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United States Government Accountability Office: 
Washington, DC 20548: 

April 28, 2010: 

The Honorable Herb Kohl:
Special Committee on Aging:
United States Senate: 

Subject: Retirement Income: Challenges for Ensuring Income throughout 

Dear Mr. Chairman: 

As the life expectancy of Americans continues to increase, the risk 
that retirees will outlive their assets is a growing 
challenge.[Footnote 1] Today, couples both aged 62 have a 47 percent 
chance that at least one of them will live to their 90TH 
birthday.[Footnote 2] In addition to the risk of outliving ones' 
assets, the sharp declines in financial markets and home equity during 
the last few years and the continued increase in health care costs 
have intensified workers' concerns about having enough savings and how 
to best manage those savings in retirement.[Footnote 3] 

Given your interest in options for ensuring income throughout 
retirement and the recent request from the Departments of the Treasury 
and Labor for information regarding lifetime income options,[Footnote 
4] you asked us to examine (1) options retirees have for drawing on 
financial assets to replace preretirement income and options retirees 
choose, and (2) how pensions, annuities and other retirement savings 
vehicles are regulated. 

In summary, retirees with savings have several options for lifetime 
income, but largely rely on investment income or draw down their 
assets as needed. However, many retirees lack substantial retirement 
savings. The regulation of private pensions is largely governed by the 
Employee Retirement Income Security Act of 1974 (ERISA), but a 
multiplicity of laws and regulations govern the management of other 

To identify options for drawing on financial assets and determine what 
options retirees choose from, we reviewed relevant documentation and 
interviewed officials from the Departments of Treasury and Labor and 
the Securities and Exchange Commission. We also interviewed 
representatives of trade associations, such as those for state 
insurance commissions, and the mutual fund and insurance industries. 
In addition, we interviewed representatives of large firms that offer 
mutual funds and annuities. To determine how annuities and other 
retirement savings vehicles are regulated, we reviewed documentation 
and interviewed officials from these same agencies and associations 
and reviewed applicable laws and regulations. 

We conducted this engagement from January 2010 to April 2010 in 
accordance with all sections of GAO's Quality Assurance Framework that 
are relevant to our objectives. The framework requires that we plan 
and perform the engagement to obtain sufficient and appropriate 
evidence to meet our stated objectives and to discuss any limitations 
in our work. We believe that the information and data obtained, and 
the analysis conducted, provide a reasonable basis for our findings 
and conclusions. 


Social Security benefits are the foundation of retirement income for 
nearly all households with someone aged 65 or older--providing 
annually inflation-adjusted income for life--and are the source of 
half or more of total income for about 64 percent of those households. 
[Footnote 5] For retired Social Security beneficiaries with the lowest 
lifetime earnings (up to $9,132 in 2010), Social Security replaces 90 
percent of their average annual indexed lifetime earnings if benefit 
receipt begins at full retirement age. For those at the highest level 
of earnings covered by Social Security ($106,800 in 2010), Social 
Security replaces about 26 percent.[Footnote 6] At the median income 
level, Social Security replaces an estimated 47 percent of average 
annual indexed lifetime earnings.[Footnote 7] 

The age for receiving normal or "full" Social Security retired worker 
benefits had been age 65. However, under current law, the full 
retirement age is gradually increasing, beginning with retirees born 
in 1938, and will reach age 67 for those born in 1960 or later. 
[Footnote 8] People may still choose to retire at the early 
eligibility age of 62 and receive reduced benefits. The reduction for 
early retirement takes into account the longer period of time over 
which benefits are paid. Similarly, those who retire later receive a 
commensurate increase in benefits, which takes into account the 
shorter period of time over which benefits are paid. On balance, the 
differences in age at which benefits are taken leave the trust fund in 
approximately the same financial position. 

For the first time since 1983, the Social Security trust funds are 
currently paying out more in benefits than they are receiving through 
payroll tax revenue, but trust fund interest income more than covers 
the difference, according to the Social Security Administration. 
[Footnote 9] Additionally, the Social Security trust funds will be 
able to pay all promised benefits for about another 27 years, 
according to the 2009 report of the: 

Social Security trust fund's Board of Trustees. At that time, the 
Social Security trust funds are forecasted to be able to pay only 76 
percent of scheduled benefits.[Footnote 10] However, Social Security 
reforms could eliminate or reduce the size of this reduction in 
scheduled benefits through measures to increase expected revenue or 
decrease the expected growth of benefits. 

While Social Security is the largest source of retirement income for 
households with someone aged 65 or older, other financial assets such 
as pension income from defined benefit (DB) and defined contribution 
(DC) plans and private savings (bank account balances and individual 
retirement account (IRA) funds)[Footnote 11] and nonfinancial assets 
such as home equity are important sources of retirement income. 
[Footnote 12] See figure 1 for additional information. However, these 
sources are not large compared with income from work. In 2007, before 
the recent recession, half of the households with someone aged 55 to 
64 had financial assets of $72,400 or less, not much more than the 
median working income of $54,600 in the same year.[Footnote 13] 

Figure 1: Sources of Income for Households with Someone Aged 65 and 
Older, 2008: 

[Refer to PDF for image: pie-chart] 

Social Security: 37%; 
Employment earnings: 30%; 
Pension income: 19%; 
Income from assets: 13%; 
Other: 2%; 
Cash public assistance: 1%. 

Source: U.S. Social Security Administration, Office of Retirement and 
Disability Policy, Income of the Population 55 or Older, 2008. 

Notes: Data reported by the Social Security Administration for pension 
income includes regular payments from IRA, Keogh, or 401(k) plans. 
Nonregular (nonannuitized or lump sum) withdrawals from IRA, Keogh, 
and 401(k) plans are not included. Data reported for income from 
assets includes interest income, income from dividends, rents or 
royalties, and estates or trusts. 

[End of figure] 

DB plans, DC plans, and IRAs are subject to various provisions of 
ERISA, and the Internal Revenue Code of 1986 (the Code). ERISA was 
enacted to protect the interests of employee benefit plan participants 
and their beneficiaries. ERISA sets certain minimum standards for 
pension plan participants and their beneficiaries. For example, Title 
I of ERISA requires sponsors to disclose to participants certain plan 
information, such as the summary plan description, which describes the 
rights and obligations of participants and beneficiaries under the 
plan. Title I also establishes standards for plan fiduciaries, 
individuals who generally exercise discretion or control over the 
management of the plan or the disposition of plan assets. Title I of 
ERISA is enforced by the Department of Labor's Employee Benefits 
Security Administration (EBSA). 

