 2014 Retirement Confidence Survey that would provide monthly income illustrations similar in many respects to those proposed to be provided by the EBSA’s online Lifetime Income Calculator proposal, and ask workers for their reaction(s).

What impact did that have?

Now, while there are certainly going to be differences resulting from a personal engagement (and there were some  differences in the assumptions,[i]) EBRI asked about their current account balances, and assuming retirement at 65, presented them with a monthly income figure. As it turned out, more than half (58%) felt that the illustrated monthly income was in line with their expectations.[ii] Considering those results, it is perhaps not surprising that the vast majority (81%) of the respondents indicated that they would continue to contribute what they do now after hearing the projected monthly income amount, while 17% replied that hearing this information would lead them to increase the amount they are contributing.

It remains to be seen what difference(s), if any, guidance from the DOL following the SECURE Act’s admonitions might have on the projections some (most?) recordkeepers are already providing, and how individuals, once presented with those  projections actually respond.

That said, the evidence we do have – the EBRI study and the anecdotal sense from the examples already in the marketplace – suggests that that “end in mind” focus will, at worst, have no impact – and at best, might well be the positive influence its proponents have hoped.

- Nevin E. Adams, JD

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[i]Of course, any such projection is necessarily required to make a number of critical assumptions – including future contribution activity, future rates of return, future asset allocation, and future annuity purchase prices. Other changes in assumptions were:

• Rather than using normal retirement age for the calculation, they asked about their expected retirement age.
• Since the age of the spouse was not known for married respondents, only the single life annuity income illustration was used.
• Given that the information was being provided to the respondent during a phone interview, only the projected monthly income (based on the projected account balance given the respondents’ reporting of their current balances) was provided.

[ii]On the other hand, 8% of the defined contribution participants said the monthly amount was much less than expected, though another 19% said it was somewhat less than expected.

Question Err?

“Presumably, if workers earned income in a retirement account, it is safe to assume that they had a retirement account…”.

Ya think?

That somewhat self-evident statement is drawn from a recent Issue Brief by the non-partisan Employee Benefit Institute (EBRI). That it was necessary is a cautionary tale about the blind reliance on data, even from a credible source, that looks suspicious.

It relates to the Current Population Survey (CPS), Annual Social and Economic Supplement (fielded in March of each year) to the CPS, conducted by the U.S. Census Bureau – a report that had long been one of the most cited sources[i] of income data for those whose ages are associated with being retired.

‘Bold’ Move

The problem appears to have its roots in a well-intentioned attempt to provide a more accurate read on income from DC plans. Responding to research that indicated that the CPS misclassified and generally underreported income, particularly pension income, the Census Bureau in 2014 conducted a redesign of the CPS questionnaire that altered and added to questions on income in order to better capture income from pensions.

To do so, the authors of this survey added (IN BIG BOLD LETTERS) an instruction that respondents NOT INCLUDE DISTRIBUTIONS OR WITHDRAWALS FROM IRAS, 401(k)s, or SIMILAR ACCOUNTS. This “clarity” does, in fact, seem to have produced a more accurate read on that specific question. The reporting of pension income that year, and in subsequent iterations, has risen.

However, beginning with that version of the CPS, there was a commensurate sharp drop in both the overall percentage of workers participating in a retirement plan, a decline in the number of workers participating, and declines in participation among those most likely to participate. This result, by the way, was counter to other reputable data sources, including the upward trend in the number of active participants in private-sector plans according to tabulations of Form 5500 filings by the Employee Benefits Security Administration, findings on retirement plan participation from the Bureau of Labor Statistics’ National Compensation Survey (BLS-NCS).

Fall ‘Call’

How much did it drop? The EBRI report explains that for full-time, full-year wage and salary workers ages 21-64, the percentage participating in 2013 under the traditional questionnaire was 54.5% vs. 49.3% under the redesigned questionnaire. This number fell to 39.9% in 2018 despite a slight uptick to 41.4% in 2017. Moreover, the number of full-time, full-year wage and salary workers ages 21-64 estimated to be participating in an employment-based retirement plan decreased from 51.4 million in 2013 (under the traditional design) to 41.0 million in 2016. By the way, the number of active participants increased from 89.9 million in 2014 to 94.6 million in 2017 according to 5500 data.

So why did the question regarding pension income translate into such enormous declines in participation? Well, you have to engage in a bit of speculation, but the trend and the timing suggest that individuals responding to the CPS, told to exclude 401(k)s, 403(b)s, IRAs, etc. on the question regarding pension income basically applied that direction to questions regarding their participation in a plan.

Gap ‘Flap’?

The good news is that this aberrant result was caught almost immediately by EBRI, and later by groups such as the Investment Company Institute. And, when a subsequent version came out with the same aberrant results, those groups once again held that up to scrutiny. And yet, that CPS data was still “out there,” and for some constituted the “official” version of the state of retirement plan participation in the United States.

