The DB dinosaurs are back, and they are good dinosaurs. International Business Machines IBM announced it is halting all their 401(k) matches to fund a defined benefit plan for its employees.
International Business Machines, IBM, will, starting January 1, 2024 reports 401(k) Specialist and Justin Mitchell at Fund Fire, provide a defined benefit plan that will save for an employee’s retirement automatically, with no contribution required from the employee. The result will be a stable and predictable benefit that professionally invests every retirement saving dollar to maximize risk-adjusted rates of return.
There is no reason smallish firms will not start to sponsor them, many do, like dentist offices, because the permitted tax-qualified contributions are larger in DB than DC.
Why DBs Should Live
DB plans had been given up for dead. And where they lived — in the public sector — they have been relentlessly attacked by pundits and academics . Now DBs are on the cutting edge because DB plans are better for workers than DC plans.
IBM had been the poster child for pension retrenchment. In a high profile move 15 years ago IBM froze their DB plans and eventually shifted to DC. Since IBM is big, smart, and high tech, freezing DBs helped cause a cascade of de-risking and dumping. Even the UAW gave up their pensions in favor of the inferior 401(k) that shifts the risk of mistakes on to the employees. (In 401(k)-type plan workers figure out how much to accumulate, where to invest, and how much decumulate for the rest of their lives.)
But IBM has declared the 401(k) as a primary plan a failure and other companies should too. $01(k)s are for little extras — if workers want more savings they can always go to the IRA and 401(k).
Technically IBM is setting up a type of DB plans. Cash balance plans are often called hybrid because like a defined benefit plan participants get an annuity based the earnings of a collective pool managed by professionals. Early withdrawals are not permitted. In a Cash Balance plan the employer has some wiggle room on how much to invest each year.
Why 401(k)s Should Take A Back Seat
The flaws of the 401(k) – type plans have been well known. DC plans are not good designs for the world we live in and the humans we have. That the US relies so heavily on 401(k)s is the main reasons the Mercer/CFA
CFA
Institute Global Pension Index flunks the U.S. model for providing enough accumulation, stable investment, and reliable lifetime benefits.
401(k)s fail because they are individually – directed and the choices are high-priced, inefficient retail funds. No wonder DB plans earn a higher-risk adjusted rate of return than DC plans year after year. And spending down a lump sum is often hard for an individual to do. On one extreme the elderly cling to their lumps, live well – below their means, and leave accidental inheritances. One the other end lumps are used as a pile of cash to buy durables and luxuries, like the red truck syndrome — a termed coined when newly retired workers with lumps but something they have always wanted – a shiny new truck.
We will not know until another big firm does it whether we are seeing a hopeful resurgence of the DB dinosaur, Maybe Evolution does not move in one direction, and it isn’t always progress. The obituary for the DB plan — note the 2021 article “Are Defined Benefit Plans Dead? — is premature. The failure of the Do-It-Yourself IRA and 401(k) system, which garnered failing grades for the American system for years — will help bold reform along even if it is piecemeal.
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