Defined Contribution Plans Research Articles

Linear risk sharing in intergenerational pension

ABSTRACT We introduce and analyze a novel collective defined contribution plan (CDC) that guarantees at least a target benefit as a lump sum upon retirement. The guarantee is provided by the remaining working generations under a pre-determined linear intergenerational risk sharing (IRS) rule. Through a simulation-based study, we show that the CDC scheme consistently outperforms the comparable individual DC scheme (IDC) in terms of risk-adjusted performance. An extensive sensitivity analysis indicates that this outperformance is robust, especially in a ‘double-hit’ scenario where the underlying market dynamics and the demographics are severely worse than expected. Our work indicates that guaranteed retirement benefits can be organized via a CDC scheme with IRS in a way that it is, first, beneficial for all generations to join and, second, resilient against demographic change.

Guest column Initial Findings from the Collaborative for Equitable Retirement Savings: Defined Contribution Plans Don’t Work the Same for All Workers

guest column Initial Findings from the Collaborative for Equitable Retirement Savings: Defined Contribution Plans Don’t Work the Same for All Workers

Do defined contribution plans create value for shareholders?

The enactment of the Employee Retirement Income Security Act of 1974 led many firms to stop offering defined benefit pension plans to employees and replacing them with defined contribution plans. Even though the number of firms offering DC plans are on rise worldwide, literature on how DC plans affect corporate behavior is sparse. This study is the first to examine whether defined contribution (DC) plans offered by private sector employers in the United States benefit shareholders by creating value for them. We find that firms that offer DC plans (DC-firms) have higher firm value relative to firms that do not offer any employee pension plan (Non-DC firms), and that firm value increases as employer contributions to DC plans increase. Employee productivity is higher in DC-firms than that for Non-DC firms, and it increases as employer contributions to DC plans increase. Higher employee productivity in DC-firms explains the positive effect of DC plans on firm value.

Pandemic and Financial Performance: Pre and During Pandemic Effect of Covid-19 on Financial Performance of Pension Funds Defined Benefit Plans and Defined Contribution Plans

Assessment of the financial performance of a pension fund can be done by analyzing the pension fund's financial reports. Based on the program, employer pension funds (EPF) are divided into two types, namely Defined Benefit Plan (DBP) and Defined Contribution Plan (DCP). This research aims to assess the financial performance of the Defined Benefit Plan (DBP) pension fund industry when compared with Defined Contribution Plan (DCP) pension funds pre-pandemic and during-pandemic for each financial ratio. Research was conducted on Pension Funds in Indonesia as a whole for the period January 2018 – December 2021. The ratios used to test the performance of each group of pension funds are Return on Assets (ROA), Return on Investment (ROI), Operational Cost Efficiency (EBO), Investment Cost Efficiency (EBI) and Pension Fund Growth (PDP). By using the Shapiro-Wilk W Test, Paired t Test, and Wilcoxon Signed Rank Test, the test results show that in DBP-EPF there are significant differences between pre-pandemic and during-pandemic for ROI and ROA. Where the ROI and ROA performance values pre-pandemic were higher than during-pandemic. There are no significant differences between EBO, EBI and PDP between pre-pandemic and during-pandemic in the DBP-EPF. Meanwhile, in the DCP-EPF there were no significant differences between pre-pandemic and during-pandemic for all variables. This proves that DBP-EPF experienced significant shocks during-pandemic. DBP-EPF is anticipating a strategy by reducing asset allocation to equity investment instruments, resulting in returns received that are not as good pre-pandemic

What are Cash-Balance Pension Plans and How Do They Compare

We offer a comprehensive explanation of cash-balance pension plans in the public sector, including a comparison to defined-benefit and defined-contribution plans. Comparisons are made with respect to design, management, costs, and long-term viability. Three important aspects of pension fund management are discussed: pension benefits and contributions, pension governance and reasons for cash-balance plan adoption, and pension funding. Four unique cases – Nebraska Public Employees Retirement System (NPERS), Kansas Public Employees Retirement System (KPERS), Kentucky Public Pensions Authority (KPPA), and Texas Municipal Retirement System (TMRS) – help to illustrate these three important points.