The Internal Revenue Service (IRS), under Title II of ERISA and the 
Code, generally ensures that plans meet certain requirements for tax 
qualification which enable these plans to make tax deductible 
contributions and earn interest on a tax exempt basis. These features 
encourage employers to establish and maintain pension plans for their 

ERISA, under Title IV, also established the Pension Benefit Guaranty 
Corporation (PBGC). PBGC provides plan termination insurance for 
defined benefit plans that terminate with insufficient funds to pay 
benefits promised under the plan. Specifically, participants in such 
plans, who meet certain requirements, are entitled to receive payments 
up to certain prescribed limits to replace benefits lost because of 
the plan's insufficiency at plan termination.[Footnote 14] 

Although total pension participation has remained at about 50 percent 
of the private sector workforce, there have been important changes in 
the types of pension plans offered by employers. DB plans have become 
less prevalent in the last three decades. In 2007, 32 percent of 
households had a DB plan benefit from current or former employment and 
38 percent had a DC plan benefit.[Footnote 15] From 1990 to 2007, the 
number of active participants in private sector DB plans fell by 34 
percent, even as the workforce increased by 22 percent. In recent 
years, a number of employers have closed their DB plans to new 
participants or limited or frozen the additional accruals of benefits 
to current participants.[Footnote 16] 

Meanwhile, since 1990, participation in self-directed DC plans such as 
401(k) plans has grown dramatically in popularity. From 1990 to 2007, 
the number of active participants in DC plans increased from about 35 
million to 67 million, respectively.[Footnote 17] DC plans, such as 
401(k) plans, typically allow participants to decide how much to 
contribute, decide how contributions are to be invested, and decide 
how the balances will be spent during retirement. Generally, unlike DB 
plans, investment risk and the potential for greater returns are 
directly borne by the participant rather than the plan sponsor and 
benefits are not insured by the PBGC. In recent years, some DC 
participants have chosen to direct their contributions to so-called 
target-date funds or have their assets invested in these funds as a 
plan-specified qualified default investment alternative (QDIA). 
[Footnote 18] 

At retirement, DC participants' face a number of choices regarding 
their account balances, such as leaving money in the plan, purchasing 
some form of an annuity,[Footnote 19] or transferring or rolling over 
their balance into an IRA. Employers who sponsor qualified plans and 
enable departing participants to receive lump sum distributions must 
give participants the option to have these amounts directly 
transferred into an IRA or another employer's tax-qualified plan (if 
that plan accepts rollovers). 

Several Lifetime Income Options Are Available for Retirees with 
Retirement Savings, but Most Opt to Invest Savings: 

With the long-term shift toward self-directed 401(k) type plans, an 
increasing number of retirees face decisions about how to allocate 
their balances at retirement and have many options. One key decision 
for many retirees is to choose between continuing to manage self- 
directed investment balances and using all or a part of the balance to 
purchase an annuity that would provide income for the remainder of 
their lives.[Footnote 20] 

Options for Lifetime Retirement Income Streams: 

Retirees have three primary options to generate a lifetime income 
stream. First, participants in DB plans can receive their benefits as 
a lifetime annuity.[Footnote 21] Second, retirees with DC plan assets 
can purchase individual life annuities provided by insurance companies 
that offer retirement income on a lifetime basis. A third option, 
which would enhance the Social Security lifetime income stream, is to 
defer retirement under Social Security by a few years (up to age 70) 
in order to receive higher monthly benefits. 

DB Plans. According to the Survey of Consumer Finances, about 32 
percent of households in 2007 had a traditional DB plan promising a 
specific level of income during retirement.[Footnote 22] According to 
the IRS, the average taxable pension and annuity income was $19,500 in 
2007. Some of these plans, together with Social Security benefits, can 
provide substantial income. However, although private sector DB plans 
are required by law to offer a benefit in the form of an annuity, a 
growing number of these plans are also offering lump sum options at 
retirement.[Footnote 23] According to investment company officials we 
spoke with, many workers retiring with a DB plan choose a lump sum 
over an annuity. However, nearly one-third of participants in single- 
employer DB plans are enrolled in hybrid plans, such as cash balance 
plans. Cash balance plans often express benefits as account balances 
rather than monthly annuity benefits, and offer lump sum payouts as 
well as annuity payments. 

Annuities. Few households--about 6 percent--owned individual annuities 
in 2007.[Footnote 24] However, only 3 percent ($8 billion) of the 
total amount of annuities sold in 2008 were fixed immediate annuities, 
designed solely to provide lifetime income.[Footnote 25] According to 
the Insured Retirement Institute, the majority of annuities sold are 
deferred annuities, which are rarely converted to lifetime income. 
[Footnote 26] In 2008, less than 1 percent of deferred annuities sold 
were converted to lifetime income. 

Annuities offering lifetime income generally provide retirees more 
income than they would receive from conservative investments, such as 
bonds. For example, in April 2010, according to an annuity market 
quote website, a $100,000 annuity purchase would provide $6,480 per 
year as long as the purchaser or their spouse is alive.[Footnote 27] 
This annual amount is 25 percent greater than the $5,200 of income 
that would be available from a highly rated $100,000 30-year corporate 
bond.[Footnote 28] However, the principal amount of the bond would 
typically be available in 30 years, whether or not the purchaser or 
spouse is alive. 

