Personal Pension to Replace Defined Benefit Pensions

Published January 26, 2018
As employers freeze and terminate their pension plans, a new option is emerging: the Personal Pension.
  • Insurers were the original providers of pensions before employers started managing themselves
  • Now, insurers are once again the solution as employers have frozen or terminated their defined benefit plans
  • The Personal Pension allows you to get guaranteed annuity retirement income without your employer

At one time in history, pensions were the bedrock of the American retirement. They provided a way for individuals to transition smoothly from working to retirement by providing a replacement for their income that they could depend on — no matter what happened in the market or how long they lived. But now they’re becoming extinct, and instead a new solution is emerging: private pension plans.

Defined Benefit Pensions: Looking Back

American Express started the trend back in 1875 with the introduction of the first pension plan in the United States. Adoption picked up over time until the peak in 1980, when almost half of private sector employees were covered by pension plans. But now, less than 5% of American workers joining the workforce have access to these private pension plans.

The decline of employer pension plans was the result of many factors, including:

  • More mobility in the workforce — people were no longer interested in working for one employer for their entire careers
  • Low interest rates — declining interest rates increased pension liabilities and in turn what employers needed to set aside
  • Increase in longevity — longer lifespans also drove an increase in pension cost for the employers
  • Introduction of the 401(k) — the advent of the defined contribution plan offered employers a cheaper way to provide retirement benefits
  • Regulatory changes — changes to the way employers fund and account for pensions drove up costs

The 401(k): A Poor Replacement

But, while pensions as they were structured at the time stopped being the appropriate retirement solution, their replacement was never meant to be the 401(k). 401(k)s were created for senior executives, who already had maxed out their pensions, to accumulate more wealth to support their retirement lifestyles. And that’s what the 401(k) — and IRA — should be: a source of supplemental income once your fundamental living expenses have been covered. Since they don’t offer any guarantees or protection from the market or your own longevity, 401(k)s just cannot provide financial stability in retirement.

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Source: Wall Street Journal article “The Champions of the 401(k) Lament the Revolution They Started” dated January 2, 2017.

The Original Pension: Insurance-Backed Private Pensions

Employers are not the only institutions equipped to provide pensions to people. In fact, in the early days of the defined benefit pension system (first half of the 1900s), pensions were actually group annuity contracts managed by insurance companies. Employers were simply paying insurance companies to buy annuities on their employees’ lives. Insurance companies are professional risk managers, making them much better suited to manage the investment and longevity risks involved with providing guaranteed lifelong retirement paychecks to individuals.

Over time, employers started to feel they could do the financial and risk management that the insurer was doing themselves. They stopped paying money to insurers to buy annuities for their employees and instead created pension funds. They developed formulas for how large someone’s benefit should be based on salary and years of service. They decided how much money to set aside today to fund those future benefits. And, they decided how to invest the money. For years the system worked, and it was financially advantageous for the employer. They got tax benefits for the money they set aside to fund the pension, and most of the benefits they were offering weren’t going to come due for decades. But, driven by their aging workforces, market volatility, and changes to pension accounting rules, employers found pensions too much to manage. So what did many of them do? They asked insurance companies to buy out their pension funds and take over the responsibility of managing them.

So, to summarize: Pensions used to be annuities. And then they weren’t annuities. And now they’re annuities again. That sums up the history of pensions. So what about the future?

Pension Plans of the Future

Employers are no longer offering defined benefit pension plans, but insurers are still experts in managing investment and longevity risk. To date, they’ve done so through income annuities — both immediate (purchased right before retirement) and longevity (purchased years before retirement). But, these products and the distribution of them are ill-suited to be a real pension replacement. Purchasing them requires someone to have already saved a significant amount (minimums are typically $20,000+), find a trustworthy agent or broker, do due-diligence their agent/broker is showing them options across insurance companies, fill out a paper application, and wait 1 or more months for the policy to be approved.

But, instead, private pension plans could be easily accessible and look something like this:
An online platform exists with a full marketplace of options that an individual can see for themselves.

  • Instead of buying one income annuity with one insurer, individuals can open an account with as little as $100 and a plan to save more money over time.
  • In the same way mutual funds have made investing in the stock market easy, inexpensive, and accessible, this pension account would do the same for annuities.
  • Each time money is deposited into the account, an income annuity is purchased from one of the insurers on the platform based on the individual’s preferences.
  • Over time, the individual is building themself a pension, locking in more and more guaranteed retirement income with every deposit.

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The Blueprint Income Solution: The Personal Pension

At Blueprint Income, this is precisely what we’re building. We’re trying to create the future of pensions. We started by creating a marketplace for existing income annuities where individuals can run their own quotes, compare options, and purchase if desired.

Now, with the Personal Pension, we’ve made it possible for you to have pension-like income in retirement which you fund over time. Today, the minimum to get started is $5,000, and we’re actively working with the insurers on our platform to bring it down.

If you don’t have access to a pension through your employer, the Personal Pension is the next best thing. If you’re interested in starting you own Personal Pension, you can do so on our website.

Here you can see what annual contributions into a Personal Pension will guarantee you in annuity retirement income. After just a few years in retirement, you’ll have recouped your initial investment, and the rest will be profit. A $5,000 contribution is necessary to start an account.

From there, you can fill out the information to have one of our specialists follow up with you, or continue with the enrollment process on your own. To do that, start with the Personal Pension Builder, where you’ll be able to set a goal for how to grow your pension over time. Note that all future contributions are optional, but it’s always great to have a goal.

 

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Lauren Minches

Lauren Minches

Financial Planning Professional

Lauren is an actuary by training with expertise in retirement, finance, and risk. She writes about annuities to make them easier to understand and evaluate. Her goal is to help people create retirements with more time for living and less time thinking about money.