Did the Superbowl Ad Curse Heighten Defined Contribution Plan Fiduciary Duties?: Deciphering the Legal and Ethical Landscape of Cryptocurrency Options in 401(k)s

Regulating cryptocurrency’s place in America’s most popular retirement savings vehicle generates thorny legal, ethical, and social justice dilemmas. Too little regulation could hurt those at highest risk of underfunded retirement. Too much could exacerbate existing racial, ethnic, and gender inequities. Though recent regulatory efforts suggest 401(k) administrators violate their fiduciary duty of care by offering cryptocurrency investment options to plan participants, the established fiduciary regime protects 401(k) plan participants from cryptocurrency risk while respecting their savings preferences. Yet, the current framework falls short of ethically and equitably serving all plan participants, particularly members of underserved communities— a problem largely unaddressed in academic, industry, or regulatory discourse. This Article demonstrates how regulators’ needlessly paternalistic approach toward cryptocurrency options could disproportionately impact minority retirement savings participation. Applying the existing fiduciary framework and practical mechanisms that plan fiduciaries currently use would minimize cryptocurrency risk to participants without rewriting the rules governing plan administration. This Article also proposes a novel, scientifically supported method by which fiduciaries should convey retirement planning information to improve retirement outcomes for all: via non-traditional media.

Back to the funding ratio! Addressing the duration puzzle and retirement income risk of defined contribution pension plans

Effective risk management in pension funds requires the use of appropriate long-term risk and performance indicators. However, Defined Contribution (DC) pension plans currently rely on short-term metrics that don't align with the retirement income goals of beneficiaries. Against this backdrop, we introduce a funding ratio measure for DC plans defined as the plan assets divided by accrued benefits derived from any given (defined) stream of contributions. The funding ratio's denominator is the present value of the total retirement income achievable if all contributions had been invested in fully amortizing fixed-income portfolios called retirement bonds. We also use the retirement bonds to introduce a class of target-income strategies that can effectively reduce income risk as retirement approaches, but also secure minimum funding ratio levels. These simple asset allocation rules strongly dominate the standard target-date fund strategies routinely used by DC plans, in terms of retirement outcomes for beneficiaries.

Target benefit versus defined contribution scheme: a multi-period framework

AbstractA target benefit plan (TBP) is a collective defined contribution (DC) plan that is growing in popularity in Canada. Similar to DC plans, TBPs have fixed contribution rates, but they also implement pooling of longevity and investment risk. In this paper, we formulate a multi-period model that incorporates two sources of risk – asset risk and labor income risk for active members. We present an optimal investment and retirement benefits schedule for TBP members with a fixed contribution rate. Using Australian data from 1965 to 2018, we evaluate the performance of the optimal TBP scheme and compare it to the optimal DC scheme. By adopting the benefit–investment strategy derived in this paper, we demonstrate the stability of benefit distribution over time for a TBP scheme in this stochastic formulation. To outperform the DC scheme’s benefit payment, careful consideration shall be given to the benefit target in the TBP scheme. A high target may not be achievable, while a low target can impede the accumulation momentum of the fund’s wealth in its early stages. Moreover, a TBP fund’s investment strategy is primarily influenced by the wealth target, with more aggressive investments in risky assets as the wealth target increases. This analysis may shed light on the possible improvements to retirement planning in Australia. Although the results are sensitive to the choice of model parameters, overall, the proposed TBP promotes system stability in various scenarios.

Fixed and variable longevity income annuities in defined contribution plans: Optimal retirement portfolios taking social security into account

AbstractThis paper investigates retirees' optimal purchases of fixed and variable longevity income annuities using their defined contribution (DC) plan assets and given their expected social security benefits. As an alternative, we also evaluate using plan assets to boost social security benefits through delayed claiming. Using a calibrated life‐cycle model, we determine that including deferred income annuities in DC accounts is welfare‐enhancing for all sex/education groups examined. We also show that providing access to well‐designed variable deferred annuities with some equity exposure further enhances retiree well‐being, compared to having access only to fixed annuities. Nevertheless, for those facing the highest mortality rates, delaying claiming social security is mostly preferred, whereas those anticipating living longer than average will benefit more from using accumulated DC plan assets to purchase deferred annuities.