Lifetime income annuities have several disadvantages. Many retirees 
lack sufficient financial assets to buy an annuity that would replace 
more than a small fraction of their preretirement income. According to 
the Survey of Consumer Finances, about 39 percent of households at or 
nearing typical retirement ages lacked a retirement account such as a 
DC plan or IRA, as of 2007. For those who have such plans, the median 
total value was about $98,000. In addition, most life annuities are 
designed to provide a constant level of income, but the premium is 
generally not available to cover large unplanned expenses. Thus, 
insurers and financial planners often urge that retirees only use a 
portion of their assets to purchase annuities. According to insurance 
industry representatives, few annuities provide monthly lifetime 
income with payments adjusted for inflation. The effects of inflation 
can be significant. For example, over the last 30 years inflation has 
eroded the value of a dollar by 63 percent.[Footnote 29] This is an 
important consideration, particularly as older retirees may face 
increasing challenges re-entering the labor force. Lastly, annuities 
generally leave nothing for heirs; payments end at the death of the 
annuitant (and his or her spouse, in the case of joint and survivor 

Some disadvantages of annuities can be addressed by options available 
from insurers, but monthly income is then often reduced or the total 
cost to purchasers is increased. For example, some insurers provide 
opportunities to cancel an annuity for a limited period of time in 
exchange for lower monthly payments. Annuities are available with 
limited death benefits, but annuities with this feature also have 
lower monthly payments.[Footnote 30] To provide some protection 
against inflation, some insurers provide an option to automatically 
increase monthly payments each year at a pre-set rate, such as 2 or 3 
percent. Some insurers provide an option to receive payments indexed 
for inflation, but the initial amount of annual income available with 
these options is much less than an annuity without inflation 
adjustments. For example, as of April 2010, an inflation-indexed joint 
annuity provided by The Vanguard Group with a $100,000 premium could 
provide $4,646 of income in the first year--30 percent less than an 
annuity without inflation adjustments. However, the annual income from 
an inflation-indexed joint annuity is more than twice as much as would 
be available from a $100,000 U.S. Treasury Inflation Protected 
Security (TIPS) (providing about $2,000 per year, in addition to 
inflation adjustments). Some insurers offer variable annuities that 
provide lifetime income based on guaranteed minimum growth in the 
initial premium even if the variable annuity balance drops to zero. 
However, such options can also increase expenses. For example, one 
variable annuity prospectus we reviewed indicated that maximum 
expenses for a $10,000 investment and a 5 percent annual rate of 
return could exceed $7,000 over a 10-year period.[Footnote 31] 

A retiree's frame of reference may explain why many retirees do not 
prefer lifetime income streams over lump sums.[Footnote 32] Analyses of Health and 
Retirement Study data suggest that choosing a lifetime income stream 
is highly associated with having a traditional DB plan--a pension plan 
that workers understand is a source of lifetime income. Other factors, 
even those that could logically influence the selection of an annuity, 
such as perception of one's health or income and plans to leave a 
bequest to heirs, were not statistically associated or were less 
highly associated with the selection of annuity income.[Footnote 33] 
One study we reviewed analyzed people's evaluations of annuities by 
asking them hypothetical questions about whether they would exchange a 
portion of their Social Security benefit for a lump-sum payment. Asked 
about an annuity choice in this context, 41 percent of survey 
respondents preferred an annuity over a lump sum if the amount of the 
lump sum was actuarially equivalent. About 30 percent of respondents 
indicated that they would select the annuity even if the lump sum were 
increased by 25 percent, raising the value of the lump sum above the 
value of the annuity.[Footnote 34] 

Postponing the Receipt of Social Security Benefits. About half of 
people begin drawing Social Security retirement benefits the first 
year they are eligible (age 62), but waiting to draw benefits until a 
later age would increase annual benefits and increase earnings from 
work.[Footnote 35] Social Security provides an average of about 
$11,786 annually if begun at age 62, $15,715 if begun at full-
retirement age, and $19,487 at age 69.[Footnote 36] A big advantage to 
postponing Social Security benefits is that unlike most annuities 
provided by insurers, Social Security benefits are annually adjusted 
for inflation. To delay receipt of benefits, retirees can either 
continue to work after age 62 or draw on their own financial assets to 
replace the income Social Security would have provided. The cost of 
buying an equivalent inflation-adjusted annuity from an insurer would 
be about 68 percent more than the total amount of the benefits 
foregone from age 62 until age 66. Nonetheless, among workers born in 
1940, for example, an estimated 42 percent started drawing Social 
Security retired worker benefits within 2 months of reaching age 62. 

Delaying Social Security benefits is not an option for many who cannot 
work and lack sufficient assets to live in retirement without the 
benefits. Workers who have shorter life expectancies, such as some 
minorities and less educated workers, are less likely to be better off 
by delaying the start of benefits, as they may not live long enough 
for the total amount of the higher delayed benefits to exceed the 
total amount of the lower benefits they would receive if benefits 
begin at age 62. The decision of when to begin receiving Social 
Security benefits is further complicated for married couples. When the 
first spouse dies, the remaining spouse who is at full retirement age 
or older receives a benefit which is the greater of the remaining 
spouse's earned benefit or a survivor benefit based on the deceased 
spouse's record. If the higher earning spouse begins receiving Social 
Security benefits early, the surviving spouse may receive a lower 
survivor benefit. 

Many Retirees Largely Rely on Investments: 

Retirees largely rely on investment income or draw down their assets 
as needed, rather than supplement their Social Security or DB income 
with another form of lifetime income. Although this typically involves 
more risk, it allows retirees to retain access to their savings and 
the opportunity to realize additional increases in wealth.[Footnote 
37] Others have ample assets and are able to draw exclusively from 
investment income to cover retirement expenses. 

According to the Survey of Consumer Finances, in 2007 most households 
(59 percent) with a head of household aged 55 to 64 held at least one 
retirement account, such as an IRA or DC plan, from a current or 
former employer of either the worker or spouse. For households with 
such accounts, the median combined value was $98,000. A survey by the 
Investment Company Institute indicates that upon retirement, 45 
percent took a lump sum and transferred some or all of their DC funds 
to other accounts, such as an IRA, 18 percent took an annuity, and 
just 6 percent took installments.[Footnote 38] According to the 
survey, among IRA holders, 37 percent indicated they were not at all 
likely to make a withdrawal until age 70 , while another 27 percent 
indicated they were not very likely to make such a withdrawal. 
[Footnote 39] Among those withdrawing IRA funds, 64 percent took an 
amount based on the IRS annual required minimum distribution. 
Furthermore, an estimated 44 percent withdrew funds for living 
expenses, 19 percent for health care expenses, and 15 percent for home 
expenses. Households with younger workers generally have lower 
balances in DC plans and IRAs, but they also have the opportunity to 
begin tax-qualified savings from an earlier age, have more years to 
save, and have more years to receive a return on their investments. 

