The Municipal Markets

What’s Driving The 457(b) Boom?

Guaranteed pension plans don’t have the appeal they once did

by Fred Makonnen

Mr. Makonnen is Head of Group Retirement Sales & Distribution at Equitable, where he oversees its 401(k), 403(b) and 457(b) businesses. Visit www.equitable.com.

Assets held in 457(b) tax-advantaged retirement plans in the U.S. market are currently valued at over $430 billion, and emerging market forces could drive that figure even higher.

To capitalize on these new developments—and avoid the pitfalls that come with them—financial professionals need to fully understand what’s driving them, and how they will impact the 457(b) market.
Here are four major trends in the 457(b) landscape that financial professionals should closely follow—and how to navigate them.

A Tighter Labor Market For Municipal Employers

State and local government employees are retiring sooner than expected—and municipalities are struggling to recruit enough new hires to replace them. As a result, some local pension plans have a greater number of retirees pulling out funds than younger workers making retirement contributions. This has left municipalities scrambling to cover unfunded liabilities, which are imposing—state and local pension funds are staring down an estimated $1.5 trillion funding shortfall—the gap between the money they hold and the value of the future benefits they have promised to pay.

Some municipalities are taking a page from the private sector—namely, by recognizing that guaranteed pension plans don’t have the same draw that they used to, as many workers are concerned that their benefits won’t be there in retirement. To get an edge in the war for talent and to mitigate escalating pension funding liabilities, states and local municipalities have adopted a hybrid DB/DC retirement model along with offering supplemental 457(b) plans to enhance their overall worksite benefits to their employees.

Rising Adoption Of Auto-Escalation And Auto-Enrollment

Unlike the private sector, state and local municipalities have been slower to adopt retirement plan features like auto-enrollment—which requires employees to opt out of elective deferrals rather than opt in—and auto-escalation, an automatic contribution escalation that increases the percentage of an employee’s salary contributed to a retirement account. This can be attributed to a variety of factors: collective bargaining rules with public-sector unions can sometimes stymie the adoption of such features, while some jurisdictions with anti-wage garnishment laws, may consider auto-escalation as a violation of existing statutes.

Whatever the case, the looming specter of pension shortfalls has spurred plan providers and municipal employers to search for ways to bridge the funding gap—and the above-named features promise to do just that. One recent study from the National Bureau of Economic Research, for example, found that auto-enrollment increased participation by “an order of magnitude larger” than other plan selection alternatives. It’s part of the reason that private employer-sponsored 401(k)s have a 83% participation rate, whereas those in the public sector have closer to a 43% participation rate, according to the National Association of Government Defined Contribution Administrators, Inc. (NAGDCA).

To reap those benefits, and support employees in reaching their retirement goals, local and state government are beginning to implement these features, and in some instances even resorting to state mandates to accelerate adoption.

Modernization Of Workplace Technology

Facing tight budgets and lengthy procurement times, many municipalities have let technology infrastructure overhauls languish on the backburner. But some local governments are realizing that they’ll have to update their outdated devices and internal systems to attract younger workers, who are accustomed to communicating and receiving information differently.

Municipalities aren’t going to modernize overnight—but some are taking steps in the right direction. For example, some are partnering with plan providers that offer mobile apps, which integrate into their existing payroll systems. These apps allow employees to access plan information and enroll in 457(b) plans swiftly, as well as change their contributions on the fly—all from the palm of their hand.

Downward Pressure On Fees

Much like their distant 401(k) cousins, 457(b) plan fees, particularly at the large end of the market (greater than $50M) have experienced fee compression, which has created a barrier to entry for newcomers looking to enter the market. However, in the mid, to lower end of the market ($50M and less), the value of advice is still considered a premium and financial professionals who offer personalized consultation can demonstrate their value beyond the 3 F’s, fees, funds and fiduciary.

Budget and labor pressures on local and state governments mean that the need for 457(b) plans—and the financial professionals that service them—is greater than ever. ..

State governments have a significant incentive to generate positive retirement outcomes for their employees, and a financial professional with experience in wealth management and retirement planning can help deliver those outcomes. Take 403(b) plans in the K-12 educator space, for example: Equitable research showed that plan participants who work with a financial professional had a higher median account balance than those who did not and believe that doing so helps them make better investment decisions. This same model can be applied to workers in municipal and local governments as well.

Navigating These Trends And Their Impact

Demand for 457(b)s isn’t going anywhere. But despite the size of this market, it’s also chronically underserved: there are very few players in the space, and relatively few financial professionals servicing participants in 457(b) plans. Budget and labor pressures on local and state governments mean that the need for 457(b) plans—and the financial professionals that service them—is greater than ever.

Since the 457(b) market isn’t saturated with competition, financial professionals can benefit from jumping into the fray sooner rather than later. Financial professionals bring a lot to the 457(b) market—their background in personalized customization of holistic financial plans means they can help participants make well-informed retirement decisions.

Financial professionals looking to break into the 457(b) space should be aware of several key challenges, such as:

  • Awareness of 457(b) plans may be lower at the local level: While state-sponsored 457(b) plans are well-known among state workers, employees of local townships, cities and counties may not be as familiar with them. These municipalities may lack the capabilities or resources to communicate with employees about 457(b) plans on a consistent basis. Financial professionals will have to reach out and educate employees on the benefits of contributing to these plans.
  • Municipalities often rely on Request for Proposals (RFPs) to select 457(b) plan providers: Many financial professionals have not been exposed to the formal RFP process, in which they make competitive bids against other plan providers. Some can find this process intimidating or overwhelming, as they have to compete on the pricing of services and navigate hurdles that are largely absent in other transactions. But the reality is this: the RFP is just an additional layer of client engagement, and many recordkeepers have the resources in place to support financial professionals through the selling process.

Some of the trepidation that financial professionals often have about embracing 457(b) plans stems from the concern that they’ll need to learn a new skillset or understand a completely different client profile. But that’s not always the case. The same skills and experience that allows them to navigate other defined contribution clients can be applied here as well, with just some additional knowledge of the specific provisions governing each 457(b) plan.

What Lies Ahead For The 457(b) Landscape

Ultimately, the 457(b) market appears likely to grow as competitors begin to seize opportunities in the space.
Financial professionals should consider participating if they aren’t already. And for those who are already working alongside providers and employers in this burgeoning market, having a firm grip on these trends will likely help them help their clients and fend off competition from other financial professionals.

 

 

Equitable is the brand name of Equitable Holdings, Inc. and its family of companies, including Equitable Financial Life Insurance Company (NY, NY) and Equitable Financial Life Insurance Company of America, an Arizona stock company with an administrative office located in Charlotte, NC, issuers of life insurance and annuities, and Equitable Distributors, LLC.  Equitable Holdings, Inc. and its subsidiaries do not endorse, approve, or make any representations as to the accuracy, completeness, or appropriateness of any part of any content hyperlinked to from this article.  This educational article does not offer or constitute – and should not be relied upon as — financial, investment, tax, or legal advice. Please consult your own financial, legal, and tax professionals accordingly.  GE- 6487144.1(03/24)(exp.03/26)

Leave a Reply

Your email address will not be published. Required fields are marked *