Optimal Choice between Defined Contribution and Cash Balance Pension Schemes: Balancing Interests of Employers and Workers

In the context of pension plans, the employer and the worker have distinct interests and face different risks. The worker seeks higher retirement benefits, while the employer aims to minimize the cost of fulfilling his obligations. To address these diverse needs, the defined contribution plan managed with participating life insurance (DC-PL) and the cash balance plan managed with unit-linked insurance (CB-UL) serve as suitable choices. The multi-criteria analysis is conducted using the cumulative prospect theory model to measure the utility of the parties involved toward a mixed product combining these two pension plans. By assigning weights to risk measures and maximizing utilities, the paper employs both additive utility and Nash equilibrium approaches. The results reveal that the CB-UL plan aligns with employers’ interests, offering potential financial gains, while the DC-PL plan attracts workers due to its profit-sharing aspect. Significantly, when equal importance is given to both parties, the CB-UL plan emerges as the prevailing choice. This study contributes to the understanding of pension plan design and decision-making dynamics between employers and workers, providing valuable insights for achieving a balance between retirement benefits and cost management.

ESG Fund Allocations among New, Do-It-Yourself Defined Contribution Plan Participants

ESG Fund Allocations among New, Do-It-Yourself Defined Contribution Plan Participants

Quantifying the Long-Term Impact of Asset Under Management Fees on Retiree Income and Inheritances

The shift from defined benefit plans to defined contribution plans in the private sector has shifted the cost of generating income in retirement from plan sponsors to individuals. As they seek to turn their savings into retirement income, it’s common for retiring plan participants to consider utilizing a financial advisor. Notably, the financial advisor compensation model has changed over time, with many advisors having transitioned from a commission-based practice to an asset under management (AUM) fee-based practice. With Prohibited Transaction Exemption 2020-02, the U.S. Department of Labor has indicated that all financial advisors are acting as fiduciaries when they encourage retiring participants to roll out of their DC plan into an IRA. Fiduciaries are required to act in the best interests of their clients, and they must consider the fees associated with their recommendations as part of the fiduciary process. In this article, I use popular financial planning software to model the impact of AUM fees on retirement income amounts and inheritances. The results indicate that, on average, a 1% fee results in a 15.38% reduction in annual income and a 23.4% reduction in inheritance amounts.

Factors that Influence Preferences for Defined Benefit Plans Versus Defined Contribution Plans

The majority of public sector employees in the United States still have access to defined benefit (DB) retirement plans, with some retaining a choice between a defined benefit plan and a defined contribution (DC) plan when hired. This research was based on a survey assessing individuals’ financial literacy, risk tolerance, and time orientation and the influence those three variables had on preferences for DB versus DC plans. Greater financial skill and risk tolerance were associated with a preference for DC plans, while a time orientation focused on the present was associated with a preference for DB plans. This research could benefit employers as they determine retirement plan options that they choose to offer employees. Employers who offer both plan types may benefit from informing employees about the factors associated with preferences for each plan type as greater awareness of such factors could improve employee satisfaction and increase retention. JEL Codes: J32, H75, G53, G32

The Nepalese Labour Market; Pre & Post Application of Contribution Based Social Security Fund Act

The aim of this study is to analyze the psychology of workers after applying a defined contribution plan in public and private organizations in Nepal. This study employed quantitative research methodology to quantify the factors affecting the defined contribution plan. In addition, the study used primary and secondary data. The data were collected using the questionnaire method from people working in industries, trade, schools, colleges, hospitals, and other sectors. The hundred responses are from the survey study. The finding of the study depicted that there is a significant difference between the application and non-application of CBSSF. It indicated that the majority of workers perceived that they had received less cash after the use of the CBSSF. In addition, the study revealed that the majority of workers think benefits after retirement are not good after the application of CBSSF. The findings of the study can be used by policymakers, such as the Nepal government and private sector organizations, to improve the well-being of Nepalese workers after their retirement from jobs.