Other investments--bank account balances, stocks, bonds, and mutual 
funds held outside of retirement plans--are important sources of 
income for some retirees. An estimated 21 percent of households headed 
by someone aged 55 to 64 held stocks directly, with a median value of 
$24,000, while 14 percent held pooled investment funds, such as mutual 
funds, with a median value of $112,000. Only 2 percent held bonds 
directly, which had a median value of $91,000. About 21 percent of 
these households had one or more certificates of deposit, with a 
median total value of $23,000. Other assets include life insurance and 
savings bonds. An estimated 35 percent of these households had cash 
value life insurance, with a median value of $10,000. 

Retirees typically invest in a mix of equities or funds invested in 
equities and other assets, such as bonds, in order to provide 
investment income and appreciation to fund retirement over a long 
period. Studies of market rates of return indicate that an investor 
could withdraw 4 percent of the amount of a well-managed diversified 
portfolio, adjusting the initial withdrawal amount for inflation. For 
example, one such study found that an investor would have an 11 
percent chance of running out of money at some point over 30 
years.[Footnote 40] However, the chances of running out of money are 
higher if the investor incurs substantial investment losses early in 

To help investors manage funds in retirement, financial firms offer 
retirees a variety of retirement income funds or target-date funds. 
The Vanguard Group, for example, provides pay-out funds targeted to 
pay 3 percent, 5 percent, or 7 percent of the market value of 
investments, depending on whether investors seek to achieve long-term 
growth in their portfolios, to maintain the inflation-adjusted value 
of the original investment, or to maintain the nominal value of the 
investment. However, these funds remain subject to investment risks. 
These Vanguard Group funds, for example, reduced monthly payouts by 
about 16 to 18 percent for 2009 following the decline of financial 
markets in 2008. 

Some retirees choose to hold bonds to provide income during 
retirement. Bonds can provide a steady source of income, but are 
subject to the risk of default. Also, if a bond is not held to 
maturity, the sale price may differ from the purchase amount depending 
on market rates of interest at the time of sale. For example, if the 
market rate of interest is higher than it was at the time of purchase, 
the sale price of the bond will be lower than the purchase amount. The 
amount of interest income available from a bond portfolio may decline 
if newly purchased bonds offer lower rates of interest than bonds that 
mature. Highly-rated corporate bonds currently offer yields that 
exceed 5 percent, but the payments are not adjusted for inflation and 
inflation erodes the value of the principal invested. Inflation-
adjusted bonds, such as TIPS available from the U.S Treasury, offer 
lower interest rates--currently about 2 percent. To boost the level of 
distributions, PIMCO offers mutual funds that distribute interest and 
principal from investments in TIPS on a schedule over 20 or 30 years. 
These PIMCO funds provide dependable sources of income with inflation 
adjustments, but the balance drops to zero when the bonds mature. 

While ERISA Largely Governs the Operation of Pension Plans, a 
Multiplicity of Laws and Regulations Govern the Management of Other 

ERISA continues to provide the basic framework for the regulation of 
private pensions, even as pensions continue to shift from DB to DC 
plans. ERISA and its regulations specify, among other requirements, 
the duties of a plan fiduciary; the type of plan transactions that are 
prohibited; and the required disclosure of plan features to plan 
participants. However, once an individual withdraws his or her funds 
from either a DB or DC plan for retirement, a multiplicity of laws and 
regulations typically take precedence, depending on the investment 
decisions that the individual makes with those funds.[Footnote 41] 

ERISA Largely Governs the Operation of Pension Plans: 

Under ERISA there is a comprehensive regulatory scheme which provides 
certain protections for privately sponsored employee pension benefit 
plans and their participants and beneficiaries. Several federal 
agencies are charged with enforcing these protections. EBSA, within 
the Department of Labor, enforces ERISA Title I requirements, which 
include minimum plan standards for participation; vesting and accrual 
of benefits; and fiduciary responsibility requirements respecting the 
exercise of any discretion, control, or management of the plan or its 
assets. Under Title II of ERISA, which addresses the tax qualified 
status of pension plans, the IRS ensures that these plans maintain 
their qualified status under the Code. The PBGC, under Title IV of 
ERISA, provides plan termination insurance for defined benefit pension 
plans which terminate with insufficient assets to pay promised 
benefits under the plan. 

Individuals who have left the regulated environment of ERISA-covered 
plans and now seek to secure their retirement savings in the 
commercial and retail market face a myriad of decisions and investment 
or insurance products in which to invest their retirement savings. 
While ERISA regulations address the potential for conflicted advice, 
the environment in the retail market is quite different.[Footnote 42] 

Once an individual withdraws his or her funds from either a DB or DC 
plan, a multiplicity of laws and regulations typically takes 
precedence, depending on the investment decisions that the individual 
makes with those funds. In this instance, the individual is no longer 
a plan participant governed by ERISA, but is now essentially a retail 
investor governed by the laws and regulations that are pertinent to 
the particular product or asset in which they choose to invest whether 
or not the funds are in an IRA.[Footnote 43] The different laws, 
regulations, and agencies that may come into play vary depending on 
the type of assets held. 

* Securities--stocks and bonds. To enable investors to make informed 
investment decisions, the Securities and Exchange Commission (SEC) 
requires firms that sell securities to the public to disclose detailed 
information about the securities and the firm, such as information 
about the firm's management, the intended uses for the funds raised 
through the sale of the securities, risks to investors, and financial 
information about the firm. 

* Mutual funds. Mutual funds--a form of open-end investment company 
that raises and pools capital from shareholders and invests it in a 
portfolio of securities--are generally required to register with the 
SEC. The SEC has promulgated regulations that aim to protect public 
investors and prevent fraud. For example, SEC regulations impose 
certain disclosure, recordkeeping and governance requirements on 
mutual funds, such as requiring funds to inform investors of fees and 
the potential risks associated with investing in the fund. Mutual 
funds are typically managed by investment advisers, who are also 
subject to regulation by the SEC. 

