The U.S. retirement income system

By Dick Duff

RWD Enterprises


The U.S. retirement income system doesn't exist... but it could. Instead, we probably have "The U.S. Retirement Market," as defined by the Investment Company Institute (ICI). Be aware: Many seniors may live to age 100 and beyond; but this good news could be diminished by their chance of running out of money. That's why it's high time to discuss establishing a U.S. Retirement Income System. This column may be just a beginning.

The Investment Company Institute began in 1940 as the National Committee of Investment Companies. In 1941, it was the National Association of Investment Companies (NAIC); in 1961, it became ICI. ICI's Web site (ici.org) offers valuable information on everything from mutual funds and annuities to 401(k)s, pensions and Social Security. I cannot overstate ICI's contribution to public understanding about retirement income planning. Go to their Web site and follow your fingers for a lot of good information.

As part of ICI's research, it publishes data about "The U.S. Retirement Market." The Institute delivers regular updates, and the most recent report is for the third quarter of 2008, ending September 30th. Below, I will summarize some of these data and findings.

The U.S. retirement market

According to ICI, the U.S. retirement market (The Market) consists of (1) individual retirement accounts (IRAs), (2) private defined-contribution plans (DCs), (3) state and local government plans, (4) private defined-benefit plans (DBs), (5) federal pension plans, and (6) non-qualified annuities. On September 30, 2008, total assets in The Market were $15.9 trillion, down from $17.9 trillion on December 31, 2007 and $16.9 trillion on June 30, 2008. Listed as information sources are: ICI, the Federal Reserve Board, National Association of Government Defined Contribution Administrators, the ACLI and the IRS.

Breaking down The Market -- by the numbers

According to ICI, on September 30, 2008, The Market's $15.9 trillion is held in the following six components:
    (1) $4.1 trillion in IRAs, its largest single component

    (2) $4.0 trillion in DC plans -- these include 403(b) annuities, 457 plans, as well as private employer-sponsored tax-qualified profit sharing, money purchase and 401(k) programs

    (3) $2.8 trillion in state and local government pensions

    (4) $2.3 trillion in DB pensions -- private employer-sponsored programs

    (5) $1.5 trillion in non-qualified variable and fixed annuity reserves at life insurance carriers. (Presumably, these include both SPDA and SPIAs.) This $1.5 trillion doesn't include qualified annuity reserves; instead, these are included within assets attributed to IRAs, 403(b) annuities, 457 plans and private pensions.

    (6) $1.2 trillion in federal pensions (civil service, military, judicial, railroad retirement and foreign service programs)
When it comes to these six components, ICI's data tells us that The Market is 26 percent in IRAs, 25 percent in DCs, 18 percent in state and local pensions, 14 percent in DBs, 9 percent in non-qualified annuity reserves and 8 percent in federal pensions.

Breaking down The Market -- empirically

It gets really interesting when you draw some conclusions from ICI's research. For instance:
    1. Social Security must be The Market's matriarch. Although there is really no trust fund per se, you could say that Social Security (in some form) is the cornerstone to a true U.S. Retirement Income System.

    2. In 2008, 47.3 million U.S. households (40.5 percent of all U.S. households) had some type of IRA. Of these households, 37.5 million had a traditional account.

    3. IRAs (in some form) are becoming more significant each year. In 1990, there was only $637 billion held in IRAs -- 16 percent of the $3.9 trillion available in The Market. Contrast this with IRAs' 26 percent share of The Market on September 30, 2008. It seems that account holders are moving rollover funds to IRAs to obtain more control of their retirement money.

    4. As of September 30, 2008, $4.1 trillion is held in IRA assets; $1.9 trillion in mutual funds; and $1.5 trillion in securities ($3.4 trillion, or more than 80 percent in equities); $370 billion in banks and thrifts; and a mere $327 billion -- 8 percent -- in fixed annuity reserves.

    Either (a), the insurance industry does a poor job of selling its annuity products to account owners, (b) annuities simply aren't attractive in IRAs, (c) the securities industry is heads-up in marketing securities to account holders, or (d) it is some combination of these possibilities. This can change easily. In particular, SPIA payout annuities are a natural vehicle for money that must be distributed over one or more lifetimes. It's logical for insurance carriers to seize this opportunity and market lifelong incomes to IRA owners.

    5. Of $4.7 trillion in IRA assets (at the end of 2007), 89 percent -- or $4.2 trillion -- were in traditional accounts; $225 billion was in Roth IRAs (contributory and converted); and the remainder was in SEPs, SAR-SEPs and simple accounts. At the end of 2004, there was $140 billion in Roth IRAs, but only $3 billion from conversions.

    6. IRA rollovers -- to traditional accounts -- are huge. In 2004, there were $215 billion in these rollovers compared with a mere $13 billion in annual deductible contributions. This ratio of 16.5-1 can be compared only with 8-1 in 1996.

    7. In 1985, there were $241 billion in IRA assets; on September 30, 2008, there was $4.1 trillion in IRAs. Throughout these 23 years, this 1,600 percent increase is equivalent to a 13-percent growth rate compounded annually. In 1985, there was a full $2.3 trillion in The Market; on September 30, 2008, there was $15.9 trillion. This 600-percent increase is equivalent to a more modest 8.75 percent compounded annually.

    Indeed, IRAs are the fastest growing component of The Market. So take notice. Taxpayers like IRAs -- and they love traditional accounts.

    8. $15.9 trillion in The Market is a lot of money. Yet, you could say it is a six-component hodgepodge without any clear direction or coordination. Could we be ready for a well-coordinated U.S. Retirement Income System?
The U.S. Retirement Income System (The System)

As a precursor for next month's column on The System, have you ever wondered...
    1. Why aren't all retirement assets in The Market fully protected in bankruptcy and from general creditors?

    2. Similarly, why aren't distributions from The Market fully protected in bankruptcy and from general creditors?

    3. Why are some assets in The Market protected for spouses while other assets aren't shielded?

    4. Why are some contributions to The Market tax deductible and others not?

    5. Why are some distributions from The Market (a) taxable as ordinary income or (b) subject to capital gains, while (c) other payments are tax-free?

    6. Why are we more comfortable with lump sums than incomes that can't be outlived?

    7. Why can't the insurance industry do a better job of marketing SPIA incomes with life contingencies?

    8. Should carriers pay agent commissions to keep insurance and annuity death benefits "in-house" if paid-out as SPIA incomes?

    9. Why so much emphasis on stretching IRAs and 401(k)s when the laws could encourage incomes for life and get more money into the economy?

    10. Why do present laws favor individuals (instead of trusts), as IRA/401(k) beneficiaries?

    11. Could the U.S. government partner with the insurance industry to save the Social Security system?

    12. Is it time for mandatory worker pension contributions (in some form)?

    13. If Roth IRA "conversions" are a flop, what could make them better?
Use the forum below to leave your comments and thoughts about the present laws and rules. Together, we just might improve the status quo.

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