Bridging the gap between the DB and DC universes
The traditional retirement system, with defined contribution (DC) and defined benefit (DB) plans, is outdated and ineffective. Hybrid approaches combine features of both models for better outcomes.
The retirement landscape is stuck in the past. The world is evolving rapidly, yet the industry hasn’t substantially moved on from the two types of programs developed decades ago: defined contribution (DC) and defined benefit (DB). Neither DB nor DC programs are effective for Americans. We need a solution that bridges the gap, combining the best of both worlds (i.e., predictable costs, flexibility and lifetime income) to help employers and employees.
Developed with the baby boomer and earlier generations in mind, DB pension plans offer a stable, collective approach to retirement saving and lifetime income. As society shifted in the 1980s and 1990s, with Gen X valuing independence and individuality, DC programs (mainly 401(k)s) replaced most pension offerings in corporate America - promising companies stable and predictable retirement costs.
Unfortunately, these one-size-fits-all solutions do not work for the Millennial generation or Gen Z, nor do they work as well as intended for Gen X.
"The problem is that neither model really works going forward, and frankly, it's debatable whether they ever actually did," Idan Shlesinger, Retirement Solutions Practice Leader at October Three, told Broadcast Retirement News. "So as a result, we're seeing this growing retirement challenge around the world and a desire for employers and workers to come up with something better."
The U.S. is not the only country with an aging workforce struggling to retire, so seeing how other nations address these issues makes sense.
"There's a recognition around the world that the DB and DC worlds are too extreme," Shlesinger said. "And there are very interesting attempts to bring features of one into the other and vice versa."
For example, there is growing interest in and experimentation with collective DC pension plans in the U.K. These unique programs maintain the DC structure but with some DB-like features — such as assets invested collectively for all members and lifetime income payouts. Across the pond in Canada, target benefit plans are growing in popularity. These plans look and feel like DB programs but with fixed contributions. Trustees can adjust future and accrued benefits based on experience to make that work.
"In the U.S., we should consider breaking out of the strict either/or mentality that we've had for too long, this notion that either you have a traditional DB plan or a 401(k)," he said. "These days, the 401(k) is the default vehicle. It's nearly reflexive. We need to get back to thinking about objectives; what is the retirement plan actually for? Then, recognize that we have multiple tools with different strengths and capabilities. The key is recognizing that these don't have to be binary either/or decisions because not everyone's the same. We can create hybrid plan designs."
The industry must shift its mindset. Retirement programs don't need to be purely DB or DC. Plan sponsors can build better programs for themselves and their employees. Start by focusing on your company's goals, then introduce flexibility and control so people can customize based on their needs. Ultimately, a retirement program should provide efficient retirement savings and income while driving engagement, helping employers attract and retain excellent employees who can retire comfortably and protect employers from financial risks. This would be a win for all and the best of both worlds.