* Annuities. Annuities are regulated either (1) exclusively under 
state law or (2) under both state laws and federal law, depending on 
the features of the particular annuity and whether it is marketed as 
an investment. Section 3(a)(8) of the Securities Act of 1933 exempts 
any annuity contract or optional annuity contract issued by a 
corporation that is subject to the supervision of the state insurance 
commissioner, bank commissioner, or similar state regulatory authority 
from the provisions of the Securities Act. The exemption, however, is 
not available to all contracts that are considered annuities under 
state law. For example, while traditional fixed annuities[Footnote 44] 
are exempt, variable annuities[Footnote 45] are generally not exempt, 
as shown in Table 1. Indexed annuities, which offer a return computed 
by reference to an outside index such as the S&P-500 Composite Stock 
Price Index, are hybrid financial products in which the insurer and 
the purchaser share the investment risk to varying degrees. 
Accordingly, indexed annuities may or may not qualify under the 
Section 3(a)(8) exemption and, therefore, may be regulated by state 
law and the federal securities laws, depending on the degree to which 
the insurer is assuming the investment risk vis--vis the purchaser 
and the manner in which the annuity is marketed.[Footnote 46] 
Annuities are generally supervised by state insurance departments, 
which regulate sales and marketing practices and policy terms and 
conditions to ensure that consumers are treated fairly when they 
purchase insurance products and file claims in addition to reserve 
requirements of the insurance companies offering annuities. Because 
variable annuities are subject to federal securities laws, they are 
regulated by the SEC including regulation of disclosure and sales 
practices, while the insurance aspects of the product are regulated by 
the applicable state agency. Indexed annuities are also regulated by 
the SEC, in addition to states. To help guide states in their 
oversight, the National Association of Insurance Commissioners (NAIC) 
has proposed language for "model laws and regulations" for legislators 
to consider or modify for their respective states. Finally, the 
states, through state guarantee associations, have a role in 
protecting annuity owners against insurer insolvency. However, 
coverage for annuities varies from state to state and is not available 
for variable annuities. 

Table 1: Regulators that Oversee Annuities: 

Regulators: State insurance departments; 
Types of Annuities: Fixed annuities: Yes; 
Types of Annuities: Indexed annuities: Yes; 
Types of Annuities: Variable annuities: Yes. 

Regulators: SEC; 
Types of Annuities: Fixed annuities: No; 
Types of Annuities: Indexed annuities: Maybe; 
Types of Annuities: Variable annuities: Yes. 

Regulators: State guarantee associations; 
Types of Annuities: Fixed annuities: Yes; 
Types of Annuities: Indexed annuities: Yes; 
Types of Annuities: Variable annuities: No. 

Source: GAO analysis of federal and state laws. 

[End of table] 

Beyond Employer-Sponsored Plans, Regulation of Investment Advice Is 

While plan sponsors and pension plan trustees of employer-sponsored 
retirement plans are held to a federal standard of care with respect 
to investment advice, so too are investment advisers and brokers who 
offer investment advice outside of such plans and directly to 
retirees.[Footnote 47] While investment advisers are subject to a 
federal fiduciary duty, brokers are subject to a "suitability" 
standard, which is generally considered to be a lower standard of 
responsibility than the fiduciary standard. Investment advisers are 
required to manage their client's portfolio such that investments are 
not just suitable, but are in the best interest of the client. 
[Footnote 48] Any broker[Footnote 49] who provides investment advice 
solely incidental to his or her services as a broker-dealer and does 
not receive any special compensation for such advisory service is 
excluded from the definition of "investment adviser" under the 
Investment Advisers Act of 1940, and hence, not subject to the 
attendant federal fiduciary duty.[Footnote 50] Nevertheless, when 
making investment recommendations to clients, such brokers are 
required to (1) have a reasonable basis for their recommendations and 
(2) make only recommendations that are suitable for the client's 
specific investment objectives, financial situation, and needs. 
[Footnote 51] Broadly stated, the suitability doctrine refers to the 
obligation to recommend to a client only those specific investments 
that are suitable to the investment objectives and peculiar needs of 
that particular client. 

Concluding Observations: 

Given the long-term trends of rising life expectancy and the shift 
from DB to DC plans, aging workers must increasingly focus not just on 
accumulating assets to ensure an adequate retirement income at the 
point of retirement but also on how to manage those assets to have an 
adequate income throughout their retirement. Workers are increasingly 
finding themselves depending on retirement savings vehicles that they 
must self-manage, where they not only must save consistently and 
invest prudently over their working years, but must now continue to 
make comparable decisions throughout their retirement years. These 
decisions may prove difficult for many, as workers are faced with a 
large variety of available investment options, governed by a 
multiplicity of laws, regulations, and agencies. These decisions may 
prove challenging even for the minority of workers with significant 
retirement savings. However, for the majority of workers who approach 
retirement with small account balances--workers with balances of 
$100,000 or less--the stakes are far greater. Although, retirement 
savings may be larger in the future as more workers have opportunities 
to save over longer periods through strategies such as automatic 
enrollment, many will likely continue to face little margin for error. 
Poor or imprudent investment decisions may mean the difference between 
a secure retirement and poverty, which highlights the need for 
improving financial literacy. How we address this issue for the 
already large segment of the population depending on limited 
retirement savings to ensure income adequacy throughout retirement 
continues to be one of the key policy challenges facing the Congress 
and the nation. 

We provided officials from the Department of the Treasury, IRS, 
Department of Labor, and the SEC with a draft of this report. 
Officials from the Department of Labor and SEC provided us with 
informal technical comments that we have incorporated in the report, 
where appropriate. 

We will send copies of this report to the Secretary of the Treasury, 
Commissioner of Internal Revenue, Secretary of Labor, Chairman of the 
SEC, and other interested parties. In addition, this report will be 
available at no charge on GAO's Web site at [hyperlink,]. 

If you or your staff have any questions concerning this report, please 
contact me at (202) 512-7215 or Contact points for 
our offices of Congressional Relations and Public Affairs may be found 
on the last page of this report. GAO staff who made key contributions 
to this report were Michael J. Collins, Assistant Director; Benjamin 
P. Pfeiffer; Bryan G. Rogowski; Patrick S. Dynes; Joseph A. Applebaum; 
Susan C. Bernstein; and Roger J. Thomas. 

