Should your clients consider in-service withdrawals?
By Eric Taylor
So, where can consumers and their financial professionals look to add relative safety, along with growth opportunities, to their retirement planning? One option involves using what is called an in-service withdrawal.
Consumers nearing retirement — and the financial professionals who serve them — today face one of the most challenging decisions they will ever have to make: how to secure enough retirement income to last a lifetime. Unfortunately, the unsettled global economy and volatile financial markets make this question harder than ever to answer.
In the U.S., a sluggish recovery and prolonged low interest rates have put the brakes on growth for many retirement portfolios. Meanwhile, the European sovereign debt crisis looms like a dark cloud over the global economy, adding unseen risks to even conservative asset allocations.
So, where can consumers and their financial professionals look to add relative safety, along with growth opportunities, to their retirement planning? One option involves using what is called an in-service withdrawal to transform some of the assets in a 401(k) plan into retirement savings that:
- Can be guaranteed in terms of principal protection
- Can provide lifetime income for both an owner and spouse, if desired
- Offer growth opportunities, no matter how Wall Street performs or what the Federal Reserve decides to do with interest rates
While an in-service withdrawal is not for everyone, they are an option for many plan participants age 59½ and older. In fact, 90 percent of defined contribution plans allow in-service withdrawals, according to a recent study by consulting firm Aon Hewitt.1 It is important to keep in mind, however, that each plan may have its own set of restrictions and limitations.
By moving a portion of your client’s funds from a 401(k) into a vehicle such as a fixed index annuity (FIA) held as an IRA, consumers can take some market risk out of their retirement portfolio. Consider that in today’s volatile, low interest rate environment, both equity funds and bond funds are susceptible to dramatic declines in value, which could force plan participants to scale back their retirement goals or even continue working longer than they wished. The lesson is simple: Don’t put more into the market than you can afford to lose.
Utilizing an in-service withdrawal from a 401(k) to fund an FIA held as an IRA can provide a consumer with principal protection, options to create guaranteed income for life and the potential to significantly outperform other conservative options.
Today, financial advisors and insurance agents can readily find a seven-year FIA offering a guaranteed yield of 2 percent with index crediting choices that increase the growth potential to 4 percent2. Compare these yields to other popular alternatives that also offer relative safety: The average national return on a five-year CD was recently 1.48 percent, according to bankrate.com as of September 24, 2012. Even more telling, compare FIA yield opportunities to money market fund yields inside a 401(k): In general, these are returning substantially less than 1 percent3. Another conservative option, stable value funds, are available only to about half of 401(k) participants, according to a December 2011 report by the Employee Benefits Research Institute. Yet neither option offers the ability to plan for future lifetime income.
How would an in-service withdrawal look in real life? Let’s consider this hypothetical example:
James is a 59-year-old who wants to retire in the next five to seven years. He has been contributing to his 401(k) for many years and has amassed a balance of $400,000. Over the past several years, James has witnessed dramatic swings in his 401(k) balance. Now he wants to take some of his market downside risk off the table and add some retirement income guarantees.
James discusses his retirement plans with his financial professional, and they decide to shift part of his 401(k) funds into an individual retirement annuity. James checks with his employer to make certain that he is eligible for an in-service withdrawal.
James’ plans call for principal protection, the opportunity for growth and guaranteed income for life, so they choose a fixed index annuity with an optional rider that enables him to maximize his lifetime withdrawals based on his retirement schedule.
He directly rolls over $200,000 into a fixed index annuity established as an individual retirement annuity.
When James turns 65 and retires, he chooses to begin receiving payments under his rider. He is guaranteed to receive approximately $15,000 each year for the rest of his life, regardless of how the stock and bond markets perform. Along with his other retirement resources, including the remaining assets in his 401(k), James can rest much easier knowing that his future is more secure.
Most plan participants age 59½ and older would like to know that there are solutions to protect the money they’ve worked so hard to accumulate over the years. They may not need to wait until retirement to take action. An age-based, in-service IRA rollover, paired with a retirement income vehicle such as a fixed index annuity, can help ensure clients protect their nest egg and create the lifetime income they’ll need to retire on their terms, not the market’s.
 2011 Trends & Experience in Deﬁned Contribution Plans, Aon Hewitt, 2011