The Shifting Funding Status of Corporate Defined-Benefit Pension Plans

In recent history, corporate defined-benefit pension plans have remained underfunded; however, the economic instability generated by the COVID-19 pandemic prompted the enactment of two massive pieces of federal legislation, both of which included provisions that affected a significant rise in the discount rate utilized to calculate the pension liability. This study provides a detailed comparative analysis of pension funding metrics from 2020 to 2021 for half of the Milliman 100 Companies. Taking into consideration the continuing trend of corporations to shift their defined-benefit plans into defined-contribution plans, the study examines half-active and half-frozen defined-benefit plans. Results indicate that these large corporate defined-benefit pension plans have seen their decades-long underfunded status transmuted into either a significantly less underfunded status or, more often, an overfunded status. Although such results are encouraging in the short-term, economic instability continues to threaten the corporate pension system, and defined-contribution plans may place employee retirement funds at greater risk.

The value of pension reforms for late working life: evidence from Sweden

PurposeDriven by the aim to increase the participation of older people in the labour force and to extend people's working lives, the Swedish Parliament passed a bill in 1998 to increase the pension eligibility age from 60 to 61 years and establish a notional defined-contribution (NDC) plan. In this article, the authors investigate the impacts towards the prolongation of working lives expected from such an intervention.Design/methodology/approachThe authors apply a multinomial probabilistic model based on Swedish registry data on the birth cohorts 1937–1938 (n = 102,826) and observe differences in exit behaviour between eligible and non-eligible individuals.FindingsThe authors find that the cohorts eligible to the pension reform exit the labour market at a later age compared to non-eligible cohorts at the 61-years cut-off. The authors also find that the effect persists in the long term. Furthermore, the authors find that both men and women are equally struck by the reform.Originality/valueWhile there exist many descriptive reports and theoretical analyses on the costs and benefits of pension reforms, this study is the first one to empirically analyse the effect of the first European NDC pay-as-you go pension plan on the potential exclusion of old-aged workers.

Set it and forget it? Financing retirement in an age of defaults

Retirement savings abandonment is a rising concern connected to defined contribution systems and default enrollment. We use tax data on Individual Retirement Accounts (IRAs) to establish that for a recent cohort, 0.4% of retirement-age individuals abandoned an aggregate of $66 million, proxied by a failure to claim over ten years after a legal requirement to do so. Analysis of state unclaimed property databases suggests that workplace defined contribution plans are abandoned at a higher rate than IRAs. Finally, regression discontinuity estimates show that certain accounts created by default enrollment are at higher risk of abandonment by passive savers.

Fixed and Variable Longevity Annuities in Defined Contribution Plans: Optimal Retirement Portfolios Taking Social Security into Account

Fixed and Variable Longevity Annuities in Defined Contribution Plans: Optimal Retirement Portfolios Taking Social Security into Account

Target-date funds: lessons learned

Target-date funds are mutual funds with a date in their description. The date signifies the retirement date for the person for whom the mutual fund is designed. The basic proposition is that the fund’s composition will be adjusted as it evolves toward that date, which will relieve the investor of the problem of asset allocation. These funds received a significant boost in 2006 when they became the default choice of many defined contribution plans. However, in our 2011 paper in The Journal of Risk we showed that many funds significantly increased their allocation toward equities immediately prior to the 2007–9 global financial crisis and consequently saw significant losses. Since this was only shortly after target-date funds became a significant component of the mutual fund market, this research assesses the maturation of target-date funds and their performance during the Covid-19 pandemic, when there were again significant market losses. Overall, our assessment is that target-date funds have largely met their designation and there is no evidence of them similarly gaming their asset allocation as occurred prior to the financial crisis.

Fixed and Variable Longevity Annuities in Defined Contribution Plans: Optimal Retirement Portfolios Taking Social Security Into Account

Fixed and Variable Longevity Annuities in Defined Contribution Plans: Optimal Retirement Portfolios Taking Social Security Into Account