Sincerely yours, 

Signed by: 

Charles Jeszeck:
Acting Director, Education, Workforce, and Income Security Issues: 

[End of section] 


[1] Since 1970, life expectancies at age 65 have risen by about 2 
years for women and nearly 4 years for men. 

[2] These life expectancies are based on Social Security cohort life 
tables for people born in 1950. See Felicitie C. Bell and Michael L. 
Miller, Life Tables for the United States Social Security Area 1900- 
2100, Actuarial Study No. 120, SSA Pub. No. 11-11536 (Washington, 
D.C., Social Security Administration, Office of the Chief Actuary, 
August 2005). 

[3] GAO has addressed such concern in earlier reports. See, for 
example, GAO, Private Pensions: Alternative Approaches Could Address 
Retirement Risks Faced by Workers but Pose Trade-offs, [hyperlink,] (Washington, D.C.: July 24, 
2009); GAO, Private Pensions: Low Defined Contribution Plan Savings 
May Pose Challenges to Retirement Security, Especially for Many Low-
Income Workers, [hyperlink,] 
(Washington, D.C.: Nov. 29, 2007); and GAO, Baby Boom Generation: 
Retirement of Baby Boomers is Unlikely to Precipitate Dramatic Decline 
in Market Returns, but Broader Risks Threaten Retirement Security, 
[hyperlink,] (Washington, D.C.: 
July 28, 2006). 

[4] U.S. Department of the Treasury and U.S. Department of Labor, 
Request for Information Regarding Lifetime Income Options for 
Participants and Beneficiaries in Retirement Plans. 70 Fed. Reg. 5253 
(Feb. 2, 2010). The Department of Labor and the Department of the 
Treasury (the "Agencies") are currently reviewing the rules under the 
Employee Retirement Income Security Act (ERISA) and the plan 
qualification rules under the Internal Revenue Code to determine 
whether, and, if so, how the Agencies could or should enhance, by 
regulation or otherwise, the retirement security of participants in 
employer-sponsored retirement plans and in individual retirement 
accounts (IRA) by facilitating access to, and the use of lifetime 
income or other arrangements designed to provide a lifetime stream of 
income after retirement. 

[5] For nearly one-third of such households, Social Security benefits 
are the source of 90 percent or more of income. See Social Security 
Administration, Income of the Aged Chartbook, 2006 (Washington, D.C., 

[6] Social Security benefits for retired workers at full retirement 
age (age 66) in 2010 provide 90 percent of the first $761 of average 
monthly indexed earnings, 32 percent of additional earnings up to 
$4,586, and 15 percent of earnings above $4,586, up to the limit on 
the annual base of covered earnings each year or $106,800 per year 
($8,900 per month) in 2010. See Social Security Administration, Your 
Retirement Benefit: How It is Figured, (Washington, D.C., January 

[7] The median estimate was for 2005. See Andrew G. Biggs and Glenn R. 
Springstead, "Alternate Measures of Replacement Rates for Social 
Security Benefits and Retirement Income," Social Security Bulletin 
(68:2) 2008. 

[8] Those born in 1938 were the first to be affected when they turned 
62 in 2000 and faced a greater reduction for retiring at that age. 

[9] The Social Security Administration estimates that over the next 
several years, trust fund income, excluding trust fund interest, will 
fluctuate above or below trust fund expenses and beginning in 2016, 
expenses will exceed income. 

[10] The Board of Trustees, Federal Old-Age and Survivors Insurance 
and Federal Disability Insurance Trust Funds, The 2009 Annual Report 
of the Board of Trustees of the Federal Old-Age and Survivors 
Insurance and Federal Disability Insurance Trust Funds, House Document 
111-41, (Washington, D.C., May 12, 2009), 2, 9. 

[11] IRAs are retirement savings arrangements which allow workers to 
make tax-deductible and nondeductible contributions to an individual 
account. For workers who meet certain conditions regarding their 
income or who are not otherwise eligible to participate in their 
employer's pension plan, contributions to a regular (traditional) IRA 
receive favorable tax treatment; workers may be eligible to take an 
income tax deduction on some or all of the contributions they make to 
their IRA. Amounts withdrawn from the IRA are fully or partially 
taxable in the year withdrawals are made. If the taxpayer made only 
deductible contributions, withdrawals are fully taxable. Investment 
income on funds in the account is tax deferred until funds are 
withdrawn. Workers below certain income limits may also contribute to 
Roth IRAs, which do not provide an income tax deduction on 
contributions, but permit tax free withdrawals. Individuals may also 
transfer funds to a Roth IRA, but must pay taxes on the amounts 

[12] A DB plan promises to provide a benefit that is generally based 
on an employee's salary and years of service. Typically, DB annuity 
payments are received on a monthly basis by the retired participant 
and continue as long as the recipient lives. DC plan benefits, 
primarily those from 401(k) plans, are based on the contributions and 
investment returns in individual accounts. For each participant, 
typically the plan sponsor may periodically contribute a specific 
dollar amount or percentage of pay into each participant's account. 

[13] Brian K. Bucks, et al., "Changes in U.S. Family Finances from 
2004 to 2007: Evidence from the Survey of Consumer Finances," Federal 
Reserve Bulletin, 95, February 2009, A19, A5. 

[14] During 2010, for example, the maximum guarantee is $42,660 for a 
single-employer pension plan life annuity at age 62 with no survivor 
benefits, and is lower at younger ages and higher at older ages. The 
guarantee is annually adjusted for inflation. 

[15] This includes plans to which the family head or their spouse has 
rights from current or former employment. See Federal Reserve 
Bulletin, February 2009. 

[16] See GAO, Defined Benefit Pensions: Plan Freezes Affect Millions 
of Participants and May Pose Retirement Income Challenges, [hyperlink,] (Washington, D.C.: July 21, 
2008). About 3.3 million active participants in the study population, 
who represent about 21 percent of all active participants in the 
single-employer DB system, were affected by a freeze. 