That said, the newest iteration of the CPS included a new question that might be a step along the way to a more accurate assessment. Specifically, EBRI researcher Craig Copeland notes that in the 2019 dataset, the CPS added variables relating to income earned in a retirement account – and that addition, coupled with the assumption that began this post, provides some hope for an accurate data read.

That additional question simply posits whether the respondent received interest income, and from what source(s) – including 401k, 403b, among other retirement accounts. Copeland has taken the number of workers who responded that they received income from one of the employment-based retirement accounts and added that to the number of workers who reported having a pension plan under the traditional questions (accounting for those responding yes to both) to provide an adjusted overall estimate of employment-based retirement plan participation.

What’s the Impact?

Recall for a moment the data on fulltime, full-year wage and salary workers ages 21-64, that had indicated a 54.5% participation in 2013, only to drop below 40% in 2018 with the new questionnaire. However, taking into account the information from the new question, Copeland finds that the adjusted percentage participating jumps to 59.0% for this group in 2018. Similar, positive results are found for the other categories as well – results, it should be noted, that are much more in line with other data sources.

Now, despite those positive results, Copeland cautions since this is just one year of data, “a trend is obviously indeterminable.”

That said, I can’t help but be reminded about that old story about the optimistic child who awakens on Christmas morning and finds a heap of horse manure under the tree, rather than the anticipated – and still responds, “With all this manure, there must be a pony somewhere!”

Seems as though Dr. Copeland has found a pony in this data, after all.

- Nevin E. Adams, JD

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[i]See Data ‘Minding. Compounding the issues, for participation data, the NIRS draws on the Current Population Survey (CPS), even though the report’s own footnotes acknowledge that “the 2014 redesign of CPS produced much lower participation rates for working Americans in years after 2014 (participation in 2014 was at 40.1% but at 31.7% in 2017), which has not been fully explained.” They aren’t the only ones to take note of this aberration (see CPS Needs a New GPS and Commonly Cited Participation Gauge Misses the Mark, Study Says), but decide, for reasons not fully explained, to rely on the data there anyway. Indeed, a June 2018 report on the impact of the changes in the CPS by the nonpartisan Employee Benefits Research Institute (EBRI) cautions that “the estimates from the most recent surveys could easily be misconstrued as erosions in coverage, as opposed to an issue with the design of the survey.”

Will your portfolio be fortified by a 49ers win – or get chipped by the Chiefs?

That’s what adherents of the so-called Super Bowl Theory would likely conclude. The Super Bowl Theory holds that when a team from the old National Football League wins the Super Bowl, the S&P 500 will rise, and when a team from the old American Football League prevails, stock prices will fall.

It’s a “theory” that has been found to be correct nearly 80% of the time – for 40 of the 53 Super Bowls, in fact.

Not that it hasn’t had its shortcomings. One need look back no further than last year’s win by the AFC’s New England Patriots over the NFC champion Los Angeles Rams to find an exception – the S&P 500 was up more than 30% in 2019. And then it was just the year before that a win by the NFC champion Philadelphia Eagles against the AFC Champion Patriots (who once were the AFL’s Boston Patriots) also turned out to be a loser, marketwise, with the S&P 500 down more than 6% (though for most of the year it was quite a different story). Ditto the year before when the epic comeback by those same AFC Champion Patriots against the then-NFC champion
Atlanta Falcons didn’t forestall a 2017 market surge.

Nor is it always the Patriots who play Super Bowl Theory spoilers – the year before that the AFC’s (and original AFL) Broncos’ 24-10 victory over the Carolina Panthers, who represented the NFC, also proved to be an “exception.”

Market Makings

That string, however, was an unusual break in the streak that was sustained in 2015 following Super Bowl XLIX, when the AFC’s New England Patriots bested the Seattle Seahawks 28-24 to earn their fourth Super Bowl title. It also “worked” in 2014, when the Seahawks bumped off the legacy AFL Denver Broncos, and in 2013, when a dramatic fourth-quarter comeback rescued a victory by the Baltimore Ravens (over the San Francisco 49ers, it should be noted) – who, though representing the AFC, are technically a legacy NFL team via their Cleveland Browns roots.

Admittedly, the fact that the markets fared well in 2013 was hardly a true test of the Super Bowl Theory since, as it turned out, both teams in Super Bowl XLVII the Ravens and the San Francisco 49ers – were NFL legacy teams.

However, consider that in 2012 a team from the old NFL (the New York Giants) took on – and took down – one from the old AFL (the New England Patriots – yes, those New England Patriots). And, in fact, 2012 was a pretty good year for stocks.

Steel ‘Curtains’?

On the other hand, the year before that, the Pittsburgh Steelers (representing the American Football Conference) took on the National Football Conference’s Green Bay Packers – two teams that had some of the oldest, deepest and, yes, most “storied” NFL roots, with the Steelers formed in 1933 (as the Pittsburgh Pirates) and the Packers founded in 1919. According to the Super Bowl Theory, 2011 should have been a good year for stocks (because, regardless of who won, a legacy NFL team would prevail).

