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COLAs Vanishing from Pension Plans

Monday, October 1, 2012
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Cost-of-living allowances, or COLAs, while never a prevalent feature of private-sector pension plans, have declined sharply since the 1990s, according to new research.

While public-sector plans commonly have COLAs as a permanent feature, only 10 percent of private-sector plans, "a significant minority," have a permanent COLA feature, says Alan Glickstein, senior retirement consultant at Towers Watson in Dallas.

An annual Towers Watson survey has found that plans have consistently reported a 10-percent prevalence rate for permanent COLAs written into defined-benefit-plan documents.

As more and more of retirement saving is directed to 401(k) plans, the prevalence of COLAs will shrink even further. Even as companies begin to offer retiring workers who have accumulated 401(k) balances the option of taking installments over 10 years instead of a lump sum, "the type of annuity products available in defined-benefit plans don't exist in 401(k) plans," says Glickstein.

Plan sponsors have "an increasing interest" in the range of benefits offered employees invested in the defined contribution plans when they retire, Glickstein says. "We will see more annuities in those plans, plus annuity options with a built-in escalator," to provide retirees some protection against the rising cost of living over their retirement years. Since retirees are likely to pay for COLA protection in defined contribution plans with annuity options, "it seems less likely that any annuity from an employer-provided plan would adjust to inflation at a cost to the company."

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One emerging option, he says, is to buy an annuity starting at age 85 to protect the retiree's income against longevity risks. [This] would be significantly less expensive that an annuity beginning at 65.

"Retirements are going to last [a lot] longer than you think" because of improving life spans, he says. "It's in everyone's interest to see that people do not run out of money."

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