[17] Department of Labor, EBSA, Private Pension Plan Bulletin 
Historical Tables and Graphs, 2007 Data Release Version 1.2, March 

[18] Target-date funds allocate investments among various asset 
classes with the goal of reducing investment risk as the retirement 
date approaches. These funds differ widely in their allocations among 
asset types before and during retirement. See GAO, Retirement Savings: 
Automatic Enrollment Shows Promise for Some Workers, but Proposals to 
Broaden Retirement Savings for Other Workers Could Face Challenges, 
[hyperlink,] (Washington, D.C.: 
Oct. 23, 2009). 

[19] An annuity is an insurance agreement or contract that comes in a 
number of different forms and can (1) help individuals accumulate 
money for retirement through tax-deferred savings, (2) provide them 
with monthly income that can be guaranteed to last for as long as they 
live, or (3) do both. 

[20] Financial literacy is important for making informed decisions 
about these options. For a discussion of efforts to improve financial 
literacy, see GAO, Financial Literacy and Education Commission: 
Progress Made in Fostering Partnerships, but National Strategy Remains 
Largely Descriptive Rather Than Strategic, [hyperlink,] (Washington, D.C.: Apr. 29, 
2009); GAO, Financial Literacy and Education Commission: Further 
Progress Needed to Ensure an Effective National Strategy, [hyperlink,] (Washington, D.C.: Dec. 4, 
2006); GAO, Increasing Financial Literacy in America, [hyperlink,] (Washington, D.C.: Dec. 11, 
2006); and GAO, Comptroller General's Forum: Highlights of a GAO 
Forum: The Federal Government's Role in Improving Financial Literacy, 
[hyperlink,] (Washington, 
D.C.: Nov. 15, 2004). 

[21] Such annuities provide lifetime benefits calculated based on 
years of service and average annual earnings over a specified number 
of years, typically at the end of a retiree's career. 

[22] In this context, the survey includes a DB plan with a portable 
cash option, which would allow the worker to receive a lump sum in 
lieu of regular payments during retirement. 

[23] This trend has likely been assisted by the growing popularity of 
cash balance pension plans, which are DB plans that express their 
benefit as an account balance. Although cash balance plans are 
required to offer an annuity, most cash balance plans also offer a 
lump-sum benefit. See GAO, Private Pensions, Information on Cash 
Balance Pension Plans, [hyperlink,] (Washington, D.C.: Nov. 3, 

[24] This estimate, from the Survey of Consumer Finances, is only for 
annuities which had investments in stocks. According to the Survey of 
Consumer Finances, for households with someone aged 55 to 64 in 2007, 
the median estimated value of annuities and other managed assets, such 
as trusts and hedge funds, that included investments in stocks was 
$59,000. An estimated 4.5 percent of all households had such annuities 
and 1.7 percent had other managed assets. 

[25] Single premium immediate annuities are usually purchased with a 
lump sum and payments begin immediately or within one year of the 
purchase date. Sales of single premium immediate annuities totaled 
$264 billion in 2008, according to data from Morningstar, Inc. and 
LIMRA, compiled by the Insured Retirement Institute. 

[26] Deferred annuities are retirement savings vehicles that allow 
purchasers to save money for retirement, defer taxes on investment 
income, and have an option to start receiving lifetime income at a 
future date. 

[27] These amounts assume that both husband and wife are age 66 and 
they select an option providing a continuation of payments until both 
die without any term certain or death benefit options. 

[28] Based on statistics provided by the Federal Reserve in "Selected 
Interest Rates" on April 22, 2010, the bond would provide $5,200 
annually. This is for a $100,000, 30-year noncallable "AAA" rated 
corporate bond. 

[29] This reflects the change in the Consumer Price Index for all 
urban consumers (CPI-U) through March 2010, and is equivalent to a 3.4 
percent annual rate of inflation. 

[30] For example, an annuity premium of $100,000 could provide $540 
per month as long as an annuitant (currently aged 66) or spouse 
(currently aged 66) is living. Selecting an option to provide this 
monthly amount to a named beneficiary starting after the annuitant and 
spouse both die and continuing until 20 years after the annuity 
payments began would reduce the monthly amount by $15. If either the 
annuitant or spouse dies after the 20TH year, the beneficiary would 
not receive any payment. 

[31] By comparison, total expenses over 10 years would be about $1,573 
for a $10,000 investment in a mutual fund with expenses of 1.22 
percent per year and an annual (pre-expense) return of 5 percent. 

[32]] For a discussion of this topic, see Jeffrey R. Brown, et al., 
Why Dont the People Insure Late Life Consumption? A Framing Explanation 
of the Under-Annuitization Puzzle, American Economic Review Papers and 
Proceedings (98:2) 2008. 

[33] See GAO, Private Pensions: Participants Need Information on Risks 
They Face in Managing Pension Assets at and During Retirement, 
[hyperlink,] (Washington, D.C.: 
July 29, 2003), and Mark M. Glickman and Gene Kuehneman, Jr., "Retiree 
Pension Payout Decisions--Evidence from the Health and Retirement 
Study, 1992-2002," presented at the 2006 Annual Meeting of the Allied 
Social Science Associations. 

[34] Jeffrey R. Brown, et al., Who Values the Social Security Annuity? 
New Evidence on the Annuity Puzzle, National Bureau of Economic 
Research Working Paper, December 2007. 

[35] Under Social Security, retiree benefits are reduced for retirees 
who start drawing benefits before their full retirement age and 
increased for those who delay the start of benefits up to age 70. 
Another option for retirees who have assets and have begun receiving 
Social Security benefits is to repay benefits received and have Social 
Security recalculate their benefit as of a later start date. 

[36] These estimates are based on average awards to retired workers 
age 62 in 2008. For example, a retiree who lives until nearly age 82 
(the average male life expectancy at age 62) would receive $233,724 if 
starting benefits at age 62 and $248,772 at age 66. Delaying receipt 
of Social Security benefits as a strategy to increase monthly benefit 
amounts may not be advisable if the retiree does not expect to live 
long or if he or she will not need the higher benefits and their risk- 
adjusted rate of return is high enough to warrant early receipt of 
reduced benefits. In some cases, higher Social Security benefits may 
cause retirees to have higher effective income tax rates. 