But as you may recall, while the Dow gained ground for the year, the S&P 500 was, well, flat.
And then there was the string of Super Bowls where the contests were all between legacy NFL teams (thus, no matter who won, the markets should have risen):

• 2006, when the Steelers bested the Seattle Seahawks;
• 2007, when the Indianapolis Colts beat the Chicago Bears 29-17;
• 2009, when the Pittsburgh Steelers took on the Arizona Cardinals (who had once been the NFL’s St. Louis Cardinals); and
• 2010, when the New Orleans Saints bested the Indianapolis Colts, who had roots back to the NFL legacy Baltimore Colts.

Sure enough, the markets were higher in each of those years.

As for 2008? Well, that was the year that the NFC’s New York Giants upended the hopes of the AFL-legacy Patriots (yes, those  Patriots) for a perfect season, but it didn’t do any favors for the stock market. In fact, that was the last time that the Super Bowl Theory didn’t “work” (well, until this past year – oh, and the year before that  – and the year before…).

Patriot Gains

Times were better for Patriots fans in 2005, when they bested the NFC’s Philadelphia Eagles 24-21. Indeed, according to the Super Bowl Theory, the markets should have been down that year – but the S&P 500 rose 2.55%.

Of course, Super Bowl Theory proponents would tell you that the 2002 win by the New England Patriots accurately foretold the continuation of the bear market into a third year (at the time, the first accurate result in five years). But the Patriots’ 2004 Super Bowl win against the Carolina Panthers (the one that probably nobody except Patriots fans and disappointed Panthers advocates remember because it was overshadowed by Janet Jackson’s infamous “wardrobe malfunction”) failed to anticipate a fall rally that helped push the S&P 500 to a near 9% gain that year, sacking the indicator for another loss (couldn’t resist).

Bronco ‘Busters’

Consider also that, despite victories by the AFL-legacy Denver Broncos in 1998 and 1999, the S&P 500 continued its winning ways, while victories by the NFL-legacy St. Louis (by way of Los Angeles) Rams (that have now returned to the City of Angels) and the Baltimore Ravens did nothing to dispel the bear markets of 2000 and 2001, respectively.

In fact, the Super Bowl Theory “worked” 28 times between 1967 and 1997, then went 0-4 between 1998 and 2001, only to get back on track from 2002 on (though “purists” still dispute how to interpret Tampa Bay’s 2003 victory, since the Buccaneers spent their first NFL season in the AFC before moving to the NFC).

Indeed, the Buccaneers’ move to the NFC was part of a swap with the Seattle Seahawks, who did, in fact, enter the NFL as an NFC team in 1976 but shuttled quickly over to the AFC (where they remained through 2001) before returning to the NFC (see below). And, not having entered the league until 1976, regardless of when they began, can the Seahawks truly be considered a “legacy” NFL squad? Bear in mind as well, that in 2006, when the Seahawks made their first Super Bowl appearance – and lost – the S&P 500 gained nearly 16%.

As for Sunday’s contest, the 49ers have been here before – this is their seventh appearance, having won 5 (and being the first team to do so), but having fallen short their last time. If they do prevail, that sixth Lombardi trophy will tie them with the Patriots and Steelers in the all-time list. As for the Chiefs, well, it’s been a half-century drought for them in the Super Bowl, though the last time they appeared (January 11, 1970 – Super Bowl IV) they were victorious (over the heavily favored Minnesota Vikings). Only the New York Jets (51 years) have endured a longer stretch in between titles. The Chiefs did appear in what was subsequently dubbed Super Bowl I (but at the time more simply the AFL-NFL Championship Game).

Trivial “Pursuits’

Super Bowl LIV will be played at Hard Rock Stadium in Miami Gardens, Florida. While it’s the sixth Super Bowl to take place at the stadium, it’s had a different name for almost every championship -- Sun Life Stadium (XLIV, 2010), Dolphin Stadium (XLI, 2007), Pro Player Stadium (XXXIII, 1999), Joe Robbie Stadium (XXIX, 1995).

This happens to be the first time a Super Bowl will feature two teams with red as a primary uniform color, although it’s the “home” town Chiefs who will be in their traditional home red jerseys with white pants for the game. That said, dating back to 2005 with the Patriots in Super Bowl XXXIX, the team wearing white jerseys has won 12 times.

All in all, it looks like it should be a good game.

And that – whether you are a proponent of the Super Bowl Theory or not – would be one in which regardless of which team wins, we all do!

- Nevin E. Adams, JD

Note: Seattle is the only team to have played in both the AFC and NFC Championship Games, having relocated from the AFC to the NFC during league realignment prior to the 2002 season. The Seahawks are the only NFL team to switch conferences twice in the post-merger era. The franchise began play in 1976 in the NFC West division but switched conferences with the Buccaneers after one season and joined the AFC West.

BTW, in case you were wondering, the Super Bowl is measured in Roman numerals because a football season runs over two calendar years.