[37] For these reasons, some insurance providers and financial 
advisors recommend that retirees use a portion, not all, of their 
savings to purchase lifetime income. Insurers now offer variable 
annuity purchasers the option to invest their savings with death 
benefits, or a guaranteed minimum level of lifetime income or 

[38] Investment Company Institute, Defined Contribution Plan 
Distribution Choices at Retirement: A Survey of Employees Retiring 
Between 2002 and 2007, Investment Company Institute Research Series 
(Washington, D.C., Fall 2008). Nine percent of respondents indicated 
they had multiple dispositions which may have included some of the 
other categories but were not included in the totals reported. 

[39] This excludes households that had withdrawn funds in tax year 
2008. The IRS generally requires account holders to begin taking 
minimum withdrawals from IRAs and qualified DC plans beginning in the 
year they reach age 70 . The Worker, Retiree, and Employer Recovery 
Act of 2008 waived this requirement for 2009. 

[40] This analysis by T. Rowe Price assumes inflation will be 3 
percent each year and that the retiree maintains 40 percent of the 
portfolio in stocks and 60 percent in bonds throughout retirement. The 
estimated chance of running out of money over 35 years is 23 percent. 

[41] Public plans are generally governed by the applicable state laws 
or for federal employees by other federal statutes. State and local 
employee DB retirement plans are generally protected by state and 
local laws and overseen by boards of trustees. Meanwhile, the DB 
retirement plans for federal employees are also protected by federal 
laws and regulations, but administered by the Office of Personnel 
Management. U.S.C.  831 and  841-846. Also see GAO, State and Local 
Government Retiree Benefits: Current Status of Benefit Structures, 
Protections, and Fiscal Outlook for Funding Future Costs, [hyperlink,] (Washington, D.C.: Sept. 24, 
2007). Nontax-qualified pension plans are governed by other laws, 
including the American Jobs Creation Act of 2004. 

[42] On March 2, 2010, the Department of Labor proposed a new rule 
relating to the provision of investment advice to participants and 
beneficiaries in individual account plans. The new rule would 
implement provisions of a statutory-prohibited transaction exemption, 
and would replace guidance contained in a final rule, published in the 
Federal Register on January 21, 2009, that was withdrawn by the 
Department by a Notice published in the Federal Register on November 
20, 2009. See "Investment Advice Participants and Beneficiaries," 
Proposed Rule 75 Fed. Reg. 9360 (2010). Prohibited transaction rules 
for investment advice apply to both employer plans and IRAs. However, 
ERISA fiduciary standards do not apply to IRAs. 

[43] Some IRAs, including those in Savings Incentive Match Plan for 
Employees of Small Employers (SIMPLE), are DC plans subject to various 
ERISA rules for plan sponsors. IRS and Labor share oversight 
responsibilities for all types of IRAs, but gaps exist within Labor's 
area of responsibility. IRS has responsibility for tax rules governing 
how to establish and maintain IRAs, while Labor has sole 
responsibility for oversight of fiduciary standards for employer-
sponsored IRAs, and has issued guidance to employers related to 
payroll-deduction IRAs regarding when such an arrangement would be a 
pension plan subject to Labor's jurisdiction. 29 C.F.R.  2510.3-2(d) 
and 29 C.F.R.  2509.99-1. Labor does not have jurisdiction to oversee 
payroll-deduction IRA programs that are operated within the conditions 
of their guidance. See GAO, Individual Retirement Accounts: Government 
Actions Could Encourage More Employers to Offer IRAs to Employees, 
[hyperlink,] (Washington, D.C.: 
June 4, 2008). 

[44] A traditional fixed annuity is a contract issued by a life 
insurance company, under which the purchaser makes a series of premium 
payments to the insurer in exchange for a series of fixed periodic 
payments from the insurer to the purchaser at agreed upon later dates. 

[45] A variable annuity is a financial product under which purchasers 
pay premiums that are invested in securities, typically mutual funds 
and the benefit payments vary with the value of the investments. The 
purchaser of this product generally assumes all the investment risk 
because the insurer's obligation to the purchaser is only to pay him a 
proportionate share of the present value of the investment portfolio. 
The Supreme Court has held that a variable annuity does not fall 
within Section 3(a)(8) because it places all of the investment risks 
on the purchaser, and none on the company. SEC v. Variable Annuity 
Life Ins. Co., 359 U.S. 65 (1959), quoted in, American Equity 
Investment Life Ins. Co. v. SEC, 572 F.3d 923, 926 (D.C. Cir. 2009). 

[46] In January 2009, the SEC issued new rule 151A, which is intended 
to clarify the status under the federal securities laws of indexed 
annuities and to provide the protections of the federal securities 
laws to investors in indexed annuities that impose significant 
investment risks. Following adoption of rule 151A, petitions were 
filed in the U.S. Court of Appeals for the District of Columbia 
Circuit for review of the rule. On July 21, 2009, the Court held that 
the Commission's interpretation of "annuity contract" was reasonable 
and denied the petitions with respect to that issue. However, the 
Court granted the petitions with respect to the petitioners' alternate 
ground that the Commission failed to properly consider the effect of 
the rule on efficiency, competition, and capital formation and 
accordingly remanded the rule for reconsideration. The remedy remains 
under consideration by the Court. 

[47] Pension plan consultants who do not exercise discretion or 
control over pension plan assets and who are registered investment 
advisers are subject to the fiduciary duty imposed under the 
Investment Advisers Act of 1940. 

[48] The anti-fraud provision of the Investment Advisers Act of 1940 
has been construed by the U.S. Supreme Court as imposing on investment 
advisers a fiduciary obligation to act in the best interests of their 
clients. See SEC v. Capital Gains Bureau, 375 U.S. 180 (1963). A 
number of obligations flow from this fiduciary duty, including the 
duty to fully disclose any conflicts the adviser has with his clients. 

[49] The term "broker" or "stockbroker," as defined by the Securities 
Exchange Act of 1934 refers to "any person engaged in the business of 
effecting transactions in securities for the account of others, but 
does not include a bank." 

[50] A broker who is not subject to the Advisers Act may nonetheless 
be subject to a fiduciary duty under state law. 

[51] The suitability standard is based on the principle that a broker 
who makes a recommendation is viewed as making an implied 
representation that he or she has adequate information on the security 
in question for forming the basis of his opinion. 

[End of section] 

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